The Global Race to the Bottom in Corporate Taxes

The U.S. tax rate is simultaneously low and high.

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'You can no longer tax corporations the way you used to because corporations will in fact move,' says one expert.

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The battle for tax reform is heating up, with companies and lawmakers alike staking out positions on what constitutes a fair tax code.

The U.S. has the highest combined corporate tax rate of all OECD nations, at 39.1 percent, but it wasn't always this way. That rate, which consists of the federal rate of 35 percent combined with average state rates, is in fact low by historical standards. Throughout much of the 1950s and 1960s, the top federal tax rate for U.S. corporations was over 50 percent, placing America in the middle of the pack among OECD countries. It was only in the 1980s that the rate came down to the mid-30s range that corporations enjoy today.

Still, though the U.S. has pulled its rate down, competition has helped push foreign tax rates down farther and faster than the U.S. rate, leaving the United States alone at the top. Below is a chart of the U.S. combined tax rate compared to select OECD countries, with the U.S. line highlighted in red.

Corporate tax rates of economically-developed countries. (Tax Foundation/OECD)

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In recent decades, countries have engaged in an ongoing competition for lower tax rates. Finland, for example, has posted one of the largest recent declines of all OECD countries, gradually bringing its rate down by 37 percentage points from the early 1980s to 2012, from nearly 62 percent to 24.5 percent. Some countries have seen even sharper declines: Poland's tax rate fell by over 20 points from 1996 to 2004, from 40 to 19. Ireland has the lowest corporate tax rate in the OECD, at 12.5 percent, a steep drop from the 50 percent rate it had in the 1980s.

"The standard wisdom is corporations can invest wherever they like, they can incorporate wherever they like," says Dan Shaviro, a professor of taxation at New York University's law school, who worked on the 1986 Tax Reform Act. Because of corporations' growing ability to set up parts of their operations around the world, he explains, "you would expect the corporate rate to be competed down, and that has indeed happened over time."

That competition has intensified, says one expert, because globalization has made corporations quicker to move toward more comfortable tax rates.

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"You can no longer tax corporations the way you used to because corporations will in fact move," says Kyle Pomerleau, economist at theTax Foundation, a conservative think tank. "In the '50s, America was the best place to do business in the world. We could charge corporations high rates because they wouldn't move or couldn't move."

Then again, not all U.S. corporations are paying nearly 40 percent of their income to the government, as they can take advantage of many offsets and credits. A Government Accountability Office report released earlier this year found that profitable, large U.S. corporations paid an effective federal tax rate of 12.6 percent in 2010. When foreign, state, and local taxes were taken into account, the rate jumped only to 16.9 percent of their total global income.

"Many jurisdictions out there do not have the politicized tax code that we do. ... Our tax code has been used over many, many years to drive political agendas and hand out tax deductions to industry sectors," says Stephen Chipman, CEO of Grant Thornton, a tax advisory firm with hundreds of corporate clients. Because of the byzantine rules, he says, some of his firm's foreign clients are "horrified by complexity and cost of filing their taxes in the U.S."

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Altogether, the seven largest corporate tax expenditures – tax breaks that include things like deductions, deferrals, and credits – cost the government $155 billion in revenue in 2011, according to a May GAO report.

The question of corporate taxes came to a head in May, when Apple gained attention for what some Senators believed was the use of Ireland as a tax haven. . According to the New York Times, Apple paid an effective tax rate of 14 percent from 2007 to 2012. Speaking at a congressional hearing on the topic, CEO Tim Cook defended the company, saying that it pays all of the taxes it owes and doesn't "depend on tax gimmicks."