Eakinomics: Much Ado About Nothing
As Ronald Reagan used to say, “There they go.” Every year the Institute for Taxes and Economic Policy (ITEP) publishes a report entitled “55 Companies Paid $ 0 in Federal Taxes on Profits in 2020” (the year and number of companies obviously vary). It starts with “At least 55 of the largest companies in America paid no corporation tax in their last fiscal year despite making significant pre-tax profits in the US.”
The Washington Post and New York Times publish articles with this report every year. This year, these articles appear alongside calls for corporate tax increases to pay for the “infrastructure” known as the American Jobs Plan.
And every year the impression is given that the American company is a principleless scam and / or that the Tax Cut and Jobs Act was a giveaway bought by corporate lobbyists. None of this stands up to serious scrutiny.
The ITEP report is not based on tax returns. Instead, it tries to analyze filings from the US Securities and Exchange Commission and pretend they are collecting their taxes. This is a difficult thing to do because financial reports conform to generally accepted accounting principles (GAAP) set by the Financial Accounting Standards Board. GAAP or “book” income differs significantly from taxable income from returns. There are two big reasons (and tons of small ones).
First, the timing differs in important ways. The financial statements of companies are shown on an accrual basis, with tax returns based on fixed payment flows. In addition, companies have some flexibility in setting their own fiscal years – the Internal Revenue Service has a stricter tax payment schedule. These distinctions are mostly about timing. Accrual accounting is based on present values that contain a fair value. Financial reports may not cover the same time period as a tax return.
In addition, the tax code allows companies to offset income by carrying losses forward (or backwards) for several years. This provision makes sense in practice for a number of reasons, but it lends itself to criticism. A company can be profitable in any given year, but only after years of losses. After the great recession, this scenario was common for many companies. Taking a snapshot of the company in its only year of profitability is a necessarily skewed view, but one that has been highlighted by some tax critics.
Second, there is a huge difference in the treatment of investments. GAAP accounting allows companies to withdraw or deduct only a portion of a given capital investment (as opposed to labor costs, which are fully deductible except for some executive compensation restrictions), but federal tax laws allow companies to withdraw a greater proportion of their capital investment for tax purposes than what is permitted under GAAP.
If all else is equal, the reported profit for a company making an investment is greater than tax under GAAP. Some critics take advantage of this distinction and suggest companies that spend investing engage in tax avoidance where they simply obey the law.
Finally, there are a number of conscious policy choices to subsidize activities through corporate tax law, particularly the research and experimentation tax credit and the clean energy tax credit. The political merits of these issues could be discussed, but I don’t think that’s what people have in mind when they think of tax fraud.
So this is the deal. You can believe the people who use the wrong data to guarantee a misleading answer and turn it into a PR push every year. Or not.