Avoiding a Problem? RAND Sees a Tax Crisis

The think tank's "over the horizon" forecast pictures corporate tax avoidance strapping a federal government that will increasingly need revenue as America ages.

The ability of corporate America to avoid income taxes is brewing as “corporate America’s next big scandal,” according to the RAND Corp. think tank.

In an intriguing study titled “Issues over the Horizon,” RAND examined 11 areas — from reproductive science to failed voting machines to defense-spending reallocation — that it sees as likely crises in the future. But one of the most urgent problems related to a corporate tax issue that RAND says could pose a threat to the U.S. economy.

Specifically, the study noted a dramatic decline in corporate taxes as a percentage of total federal tax revenues during the last 50 years — despite the company-led chorus singing about how much higher U.S. corporate income taxes are, compared to taxes in other nations.

“Corporations routinely engage in extensive tax planning and elaborate schemes to minimize their tax burdens,” write RAND social scientist Michael Greenberg and civil-justice expert Robert Reville. They note in particular such tactics as offshore tax sheltering, stock option write-offs, and synthetic leases to take advantage of loopholes and fuzzy areas in the tax laws.

But sometimes, such schemes that start with capitalizing on the law end up breaking it. RAND points to the 2006 incident in which when accounting firm KPMG marketed tax shelters to wealthy clients as an example of what might lie ahead. Many other frauds that have thus far gone undetected may be at work.

According to the Internal Revenue Service, in 2001 the corporate “tax gap” — the difference between what companies pay compared to what they are legally obligated to pay — reached $32 billion. Moreover, despite rising profits corporate income taxes represented just 9.6 percent of federal tax revenues between 2000 and 2009, according to RAND. From 1950 to 1959, by comparison, they represented 27.5 percent. One reason that the Government Accountability Office sees for this shrinkage is that the IRS only reviews 1 percent of corporate tax returns every year.

Greenberg and Reville argue that, while a serious problem now, such corporate tax avoidance could become calamitous for a U.S. besieged by an aging population, and rising costs of Social Security and Medicare creating represent “tropical instability”, they say, by cash-strapping the government.

“The ‘warm water’ of corporate tax avoidance strategies together could create the conditions for a perfect storm,” write the researchers at RAND — an organization long known for its government defense work, but which has diversified its interests substantially in the past 20 years.

One way to prepare for that brewing storm could be to make fuzzy tax avoidance practices clearly illegal. Another, the authors suggest, would be to take after the British system of scrutinizing corporate board audit committees and making the payment of corporate income taxes a part of social responsibility programs.

An alternative solution — which companies would likely find favorable — would be to lower corporate income taxes in hopes of broadening the tax base. Robert Carroll, of the Tax Foundation, claims that the tax cuts implemented by President George W. Bush in 2001 and 2003 “induced taxpayers to report more taxable income.” He finds that the broader base offset between 25 percent and 40 percent of the lost revenues from cutting the top two tax rates.

However, companies tend to be cleverer than individuals, and might be less likely to see a lower tax rate as an incentive to pay more. In fact, as Carroll notes, one reason for the apparent eagerness of individuals to pay their taxes was probably due to companies wisely shifting from the corporate tax base to the more “advantageous” individual rate.

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