One reason for the huge income gap between the rich and the poor in the U.S. is that we don't tax corporate income properly. We have a corporate income tax, but to the corporation, it is just another business expense. Instead of hitting wealthy stockholders, it gets passed on to everyone else - mostly, corporate customers. In effect, we are taxing ourselves rather than the corporation. A May 2013 GAO report put it this way (page 9):
Here are the corporate income tax rates for 2014 (source):
Of course, corporations don't really pay taxes at the 35% rate. The average effective rate is only 12.6%. (source: May 2013 GAO report, page 14)
Corporate stockholders do pay income tax on dividends and capital gains, but at a reduced rate. From 2005 through 2012, the top rate was 15%. That is why Mitt Romney paid a 14 percent rate in 2010 on nearly $22 million in income. (source)
Starting with the 2013 tax year, the rate went up to 20% for singles earning over $400,000 and couples earnings over $450,000.
(Note in the above table that for low income taxpayers, there's no tax at all on dividends. Also exempt are distributions from a mutual fund that is not subject to income tax. (source) This table seems to indicate that over all, tax-exempt dividends cost the U.S. Treasury about $50 billion a year.)
In addition to the rate increase, a 3.8% investment income tax was applied to singles earning over $200k and couples earning over $250k (source), bringing the total for those with higher incomes to 23.8% - still less than the tax on ordinary income (below):
The solution would be to eliminate the corporate income tax - which, in effect, is a tax on ourselves - and start taxing dividends and capital gains at the same rate as ordinary income (wages, etc.) After all, one of the justifications for the lower tax rate on dividends and capital gains was that the income is being taxed twice, once with the corporate income tax and again on dividends and capital gains.
But we can't stop there, because only a portion of corporate income is distributed as dividends. At the site of the Federal Reserve Bank of St. Louis, I found total annual before-tax corporate profit for 2014 estimated from earnings for the first quarter. The total: $2,365.8 billion. On the same site, I found estimated undistributed corporate profits: $1,045.1 billion.
Although corporate profits belong to the stockholders, corporations are not required to distribute those profits as dividends. They may choose to use them to purchase new machinery, spend on research and development, etc. When profits are "retained" - not distributed - the stockholders avoid paying taxes on that income. An attempt was made to deal with this issue during the Roosevelt administration. This is from Wikipedia:
Currently, there is an "accumulated earnings tax" which increased from 15% to 20% for the 2013 tax year. It is applied to the amount retained that is "deemed to exceed the corporation's ordinary and reasonable business needs." (source)
Rather than an undistributed profit tax or an accumulated earnings tax, I would require immediate distribution of all profits so they can be taxed as individual income. Stockholders should not be given the option of not taking their income as dividends any more than wage earners should be allowed to delay paying taxes on wages. All corporate earnings should be distributed as dividends, and those distributions should occur at least quarterly. As for the problem of raising capital for investment, the corporation can borrow it.
Corporations should also be required to withhold taxes from dividends, just as taxes are withheld from wages. They already do so for dividends paid to foreigners:
Note that the amount withheld from these payments to foreigners is 30%. Using a estimated rate of 30% to calculate the tax on the $2,365.8 billion total corporate profit for 2014, I get $709.74 billion. Total distributed corporate profit (dividends) for 2014 is $2,365.8 - $920.5 = $1,445.3 billion. At the current top rate of 20%, that will generate $264.1 billion in taxes. Add that to the $332.7 billion in corporate taxes estimated for 2014 (source) and we get $596.8 billion. So my scheme will generate $112.9 billion more than the current system. And keep in mind that most of that $332.7 in corporate taxes actually comes out of our pockets; the lost revenue will be offset in part by a reduction in prices for corporate goods and services.
If we eliminate the corporate income tax, require all corporate profits to be distributed, and tax dividends at the same rate as ordinary income, here are some of the benefits:
For the other side's view on this subject, see the article The United Statesí High Tax Burden on Personal Dividend Income on the site of the Tax Foundation.
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