nonprofit group Citizens for Tax Justice (CTJ) recently blasted
U.S. corporations for increasing their "tax avoidance" behavior
during the presidency of George W. Bush. The CTJ report "Corporate
Income Taxes in the Bush Years" examines the annual
financial reports of a group of large U.S. corporations and
purports to show how little these companies paid in taxes from 2001
to 2003. But the report fails to disclose that corporations' tax
return data are not publicly available, a fact that makes CTJ's
analysis imprecise at best. Because of this shortcoming and other
errors, CTJ's conclusion that "loophole seeking-corporations"
aren't paying their fair share of taxes falls flat.
Corporations' annual reports can only be used to derive crude
estimates of corporate taxable income and taxes paid. The CTJ paper
appears to have accounted for some differences between
financial reporting rules and tax filing rules, but the paper's
discussion of methodology does not provide an adequate explanation
of these adjustments. Regardless, it is impossible to account for
all of these differences without access to private information.
also omits other vital details that seriously weaken its
conclusions. For example, the paper fails to name any recent tax
legislation despite its accusation that Congress and the
administration are tweaking tax policy for corporate gain. The
following list summarizes the report's major omissions and
Companies use financial accounting rules to derive the figures in
their annual reports. But tax law and financial accounting rules
differ significantly, creating legitimate differences between
values reported on financial statements and those reported on tax
returns. These discrepancies, known as "book-tax differences,"
cannot be accurately reconciled using only information that is
publicly available. The CTJ study ignores this shortcoming in its
analysis and, even worse, mischaracterizes book-tax differences as
tax avoidance schemes.
estimates corporations' average tax rates using figures that almost
certainly differ from their true values because tax return data are
not publicly disclosed. The CTJ paper does not mention this
serious, even crippling, limitation of its analysis. Worse, CTJ
misrepresents its estimates of corporations' tax payments as actual
tax payments, though these estimates may be grossly
Certain tax laws reduce a corporation's tax payments in a given
year at the expense of limiting future deductions. CTJ ignores this
difference between the timing and magnitude of tax benefits.
Consequently, CTJ misrepresents the use of accelerated depreciation
and net operating losses (NOLs), both of which can reduce a
corporation's tax burden in a given year, as illegitimate tax
subsidies. But the lower payments that CTJ condemns are only half
the story: a corporation that uses accelerated depreciation or NOLs
this year trades away the use of these deductions in future
When discussing corporate tax rates, CTJ uses the wrong measure.
The CTJ study estimates the average effective tax rates for
its sample of companies, but it does not discuss the companies'
marginal tax rates. While average tax rates are calculated
by dividing taxes paid by total income, marginal tax rates apply to
additional increments of income-the next dollar earned. Except by
fluke or error, no individual makes decisions based on average tax
rates; rather it is marginal rates that govern whether to work
another hour or produce one more widget. CTJ's own estimates
suggest that companies' marginal tax rates are twice as high as
their average rates. By this more appropriate measure,
corporations' tax rates are much higher than CTJ implies in its
characterizing the corporate tax benefit from granting stock
options to employees as a "tax loophole," CTJ misrepresents the
deductibility of salaries and wages as a tax avoidance scheme. But
corporations don't pay taxes on wages and stock options because
their employees, the recipients of these benefits, pay taxes on
them at the individual level. And while there has been controversy
over stock option "expensing," it concerns the accounting treatment
of these options, which has almost nothing to do with how the
options are taxed.
bemoans the decline in the relative share of "corporate" taxes
collected by the U.S. Treasury without looking at changes in the
economy that may account for it. An increasing number of
individuals are running their own businesses as non-corporate
entities, such as S-corporations and limited liability companies
(LLCs). These individuals do pay taxes on their business income but
not through the corporate tax system. This trend away from the
traditional C-corporation has surely contributed to the decline in
the relative share of corporate tax revenues, but CTJ simply
also overlooks the use of reasonable tax planning strategies that
may reduce tax revenues. Unlike most countries, the United States
taxes corporate income wherever it is earned, placing U.S.
companies at a competitive disadvantage abroad. It is
understandable that corporate boards use all legal methods to
minimize this disadvantage, including reincorporating in a foreign
nation. Indeed, failing to use all legal methods of tax planning
would make corporate managers derelict in their responsibility to
shareholders. But to CTJ, even playing by the rules is still unjust
CTJ paper does not provide the proper statistical context for its
estimates of average tax rates. While the study reports that
corporations in its sample paid an average tax rate, over
three-years, of 18.4 percent, it neglects to point out that average
tax rates ranged from 6.7 percent to 30.14 percent for these
companies. This much variation in CTJ's average tax rates, combined
with CTJ's imprecise methodology for computing the tax rates,
renders any use of the 18.4 percent average rather limited.
of all, CTJ professes in its report to show the "actual" tax
payments of 275 large U.S. corporations, but it never admits that
this information is not publicly disclosed and that the report's
"actual" payments are merely estimates, and shaky ones at that.
Indeed, several companies have publicly taken issue with CTJ's
estimates and methodology, and at least one earlier CTJ estimate
has been proven grossly inaccurate:
According to SBC
spokeswoman Anne Vincent, "It's just not true that we [SBC] got a
half-billion dollar check back from the federal government."
McAndrew said, "It is impossible for us to determine how they
calculated the tax rate, which is also incorrect."
In an earlier
report, CTJ claimed that Enron received a net refund of $278
million on its federal income taxes in 2000
. But Congress's Joint
Committee on Taxation reported in 2003 that Enron paid $63.2
million in federal income taxes in 2000, consisting of $21.3
million under the federal income tax and $41.9 million under the
corporate alternative minimum tax (AMT).
Finally, CTJ charges that Congress and the Bush administration
changed the tax laws to benefit "loophole seeking-corporations."
But because the CTJ paper does not list any recent legislation and
contains only one page on methodology, which is described with few
details, it is difficult to evaluate this specific claim.
errors and omissions in the Citizens for Tax Justice's study of
corporate taxation are myriad. CTJ misrepresents its own
error-prone estimates of corporate tax payments as corporations'
"actual" payments. It mistakes the differences between tax
accounting rules and financial accounting rules as evidence of tax
avoidance. It ignores the very significant difference between tax
strategies that affect the timing of tax benefits and those that
affect how much tax is paid. It trades on the recent "stock option
expensing" controversy as justification for branding
single-taxation (as opposed to double-taxation) of employee
compensation as a "tax loophole." CTJ ignores economic trends that
would explain some of the drop in the relative share of corporate
tax collections. It implies that playing by the rules in tax
planning is somehow unjust. And finally, CTJ uses the wrong
measure, the average tax rate, to assess corporations' tax
rates even though the marginal tax rate, which is usually
much higher, is the more appropriate measure. For these reasons and
more (watch for a forthcoming Center for Data Analysis Report from
the Heritage Foundation), CTJ's "Corporate Income Taxes in the Bush
Years" presents an exceedingly misleading picture of corporate
taxation in America.
Norbert Michel, Ph.D., is Policy Analyst in the Center for Data
Analysis at The Heritage Foundation.