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Some Context for Those ‘Lower’ Profit Reports

Research & Commentary
August 20, 2012


Press accounts about ‘lower than previously believed’ corporate earnings have painted a misleading picture. Corporate profits remain at high levels. And taxes on these corporate profits are running lower than ever.

By Salvatore Babones

If you can believe recent headlines, the roof is falling in on corporate America: “US Cuts Estimates of Corporate Profits” (Reuters); “Corporate Earnings Return to the Bad Old Days” (NBC News); “Profit Growth Slows but Investors Relieved It’s Not Worse” (USA Today).

You can’t believe last week’s headlines. All the hoopla about the end of the profits party is based on a new GDP update from the Bureau of Economic Analysis. In this update driven by newly available tax data, the BEA acknowledges overestimating corporate profits for 2009, 2010, and 2011.

After-tax corporate profits turn out to have risen by “only” 14.2 percent in 2009, 23.9 percent in 2010, and 8.9 percent in 2011, not adjusted for inflation.[pullquote]Corporate profits have accounted for 67.8 percent of all economic growth since 2008.[/pullquote]

That compares to overall economic growth in those three years of -3.8 percent, 5.6 percent, and 4.3 percent, again not adjusted for inflation.

In compound terms, corporate profits grew 54.1 percent over the three years while the economy grew just 5.9 percent. As a result, corporate profits accounted for 67.8 percent of all economic growth since 2008.

In plainer terms: More than two-thirds of the U.S. economic recovery has gone to corporations. And that’s after taxes.

Not that corporations pay much tax these days.

The effective corporate tax rate  — total corporate income taxes paid as a percentage of corporate profits — is now hovering just over 20 percent. The three lowest years for corporate income taxes since World War II have been 2009, 2010, and 2011.

Theoretically, the corporate tax rate stands at 35 percent of profits, a rate that President Obama wants to reduce to 28 percent and Mitt Romney wants to reduce to 25 percent. So if we have a 35 percent rate, why are corporations paying taxes on their profits at just over 20 percent? One big reason: the use of offshore tax havens.[pullquote]The three lowest years for corporate taxes since World War II have been 2009, 2010, and 2011.[/pullquote]

Corporate income shifting via these havens, notes Citizens for Tax Justice, costs the U.S .Treasury “an estimated $90 billion per year.”

Add back that $90 billion and the U.S. corporate effective tax rate for 2011 would have been 32.4 percent instead of the actual 20.7 percent.

Big rewards await those CEOs who prove the most successful at avoiding corporate taxes. The just-released Institute for Policy Studies 2012 Executive Excess report notes that 26 major U.S. corporations last year paid their chief executives more than they paid in federal income taxes, one more than the 2010 total.

Twenty of the firms on the Institute’s 2010 list spent more on lobbyists than they paid in taxes, while 18 of them gave more in political contributions than they paid in taxes. No wonder the political will to end the tax games corporations play seems so sorely lacking.

America’s highest-paid corporate CEOs are leading the way in corporate tax avoidance. A recent study from accounting professors Sonja Rego and Ryan Wilson found that CEOs who are more aggressive at dodging taxes receive significantly higher compensation in return.[pullquote]America’s highest-paid corporate CEOs are leading the way in corporate tax avoidance.[/pullquote]

In a forthcoming paper in the Journal of Accounting Research Rego and Wilson add that CEOs who are paid in company stock tend to push their companies more toward tax avoidance than CEOs who are paid in cash.

The bottom line: Companies can make more money tax dodging with offshore tax havens than they can by making goods and providing services. In this political and economic environment, no one should be surprised when CEOs focus on lobbying Congress than on creating jobs.

U.S. corporate profits after tax now soak up over 10 percent of total national income. The (revised) figures were 10.4 percent in 2010 and 10.8 percent in 2011. The previous historical high was 9.9 percent in 1929 — and we all know how that turned out.

Corporate profits were just as high in the booming 1950s and 1960s, but corporate tax rates ran much higher then. Today’s historically high corporate profits enjoy historically low corporate taxes.

Corporate profits may drift lower in 2012 and 2013, but they’re starting from such a high level that a few percentage points either way won’t make much difference to the big picture. Corporations remain filthy rich at a time when ordinary Americans are struggling. That’s just not right.

Instead of competing to see who can offer U.S. corporations the lowest tax rate, Romney and Obama should be talking about raising corporate income taxes. Effective corporate tax rates are at historical lows. The rates have to go up.

Maybe if it weren’t so easy to profit through tax avoidance America’s CEOs would get to work providing services and making things. To do that, they’d have to hire people. A corporate tax increase might just be the jobs boost the country needs.

Salvatore Babones is a senior lecturer in sociology and social policy at the University of Sydney and an associate fellow at the Institute for Policy Studies.

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