Why Is America Losing 60,000 Corporations Each Year?
January 9, 2015
In recent talks on tax policy, pundits have focused on the rise in corporate "inversions" -- when American corporations move abroad and reincorporate overseas. But is that really America's biggest corporate problem? There were just 14 inversions in 2014. However, America does lose 60,000 corporations every year. How? A new report from William McBride of the Tax Foundation explains: restructuring.
Traditional corporations are taxed on their income via the corporate income tax. After they distribute profits to their shareholders, those shareholders are taxed on the dividends they receive, and they are also subject to the capital gains tax when they sell their stock. This is known as "double taxation," because shareholders are forced to pay taxes on money that was already taxed first at the corporate level.
All corporations face this tax system, but not all businesses are corporations -- many businesses are partnerships, sole proprietorships or what are known as "Subchapter S corporations" (a form that carries the liability benefits of a corporation, but in which business income is taxed at the individual level, not the corporate level). In his report, McBride explains that one of the major differences between these business forms and the traditional corporation is how their profits are taxed: these non-corporate forms are known as "pass-through" entities. Rather than being forced to pay the corporate income tax and face double taxation, their income "passes through" to owners and shareholders, where it is taxed once.
According to McBride, the number of corporations in the United States has shrunk, because more corporations have chosen to structure themselves as pass-through entities to avoid the tax consequences of the traditional corporate form. This trend took off after 1986, when Congress passed the Tax Reform Act, which reduced both corporate and individual taxes but ultimately made the individual tax rate lower than the corporate rate. Other provisions, such as raising the number of shareholders that an S corporation can legally have, made business forms other than the standard corporation appealing. The results?
- Since 1986, The United States has lost a total of one million corporations.
- There were 1.6 million traditional corporations in 2011, the lowest number in the United States since 1974.
- Since 2006, the United States has lost 60,000 corporations annually.
McBride calls this trend "self-help tax reform." Today, over 90 percent of American businesses are pass-through businesses. Is this a problem? McBride says yes, calling the corporate structure "the most efficient" for investment. When the tax code limits that efficiency and pushes companies to structure themselves in other ways, the economy loses valuable economic activity.
Source: William McBride, "America's Shrinking Corporate Sector," Tax Foundation, January 6, 2015.
Browse more articles on Tax and Spending Issues