Taxes

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Preempting International Harmony: The New British Tax on Overseas Profits

Earlier this month, the United Kingdom announced a new “diverted profits” tax on the profits of foreign companies operating in the United Kingdom. The government’s parliamentary majority will allow the government to implement the tax with few delays. Doing so would be a mistake, however. Although the new tax tries to address a real problem with the implementation of corporate taxes in the modern economy, a new international process led by the OECD already exists to deal with exactly this kind of issue. The effort recently issued a series of major reports and is scheduled to make final recommendations next year. The British government should delay implementation of its new tax so that it can act within a multilateral context designed to deal with the larger issues involved.

The issue of tax competition, like that of inversions, has become confused recently, with both legitimate and illegitimate activity getting thrown into the same category. Despite the unease of some countries, there is nothing illegitimate about a sovereign country lowering its corporate tax rate in order to attract foreign companies. It is immaterial whether in doing so they reduce the size of … Read the rest

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New Evidence from Canada: Tax Policy Does Affect Research Spending

In a new study published by the National Bureau of Economic Research, three economists study the effect of a recent change in Canada’s research and development (R&D) tax credit on subsequent spending by small companies. The question is especially interesting because small firms may lack sophisticated tax advisors, earn few profits and thus have a lower tax liability against which to deduct tax credits, and have a harder time financing the fixed costs that come with additional research.

In “Do Tax Credits Affect R&D Expenditures for Small Firms? Evidence from Canada,” the authors find that firms that qualified for a larger tax credit did spend more on R&D in the following years compared to firms of similar income whose tax situation did not change. They also find evidence that the refundable nature of the credit made a significant difference.

According to the paper, Canadian tax law allows all countries to deduct 100 percent of research performed in Canada from their taxable income. It also provides all firms with a non-refundable tax credit of 20 percent of qualifying expenditures. However, for small- and medium-size companies (determined by the previous … Read the rest

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New Paper Confirms Growth Benefits of R&D

Productivity is one of the most fundamental determinants of our income and overall wellbeing, so the question of where productivity growth comes from is extremely important. There are many different ways to increase productivity, but increases that have a continued impact over time are the most important because accumulated productivity increases end up having a much larger impact than one-off changes.

Economists have understood for years that R&D is an important source of productivity growth. However, it hasn’t been entirely clear whether R&D affects productivity growth in short, one-time boosts, or whether it raises growth rates for longer periods.

A new paper by Italian economists Antonio Minniti and Francesco Venturini looks at data from the U.S. manufacturing sector and concludes that R&D policies have indeed created “persistent, if not permanent” changes in the rate of productivity growth. It also drills down into the type of R&D spending, finding that only R&D tax credits have a long-term impact on the growth rate while R&D subsidies provide just a temporary boost.

These results are good news for both the economy and for policymakers because they show the powerful impact that innovation policies … Read the rest

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Congress Should Extend Bonus Depreciation

Since after the Great Recession Congress has put in place temporary bonus depreciation for new capital investment. Given the current state of the economy, already high levels of corporate taxation, and the need for additional investment, Congress should renew bonus depreciation for at least another year.

As ITIF recently wrote, American companies already face the highest statutory tax rates in the developed world. Their effective tax rates also tend to be high, partially because they are taxed on their worldwide income. Bonus depreciation, which temporarily allows companies to deduct equipment purchases faster than they otherwise could, partially offsets this. But the current provision expired at the end of last year.

Faster depreciation reduces the economic cost of new equipment, thereby spurring more investment. It does not reduce the total taxes paid by a company, but it does delay them. The benefit to companies exceeds the cost to the government because the latter can borrow at much lower rates. Higher investment also benefits the broader economy by increasing productivity and creating jobs.

Bonus depreciation also helps align tax liability with actual profits. Accounting methods require companies to write off equipment … Read the rest

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“Patent Box” legislation offers unique incentives for R&D

As countries compete for corporate R&D locations–and the attendant jobs and technology spillovers–tax policy is an important tool governments need to be aware of. There are several types of tax policies that attempt to attract R&D: tax credits for R&D spending, special tax allowances for R&D spending, and tax rate reductions on R&D output (usually based on patents). While it is well established that R&D spending and tax allowances tend to increase the quantity of R&D spending, a new paper by UK researchers Ernst, Richter, and Riedel finds that reductions in patent income taxes increase the quality of corporate research. Higher-quality research means effective R&D  that has better benefits for the entire economy.

These research results are good news for the UK, which recently enacted “Patent Box” legislation, giving companies a 50% discount on profits they earn from patents (down to 10% from their planned 2015 overall corporate rate of 20%). Other countries that offer similar tax breaks for patent income include Luxembourg, the Netherlands, and Belgium.… Read the rest

Amateur Political Philosophy

Noted conservative economist and former Romney advisor Greg Mankiw has just written an article with the unabashedly conservative title “In Defense of the One Percent”. The pile-on has already begun, with an excellent takedown at the Economist American Politics blog, and good pieces as well at the left-leaning CEPR and Unlearning Economics.

Mankiw defends the rich because he believes they have brought us value commensurate with their wealth. This is the essence of conservative neoclassical economics: markets allocate value the way that value should be allocated. There are theoretical exceptions to this rule, of course, like rent seeking or other market failures, but real conservatives remain “unconvinced” that such exceptions are to be found in the real world.

Mankiw prefers the idea that markets can still work as intended (optimally allocating resources) without being entirely “fair”: insufficient high-skill workers and “superstar” gains can drive inequality even in perfect labor markets. Mankiw is sympathetic to these arguments because they allow him to claim that everything is working as intended: there’s nothing to see here, the markets are working, please move along.

But wait a minute.

What Mankiw would have … Read the rest

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Multinationals (Not Main Street) are the Key to Job Growth

Yesterday the Senate Homeland Security Committee’s Permanent Subcommittee on Investigations held a hearing on “offshore profits shifting,” with a focus on making Apple and its CEO Tim Cook into the poster child of corporate tax avoidance. As I wrote in The Hill, blame is not a national competitiveness strategy.

But another theme of the event was the seeming unfairness of a situation where domestic multinationals like Apple are not required to pay the full 35 percent tax on their foreign earnings. Despite the fact that we are one of the only nations with a worldwide system of taxation (that requires U.S. multinationals to pay US taxes on foreign earnings when they bring them home), this notion is actually wrong. It is actually in the interest of non-multinational U.S. firms for multinationals to pay less in taxes. Here’s why.

U.S. economic politics is often framed as a clash between “Main Street” and big multinational corporations, with the former salt-of-the earth hard working mom and pop owners and the latter controlled by profit-hungry greedy tycoons. But this framing misses the point that what will determine whether America thrives in the global … Read the rest

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Linking Energy Production to Energy Innovation

“With pencils being sharpened on a debt deal,” Politico reports (subscription article), “all eyes are on the gas tax as a possible savior for transportation spending. But another option that may cause lawmakers less heartburn is being obscured by the gas tax dust: linking energy production with infrastructure spending…includ[ing] instituting a fee on oil production, or expanding oil and natural gas drilling availability.” Without a doubt, leveraging expanded energy production for revenue is a welcome idea. But linking this revenue to transportation infrastructure spending is misguided because it breaks a very useful policy connection: consumption and infrastructure use.

The thinking goes that new fees on oil and natural gas extraction are more politically feasible than a gas tax, as the cost to consumers would be relatively hidden. While industry would ultimately try to pass costs on to consumers, as the Politico article put it, “the pain of a new fee “upstream” has the advantage of not being immediately obvious to an electorate jittery about the economy — certainly nothing as in your face as a tax increase at the pump.” The problem is that tying energy production to transportation infrastructure-spending … Read the rest

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R&D Tax Credits: They Work! Will Policymaker’s Listen to the Evidence?

As we approach the end of 2012, the currently expired U.S. R&D tax credits are being altogether ignored by the media, and generally ignored by policy makers. Nothing has been done this year to ensure that firms will receive the same benefits as in the past. This leaves firms guessing as to whether or not they should increase or decrease their investments in R&D, or move them abroad.  The evidence on the effectiveness of R&D tax incentives continue to mount.  In the latest edition of New Economics Papers in Technology and Industrial Dynamics, another compelling analysis by Bond & Guceri, “Trends in UK BERD after the Introduction of R&D Tax Credits,” shows that R&D tax incentives not only bolster business investment in R&D, but businesses respond even more than previously predicted by Bloom et al.  The analysis shows that especially in high-tech manufacturing, the R&D tax credit causes a substantial increase in R&D, which provides further evidence that a permanent R&D tax credit is needed here in the United States.

The study shows that when R&D costs are treated more favorably by the tax code than capital investment, … Read the rest

U.S. House Committee in Session

Innovation Needs to Be Part of Carbon Tax Debate

Last week, representatives of an array of think tanks and advocacy organizations from across the political spectrum gathered at the American Enterprise Institute (AEI) to discuss the feasibility of enacting a national carbon tax. It was the fifth such closed door-meeting. It might surprise people to learn that there is common ground between some conservatives and liberals on the idea of a carbon tax. However, even if a narrow patch of common ground yields a solid policy consensus, innovation must be part of the carbon tax debate.

To be sure, some activists on the Right have been highly critical of the group’s efforts, the participation of free market-oriented groups like AEI and the R Street Institute notwithstanding. In a post to a conservative listserv – in which he also leaks a copy of the meeting agenda – the Competitive Enterprise Institute’s Myron Ebell declares, “We must kill this incredibly harmful idea as quickly as possible.”  “A carbon tax is not a conservative, free-market policy,” Nicolas Loris writes at the Heritage Foundation’s blog. And yet a carbon tax has a surprising number of conservative supporters and could boost national energy … Read the rest