Different Forms of Corporate Taxation
When we think about corporate taxation, we naturally think about the corporate income tax, which is paid by organizations all over the world. Sometimes, we also think about sales tax, value-added tax, and such other taxes. However, corporations all over the world are subject to other taxes as well. Sometimes these taxes are simply inefficient and wasteful. Most of the countries in the world have started taking steps to eliminate some of these taxes.
In this article, we will have a look at the different types of corporate taxes and how they affect the economy.
Capital Gains Taxes: Just like individual income can be divided into salary income and capital gain income, corporate income can also be divided. On the one hand are the profits which the corporations earn every year. They are taxed via the regular corporate tax. However, when a corporation disposes off an asset it owns, it could also end up making a gain. This gain is called a capital gain.
In many countries of the world, corporate gains are taxed separately as compared to regular income.
For instance, if a corporation holds shares in another corporation for a large period of time and then sells it, the resultant profits are taxed under capital gains. The problem with capital gains taxes is that they are only incurred when the company sells the asset.
For instance, as long as the company is holding the shares, it does not have to pay any taxes. However, as soon as the company sells the shares, taxes become due.
From the above example, it is clear that companies are incentivized to hold on to their investments for longer periods of time because of the capital gains tax. This may not be in the best interest of either the company or the government. This is because sometimes the company may be looking to sell off some of its shares and invest the money in a factory or another production unit. However, they are discouraged by capital gain taxes, which can be as high as 35%. Therefore, companies prefer to hold inefficient investments, fearing the huge tax liability liquidating them will create.
Many countries have realized this mistake. As a result, they have started reducing the lock-in periods, which are necessary to reach a lower rate of taxation. In some countries, the capital gains tax is being completely abolished to encourage more corporate investment.
Cross Border Investment Taxes: Just like capital gains taxes, taxes that accrue on cross border investments are also counterproductive. Cross border investment taxes are basically a kind of withholding tax. This means that when a company pays some dividends or interest to some foreign investor, they are supposed to deposit a small portion of that income with the federal government.
For instance, if an American corporation pays a European investor $100 as interest, $5 would have to be deposited with the Internal Revenue Services, and the balance $95 would be given out to the investor. The balance $5 can be claimed by the investor at a later date subject to some tax rules. In most cases, investors have to forfeit the amount. Even if they do recover the amount, they have to spend a lot of money and effort to file the return and claim this amount.
Governments were able to get away with such taxes in the past. However, with the advent of globalization and tax competition, investors do not accept such arrangements. No investor wants to invest their money in a nation that charges an exit fee when they want to leave. In such cases, the European investor will simply stop investing in American firms and may instead use his capital in Japanese firms. Governments realized that they were losing large amounts of capital inflow while trying to make very less tax income. This is the reason behind this tax being abolished from most countries of the world.
Narrow Tax Breaks: Tax breaks are generally viewed by corporations in a positive light. However, there are some tax breaks that are defined very narrowly. This means that these tax breaks are only meant to benefit a handful of companies or industries. For example, the information technology industry in India receives several tax breaks.
IT companies that are located in special economic zones do not have to pay import duties on many products. Also, these companies are exempt from income tax for many years. This creates a significant cost advantage, which compels multinational companies to set up shop in these countries. However, it also has a disadvantage. This is because the government is not being fair here.
Instead, the government is quite literally picking winners and losers by providing certain industries with an edge over the others. This creates two problems. Firstly, it interferes with the operation of capital markets, which are known for efficient resource allocation. Secondly, it sets a bad precedent, and other companies and industries also start lobbying for tax breaks.
The bottom line is that corporations are subjected to several forms of taxation, and many of these are counterproductive. This is the reason that Intel has famously claimed that it takes $1 billion more to build and operate a plant in the United States than it does in other countries, and most of it can be attributed to taxes.
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- History of Corporate Taxation
- Why must corporations be taxed?
- Different Forms of Corporate Taxation
- How Corporate Taxes Impact Corporate Behaviour?
- Is Corporate Tax Progressive?
- The Rise of Flat Tax
- Understanding Tax Terminology: Tax Base
- Understanding Tax Terminology: Tax Rates
- Arguments in Favor of Tax Competition
- Arguments against Tax Competition
- Tax Co-operation: A Primer
- Elasticity of Taxes
- Strategies Used by American Companies for Tax Avoidance
- How Corporate Dividends are Taxed?
- Capital Gains Taxes
- State Corporate Taxes
- A Primer on Tax Deferral
- The Corporate Alternate Minimum Tax
- Sales Tax and Use Tax in the United States
- Why Amazon and Netflix Pay $0 in Corporate Taxes?
- How are Losses Treated in Corporate Tax?