On Whom Does The Corporate Income Tax Fall?

With the real possibility of corporate tax reform being thrown about Washington, an old debate has been reopened regarding on whom the corporate income tax really falls.

Those in favor of abolishing the corporate income tax – a stance that has become increasingly popular with some groups – argue that the corporate income tax necessarily falls on people. This is, of course, completely true. Other than money that sits in corporate accounts, which does no one any good, all of the money that passes through a business eventually makes its way to people. Except for the money taken out by taxes, that is.

It is easy to find writers, talk show hosts and politicians who are ready to argue that you, the consumer, are paying a large share of corporate income tax in the form of higher prices on goods. Tim Worstall, regular contributor to Forbes, says it frequently and with significant zeal.

As Bruce Bartlett, who held senior policy roles in the Reagan and George H.W. Bush administrations, pointed out in a piece for The New York Times, however, virtually all economists roundly reject this idea. The price of goods is set by market forces, not by corporate income taxes. While prices would likely be affected if corporations were the only suppliers of goods and services, they emphatically are not. There are also sole proprietorships, S-corporations, foreign corporations, nonprofits and partnerships. If a corporation were to attempt to compensate for higher corporate taxes by raising its prices, it would be undercut by businesses to which the tax does not apply.

Left are shareholders and employees. Bartlett cites an article by economist Arnold Harberger, who demonstrated that, at the time, the corporate tax was probably borne entirely by shareholders. There have been arguments that, over time, some of this burden is shifted to employees because the supply of capital shrinks in order to raise the rate of return.

Bartlett examined several analyses included in the March 2013 issue of The National Tax Journal that attempt to determine on whom the tax falls, but found little consensus. Two out of four articles supported the notion that shareholders bear the entire tax. A third suggested that labor bears a full 60 percent of the corporate tax burden, while a fourth found that 82 percent is born by shareholders, leaving workers with 18 percent of the burden.

Understanding where the burden of the corporate income tax falls is essential if we are to make an informed decision regarding tax reform. What appears clear is that the oft-repeated notion that consumers bear this burden is patently false.