Paul L. Caron

Saturday, November 7, 2020

Cohen & Viswanathan: Corporate Behavior And The Tax Cuts And Jobs Act

Nicholas H. Cohen (LobbySeven, Brooklyn) & Manoj Viswanathan (UC-Hastings), Corporate Behavior and the Tax Cuts and Jobs Act, 87 U. Chi. L. Rev. Online (2020):

The Tax Cuts and Jobs Act of 2017 (the “TCJA”) fundamentally altered United States tax law. Among other things, it broadly decreased income tax rates paid by individuals and corporations, eliminated miscellaneous itemized deductions, limited the state and local tax deduction, increased the standard deduction, reduced the alternative minimum tax for individuals and eliminated it entirely for corporations, and allowed a deduction for certain pass-through business income.

TCJA proponents, generally Republicans, claimed that its $1.5 trillion of tax cuts would result in significant economic benefits. In particular, TCJA supporters believed that the tax benefits afforded U.S. corporations, most notably the reduction in rate from 35 percent to 21 percent, would incentivize corporations to use their additional after-tax cash in ways generally beneficial to the U.S. economy. Predicted indicia of these salutary effects included increases in the rate growth of gross domestic product, increased national capital stock, and significant increases to workers’ wages. TCJA opponents instead expected its benefits to inure almost entirely to a small group of investors and corporate managers. Many critics (generally Democrats and deficit hawks) considered the TCJA a distributionally unsound way to allocate such a significant tax cut.

Corporations have operated for nearly two years under this new corporate tax regime. Their most recent annual corporate filings provide information from the first full calendar year in which the TCJA’s provisions are in full effect. These reports contain information on effective tax rate, capital expendituresCEO compensation, and other important metrics of corporate activity and productivity. From this data we can analyze the preliminary effects the TCJA has had on these corporations and assess the extent to which claims made by the TCJA’s proponents on corporate behavior have been borne out. While other studies have considered the TCJA’s effect on specific corporate attributes, this Essay is the first to assess the TCJA’s effect on a range of corporate behaviors by using recently filed, publicly available data on a granular, corporation-by-corporation basis.

Specifically, our study assesses the extent to which changes in effective tax rates for the top cohort of companies in the Standard & Poor’s 500 index (S&P 500) relate to a variety of corporate behaviors purportedly affected by the TCJA.

Our results indicate that the TCJA’s reduction in effective tax rate had zero relationship to number of employees; dividends paid; capital expenditures; cash flow from operations; market value; capital expenditure ratio; research and development ratio; earnings before interest and taxes (EBIT); earnings before interest, taxes, depreciation and amortization (EBITDA); and total executive compensation. Our study indicates that the TCJA’s reduction in effective tax rate has a small relationship to CEO compensation and total value of shares repurchased. Although the effects (or non-effects) of the TCJA may not be known for years, our study indicates that the anticipated economic benefits of the TCJA due to its changes to effective corporate tax rate have yet to be observed. Indeed, the reduced effective corporate tax rates might promote certain less desirable corporate behaviors, such as increased CEO compensation and increased numbers of stock shares repurchased.

This Essay proceeds in four parts. Part I describes how the TCJA modified the corporate income tax code and details the purported economic benefits of the TCJA, focusing on claims that were made just prior to the TCJA’s passage. Part II describes our study’s methodology, presents our statistical results, and discusses limitations to our analysis. Part III discusses the implications of our study on the economics of corporate tax rates. The Appendix includes a full description of our methodology. ...

Despite a decline in effective tax rate that is, on average, approximately five percent from the year preceding the TCJA, and ten percent from years 2015–2017, there are few indicia of the corporate-investment-led economic boom predicted by Trump administration officials. While it is difficult to definitively know why corporations have not significantly reinvested their tax savings in their employees, property, plants, or equipment, we have identified economic theories that predict such a lack of activity. Should further studies find similar results, they will support theories predicting that the incidence of corporate taxation falls mainly upon investors (as opposed to employees or customers), and that investor behavior is largely inelastic with respect to moderate changes in tax rates.

The TCJA cut taxes by $1.5 trillion and in the process conferred significant tax benefits on U.S. corporations. Unlike the predictions of the TCJA’s proponents, economic growth has shown no sign of increasing nearly to the extent necessary for the tax cut to pay for itself. In addition to increases in discretionary spending passed shortly after the TCJA, the United States now faces the largest federal budget deficit it has ever experienced during a period of peace and economic growth. While the long-term impacts of fiscal profligacy are as uncertain as the tax policy effects on economic growth, we should expect that such a sizable reduction in federal tax revenue comes with some economic benefits to offset the burden of increased debt. Based on our study, we have not found any such benefits in the post-TCJA behavior of U.S. corporations.

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