Montana Viewpoint


August 18, 2008

Americans believe in playing games by the rules. Whether the reason is because we think everyone should be treated equally or just plain don’t want to be taken advantage doesn’t really matter; we Americans have an inherent respect for rules and don’t think much of people who cheat on us by breaking them. But when enough people cheat constantly we wonder why in the heck we’re even bothering to conform and are sorely—and often successfully—tempted to follow suit.

That’s the thought that came to me when I read a study about America’s largest businesses not paying taxes. If it were one or two of them it wouldn’t be so important, but fully 858,000 of all 1,300,000 large and small corporations doing business in America did not pay any federal income tax in the years from 1998 through 2005. Most of those corporations were not the same in all 8 years, and most of them were small potatoes; but enough of them were large corporations to cause me real concerns about fairness.

Those are the findings of the Government Accountability Office (GAO), which is the non-partisan investigative agency of the United States Congress. The GAO study looked at both foreign and American owned corporations doing business in the United States. Foreign owned corporations were more likely to pay no tax than domestic ones, but both foreign and domestic large Corporations (with at least $250 million in assets and $50 million of gross income) were more likely to pay tax than smaller corporations. But even though large companies are more likely to pay taxes, the amount of taxes not paid is huge by comparison to the small companies.

There are a whole bunch of legal reasons why a corporation might not pay tax; in fact, some corporations are structured simply to take advantage of laws that give them tax free status if they follow certain guidelines. Real Estate Investment Trusts, like Plum Creek Timber, are one example of those kinds of corporate structures.

Others avoid taxes by abusing accounting mechanisms such as Transfer Pricing. Companies use transfer pricing when they sell products or services to their subsidiaries. The IRS requires that this pricing has to be set as an “arm’s length” transaction. That is, a parent company can’t sell something to its subsidiary at a markedly different price than an unrelated company might charge the same subsidiary. Transfer pricing is abused when the parent company sells its subsidiary company goods or services at higher than market prices which increases profits to the parent and increases expenses to the subsidiary.

This is done only when there is a tax advantage for both the parent and subsidiary. Typically the parent company is located in an offshore tax haven like Bermuda, where corporate taxes are minimal to non-existent. The profit is then tax free to the parent, and the increased expenses are a write off for the subsidiary which is located where there are corporate taxes. In some cases all that is being sold to the franchises is the right to use the parent company’s name and trade mark, like “Toys ’R Us.”

With that many big businesses not paying taxes, why the heck should we? If they don’t play by the rules it doesn’t seem fair that we have to. In sports we have independent referees to make sure that the rules are impartially enforced. One of the purposes of government is to act as a referee by enforcing laws impartially. But Audits of large corporations have decreased from a high of 72% in 1990 to a low of 26% in 2007, and audit rates for smaller corporations and individuals have increased.

So not only do the big guys break the rules, and the Refs just look the other way; they come after the little guys!

It is hard to fault a person for flaunting a law that is unevenly enforced in someone else’s favor. I believe that folks are willing to pay taxes that they see as fair. I know there are as many definitions of fair taxes as there are taxpayers, but I think that there is universal agreement that uneven enforcement of tax laws is unfair taxation. It’s like they say: we don’t need more laws to enforce tax compliance, we just need to exercise the ones we have.

[You can get the GAO study at www.gao.gov/new.items/d08957.pdf.

There is a great resource at Syracuse University called TRAC which tracks (of course) federal government agencies. Their IRS study is at http://trac.syr.edu/tracirs/newfindings/current/.]

Jim Elliott