One of the biggest stories impacting U.S. corporate taxes in 2010 did not actually take place in the United States. Instead, it happened a few weeks ago in Japan when the Cabinet of Prime Minister Naoto Kan approved cutting the corporate tax rate by 5 percentage points, a move that will leave the U.S. with the distinction of having the highest corporate tax rate among industrialized nations.
While the rate cut still needs parliamentary approval in the Spring of 2011 when the budget is adopted, it will bring the overall Japanese rate from nearly 40 percent to under 35 percent. As the chart below shows, the U.S.’s combined federal and state rate of 39.2 percent will assume the number one spot as the highest corporate tax rate in the OECD, 13 percentage points above the numeric average of the 30 largest industrial nations. China, which is not an OECD nation, has a top corporate tax rate of 25 percent, some 14 points below the U.S. rate.
Japan’s corporate rate cut should be a wake up call to U.S. lawmakers that our corporate tax system is becoming increasingly out of step with the rest of the global community. Not only is our rate too high, but we are now one of the few countries that tax the world-wide profits of its multinational firms. Most other nations tax only the domestic profits of their companies.
Indeed, the last two countries to move away from a world-wide system to a more territorial system are Japan and Great Britain. Last year, Japan began exempting the majority of foreign profits from domestic taxation in reaction to the fact that Japanese multinational firms were not bringing profits home. Great Britain moved to a territorial system to stem the tide of large U.K. firms that were moving their headquarters to Ireland or Switzerland to protect their overseas profits from Britain’s 28 percent corporate tax rate.
President Obama has signaled that he is open to cutting the corporate tax rate, which is good because two of his own commissions – one chaired by Paul Volker and the other buy Erskine Bowles and Alan Simpson – recommended a steep cut in the corporate tax rate and moving toward a territorial tax system. Should he want to lead the corporate tax reform effort, Obama is sure to find many willing partners in the new Congress.