The Real Benefit of the Tax Cuts and Jobs Act to Corporate America

A recent study by Penn Wharton looks at the impact of the Tax Cuts and Jobs Act (TCJA) on federal corporate tax rates across 19 main industrial sectors over the next decade and compares them to current tax rates.  While the current administration in Washington is touting TCJA as the panacea to America's economic woes, the Penn Wharton study suggests otherwise.

I want to start this section with a definition that is used in the Penn Wharton study.  The effective tax rate is known as the effective tax rate (or ETR) which is calculated by dividing taxes paid by book income (i.e. pre-tax financial income as reported on company's income statements).   As you know, the current corporate statutory tax rate in the United States is 35 percent which will be reduced to 21 percent under the TCJA.  As you also know, most corporations pay taxes at a rate that is far lower than the headline tax rate thanks to various deductions, tax credits and tax deferral strategies; currently, the effective tax rate ranges from 18 percent (mining) to 33 percent (agriculture) and averages about 23 percent.  Under the TCJA, the effective tax rate average is projected to fall to 9 percent in 2018, however, it will double to 18 percent over the next decade as various tax provisions change. 

The authors of the Penn Wharton study calculated the effective federal corporate tax rate for various industries under both current law as well as under the TCJA's proposed amendments.  They note that there are several major provisions and phasing-out of provisions in the TCJA that will impact the calculation of ETR for each industry as follows:

1.) 2018 - corporate headline tax rate drops to 21 percent, increased equipment and software expensing, bonus depreciation is extended and expanded, net interest deceptions are limited, net operating loss deceptions are limited

2.) 2022 - Amortization of research and experimental expenditures, change in rules for the limitation of net interest deduction.

3.) 2023 - phasing out of extended and expanded bonus depreciation begins.

4.) 2026 - complete phasing out of extend and expanded bonus depreciation.

The Penn Wharton model shows that the effective tax rate average across all industries declines from 21.2 percent in 2017 to 9.2 percent in 2018.  Once the changes to various deductions begins in 2023, the decline in the effective tax rate is even smaller and is calculated at 17.33 percent.  By 2027, the decline in the average corporate effective tax is smaller yet again and is calculated at 18.27 percent, barely 3 percentage points better than it is currently and only 4.7 percentage points better than it would be under current tax law.  

Here is a table showing how widely variable the effective tax rates are for each of the 19 industries and how these tax rates will vary over time under the current law and under the Tax Cuts and Jobs Act:

As you can see, in a significant number of industries, a great deal of the tax savings under the TCJA evaporate over time.

Now, let's look at the details of the change in the dollar amounts of taxes (i.e. tax savings) each of the 19 industries will pay over the ten-year budget timeframe:

1.) Agriculture, forestry, fishing and hunting - $7.8 billion

2.) Mining - $38 billion

3.) Utilities - negative $15.6 billion

4.) Construction - $12.9 billion

5.) Manufacturing - $261.5 billion

6.) Wholesale trade - $146.5 billion

7.) Retail trade - $171.4 billion

8.) Transportation and warehousing - $62.7 billion

9.) Information - $99.2 billion

10.) Finance and Insurance - $249.4 billion

11.) Real estate, rental and leasing - $12.7 billion

12.) Professional, scientific and technical services - $22.7 billion

13.) Management of companies (holding companies) - $154.2 billion

14.) Administrative and support and waste management - $19.0 billion

15.) Educational services - $3.7 billion

16.) Health care and social assistance - $5.9 billion

17.) Arts, entertainment and recreation - negative $0.5 billion

18.) Accommodation and food services - $18.0 billion

19.) Other services - $4.6 billion

Notice that second biggest beneficiary of the proposed tax changes, thanks to the Tax Cuts and Jobs Act, is the finance and insurance sector which will benefit from about 19.5 percent of the total reduction in corporate taxes paid even though they pay only 17.8 percent of corporate taxes under current law.  No surprise there given this:

Despite Washington's touting of the Tax Cuts and Jobs Act as the ultimate answer to Making America Great Again, the Penn Wharton study shows that, while the TCJA reduces the effective corporate tax rate in 2018 to just 43 percent of its value under current tax laws, by 2027, most of that gain is lost as the effective tax rate rises to 80 percent of its value under current laws.  As well, with Corporate America's share of Washington's total revenue declining over the past decade as shown here:

...and with the mounting federal debt and rising interest rates, how long will it be before Washington is forced to raise personal taxes for those Americans who have no lobbying voice to speak on their behalf to Congress?