The Tax Foundation - U.S. States Lead the World in High Corporate Taxes
March 18, 2008
U.S. States Lead the World in High Corporate Taxes
by Scott A. Hodge
Fiscal Fact No. 119
America's political leadership is finally waking up to the fact that the tax rates businesses face in the U.S. are way out of step with our major economic competitors. Last year, for example, Ways and Means Chairman Charles Rangel proposed cutting the federal corporate tax rate from 35 percent to 30.5 percent. While a 5 percentage point cut in the federal corporate tax rate may sound significant, it may not be sufficient to meaningfully improve the competitiveness of the United States.
Currently, the average combined federal and state corporate tax rate in the U.S. is 39.3 percent, second among OECD countries to Japan's combined rate of 39.5 percent.1 Lowering the federal rate to 30.5 percent would only lower the U.S.'s ranking to fifth highest among industrialized countries.
More recently, other members of Congress—including Sen. John McCain and Congressman Eric Cantor—have released proposals to cut the corporate rate even deeper to 25 percent. While this lower rate would improve the U.S.'s international ranking and competitiveness, that improvement would be mitigated by the high corporate tax rates imposed by many states.
Many states impose state corporate income taxes at rates above the national average of 6.6 percent. Iowa, for example, imposes the highest corporate tax rate of 12 percent, followed by Pennsylvania's 9.99 percent rate and Minnesota's 9.8 percent rate. When added to the federal rate, these states tax their businesses at rates far in excess of all other OECD countries.
When compared to other OECD countries:
24 U.S. states have a combined corporate tax rate higher than top-ranked Japan.
32 states have a combined corporate tax rate higher than third-ranked Germany.
46 states have a combined corporate tax rate higher than fourth-ranked Canada.
All 50 states have a combined corporate tax rate higher than fifth-ranked France.
Thus, if lawmakers are serious about making the U.S. corporate tax system more competitive internationally, corporate tax rates will have to be reduced both in Washington and in state capitals. State officials should be champions of substantial cuts in the federal corporate tax rate because there is only so much they can do to improve their own competitiveness. After all, even corporations that operate in the three states that do not impose a major state-level corporate tax—Nevada, South Dakota, and Wyoming—still shoulder a higher corporate tax rate than fifth-ranked France and 24 other OECD countries because of the 35 percent federal corporate rate.
The U.S. is among eight countries with extra corporate tax rates imposed by state or local levels of government. While the burden of these state-level taxes is somewhat lessened because they can be deducted from federal taxes, they do add a second layer of tax and also add considerable complexity for multi-state and multi-national businesses.
Some 44 states impose a traditional corporate income tax, with rates ranging from a low of 4.63 percent in Colorado to 12 percent in Iowa. Three states—Michigan, Texas, and Washington—impose a variant of a gross receipts tax in which businesses pay tax on their gross sales rather than their net profits.2 Ohio is currently transitioning from a traditional CIT to a gross receipts-style tax but now it has both. And, as mentioned above, three states do not have a state-level corporate tax.
Table 1 shows that when the state rates are combined with the federal rate (and accounting for federal deductibility), states are effectively imposing a corporate tax rate which ranges from 35 percent to 41.6 percent. Indeed, 16 U.S. states impose a combined corporate tax rate of more than 40 percent, which is at least 12 percentage points higher than the OECD average of 27.6 percent.
Assuming that no state cuts its business taxes in the next year, the U.S. federal rate would have to be cut to 20 percent in order to bring the combined federal-state rate down to the middle of the OECD pack. But Washington does not bear the entire blame for America's eroding tax competitiveness, nor does it shoulder the entire responsibility for fixing it. State officials also have to be cognizant of the fact that they are not only competing against each other for investment and jobs, but against the rest of the world. The emerging low-tax countries in Europe and Asia benefit from the U.S. remaining a high-tax country.
In just the past two months, at least six countries have announced plans to cut their corporate tax rates: Canada, Hong Kong, Korea, South Africa, Spain and Taiwan. In an interview in the Korea Times, Choi Kyung-hwan, a member of the new Administration's Presidential Transition Committee, said, "The corporate income tax reduction is not a matter of choice, but a matter of life and death for Korea in an increasingly globalized business environment.''
In a refrain that is equally applicable to the U.S., Choi went on to say, "Hong Kong and Singapore, which impose significantly lower corporate taxes than Korea, have further slashed taxes recently to draw more foreign investors. Also, France currently levies a 34.4 percent corporate income tax but plans to reduce the tax to as low as 20 percent. Unless Korea cuts corporate taxes, we will not be able to win over multinational firms."3
A growing body of academic research indicates that foreign direct investment (FDI) can be quite sensitive to the corporate tax rates imposed by a state or country. One recent study of the effects of corporate income taxes on the location of foreign direct investment (FDI) in the United States found a strong relationship between state corporate tax rates and FDI—for every 1 percent increase in a state's corporate tax rate FDI can be expected to fall by 1 percent.4
A new study of income tax rates in 85 countries by economists at the World Bank and Harvard University found a strong effect of both statutory and effective corporate tax rates on FDI as well as entrepreneurship. For example, the average rate of FDI as a share of GDP is 3.36 percent. But a 10 percentage point increase in the statutory corporate rate can be expected to reduce FDI by nearly 2 percentage points.5
In the end, the key to improving America's business tax competitiveness is a partnership between federal and state lawmakers to work toward the common goal of lowering the overall business tax burden in the U.S. Otherwise, the U.S. will continue to fall behind in the global tax race simply by standing still.
Table 1
Comparing U.S. State Corporate Taxes to the OECD
OECD Overall Rank
Country/State
Federal Rate Adjusted
Top State Corporate Tax Rate
Combined Federal and State Rate (Adjusted) (a)
Iowa
35
12
41.6
Pennsylvania
35
9.99
41.5
Minnesota
35
9.8
41.4
Massachusetts
35
9.5
41.2
Alaska
35
9.4
41.1
New Jersey
35
9.36
41.1
Rhode Island
35
9
40.9
West Virginia
35
9
40.9
Maine
35
8.93
40.8
Vermont
35
8.9
40.8
California
35
8.84
40.7
Delaware
35
8.7
40.7
Indiana
35
8.5
40.5
New Hampshire
35
8.5
40.5
Wisconsin
35
7.9
40.1
Nebraska
35
7.81
40.1
Idaho
35
7.6
39.9
New Mexico
35
7.6
39.9
Connecticut
35
7.5
39.9
New York
35
7.5
39.9
Kansas
35
7.35
39.8
Illinois
35
7.3
39.7
Maryland
35
7
39.6
North Dakota
35
7
39.6
1
Japan
30
11.56
39.54
Arizona
35
6.968
39.5
North Carolina
35
6.9
39.5
Montana
35
6.75
39.4
Oregon
35
6.6
39.3
2
United States
35
6.57
39.27
Arkansas
35
6.5
39.2
Tennessee
35
6.5
39.2
*Washington
35
6.4
39.2
Hawaii
35
6.4
39.2
3
Germany
26.38
17.0
38.9
*Michigan
35
6
38.9
Georgia
35
6
38.9
Kentucky
35
6
38.9
Oklahoma
35
6
38.9
Virginia
35
6
38.9
Florida
35
5.5
38.6
Louisiana 35 8 38.5
Missouri 35 6.25 38.4
Ohio
35
5.1
38.3
Mississippi
35
5
38.3
South Carolina
35
5
38.3
Utah
35
5
38.3
Colorado
35
4.63
38.0
Alabama 35 6.5 37.8
4
Canada
22.1
14
36.1
*Texas
35
1.6
36.0
Nevada
35
0
35.0
South Dakota
35
0
35.0
Wyoming
35
0
35.0
5
France
34.43
0
34.4
6
Belgium
33.99
0
33.99
7
Italy
33
0
33
8
New Zealand
33
0
33
9
Spain
32.5
0
32.5
10
Luxembourg
22.88
7.5
30.38
11
Australia
30
0
30
12
United Kingdom
30
0
30
13
Mexico
28
0
28
14
Norway
28
0
28
15
Sweden
28
0
28
16
Korea
25
2.5
27.5
17
Portugal
25
1.5
26.5
18
Finland
26
0
26
19
Netherlands
25.5
0
25.5
20
Austria
25
0
25
21
Denmark
25
0
25
22
Greece
25
0
25
23
Czech Republic
24
0
24
24
Switzerland
8.50
14.64
21.32
25
Hungary
20
0
20
26
Turkey
20
0
20
27
Poland
19
0
19
28
Slovak Republic
19
0
19
29
Iceland
18
0
18
30
Ireland
12.5
0
12.5
*Michigan, Texas and Washington have gross receipts taxes rather than traditional corporate income taxes. For comparison purposes, we converted the gross receipts taxes into an effective CIT rate. See footnote 2 for methodology.
(a) Combined rate adjusted for federal deduction of state taxes paid
