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1 Patrick Fleenor & Jonathan Williams, Options for Reforming the U.S. Corporate Income Tax 1 (2006)

handle is hein.taxfoundation/fffixz0001 and id is 1 raw text is: r:OuU NDAT10N.
May 8, 2006
Options for Reforming the U.S. Corporate Income Tax
by Patrick Fleenor and Jonathan Williams
Fiscal Fact No. 58
Economists generally agree that economic rather than tax considerations should guide
companies' decisions about how to organize and expand. Unfortunately, the corporate
income tax often distorts these organizational decisions, making the economy less
efficient as a result.
Tax-Induced Distortions
In the United States, businesses have been traditionally structured in three ways: sole
proprietorships, partnerships or corporations. In recent years, however, hybrid forms such
as S corporations and limited liability proprietorships and partnerships have also become
common (See related Fiscal Fact at
http ://ww  .taxfoundation.org!ipublicationsishowi / 1477ohtml.)
With the exception of traditional C corporations, the income earned by these businesses is
reported on the tax returns of the firms' owners-where it is subject to the individual
income tax. Income earned by traditional C corporations is subject to tax by both the
corporate and individual systems.
This double taxation results in corporate income generally being more heavily taxed than
non-corporate income. This creates a situation where firm structure is sometimes chosen
for tax reasons rather than because it makes the most sense economically. Moreover,
under current law, corporations can deduct interest payments when calculating taxable
income, but cannot deduct dividend payments. This creates an incentive for firms to
finance projects using debt rather than equity.
The economic costs of these tax-induced distortions is estimated to be quite high. In 1996
the Congressional Budget Office reviewed a number of studies examining the efficiency
losses associated with the corporate income tax and found that they probably exceed half
of corporate receipts.
At first glance the solution to the problems created by the corporate income tax appears
fairly straightforward: simply eliminate the corporate income tax and tax all income at

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