Decoding the U.S. Corporate Tax by Daniel N. Shaviro

Author:Daniel N. Shaviro
Language: eng
Format: epub
Publisher: The Urban Institute Press

The Miller Equilibrium and Tax Policy

From a tax-policy standpoint, the Miller view suggests an important shift in our thinking about corporate taxation. Rather than viewing the U.S. system as something that burdens investors, relative to simply taxing all corporate income at once, we should think of it—insofar as the application of a double tax can be avoided—as something that benefits them. By reason of the debt-equity distinction, what the corporate tax does is offer an election to be taxed either at one’s own rate or at the corporate rate, whichever is lower.3

As a general rule, taxpayer elections are a bad idea for the tax system. If taxpayers respond to them by expending resources in order to determine which choice will enable them to pay the least amount of tax, then we may get the unholy combination of less revenues plus more waste.4 Normally, we think of added inefficiency as an unavoidable byproduct of getting more revenue, not less.

In addition, if the otherwise applicable rate structure was picked for good reasons, then allowing taxpayers to opt out of it, through the use of corporate equity investment, may be anomalous. Thus, suppose Congress made 40 percent the top marginal rate for individuals but set the corporate rate at only 30 percent, perhaps to keep it competitive with the corporate rate in other countries. The use of equity investment without threat of a second level of tax would enable taxpayers in the top bracket to avoid paying tax at the expected 40 percent rate, which presumably would be a bad thing if one favored the nominal rate structure. (And if one did not favor it, then putting in a 30 percent top rate directly presumably would be preferable, so as not to implicate entity choices or debt versus equity choices.)

Since the taxpayer election is not explicit, but instead depends on financial instrument choice, it potentially has a cost. How costly it is depends on the interaction between (1) how the tax system identifies debt and equity, and (2) what sort of economic characteristics the taxpayer, along with counterparties such as the corporation and other investors, want the financial instrument to have. As we saw in chapter 3, the tax rules may afford considerable electivity to taxpayers, especially if they are willing to steer a course somewhere in the middle. And the easier it is to marry the economics one prefers with the tax label one prefers, the more effectively elective and therefore Miller-like the state of affairs should be. Where taxpayers can get the label they want, be it debt or equity, but at the cost of changing their preferred economics at least a little, the cost of this departure from their preferences is akin to a fee for making the preferred election. However, unlike an actual cash fee, the change in preferred economics involves deadweight loss, rather than a transfer to the government.

Thus, the relevance of the Miller view depends not only on taxpayers’ ability to avoid (or at least minimize) the

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