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Keeping quiet is often good advice whether one knows what one is
talking about or not (Jack Phelps, "Those Who Don't Know Should
Keep Quiet," Babson Free Press, March 6). The trouble is that
sometimes issues are worth speaking out about. That's why I wrote the
"Boston Globe" op-ed piece to which Mr. Phelps objects.
So instead of keeping quiet, let's try to learn from hearing
different points of view. I will explain why I think President Bush's
proposal to eliminate income tax on corporate dividends is a bad
idea. And of course those who think President Bush is on the right
track can explain their views.
I think that President Bush mistakenly uses the language of fairness
in support of an unfair proposal to eliminate taxes on corporate
dividends. In his recent State of the Union Address the president
said, "It's fair to tax a company's profits. It is not fair to
again tax the shareholder on the same profits."
Similarly, the president's advisors use the phrase "double
taxation of dividends" to make it sound as though shareholders'
dividends are unfairly taxed twice while everyone else's income is
taxed just once.
Obviously that would be unfair if true. But I think it's not true. As
I pointed out in the "Boston Globe" op-ed piece, the
president ignores a basic legal principle - a corporation is a person
in the eyes of the law. A corporation is one person and a stockholder
another. It is no more "double taxation" to tax a
corporation and a stockholder than to tax me and my barber, to whom I
will return later in this piece.
A bit of history will help explain why I think President Bush is
wrong. One of America's great economic innovations was the 19th
century creation of "free incorporation."
For centuries European monarchs had issued corporate charters to a
favored few, most famously the English East India Company whose tea
American patriots poured into Boston harbor in 1773.
In the 1830's our state governments "freed" incorporation
by making it democratically available to all. This democratization of
the corporation promoted growth. Any citizen could start a
corporation by filing a few forms and paying a reasonable fee.
The advantages of incorporation, which Babson students of course
understand well, lie in reduced legal risk for shareholders thanks to
the corporation's separate personhood. Lower risk encourages
investment. If the company goes bust or does something wrong,
investors lose no more than what they paid for their shares.
Often, this means that when corporations are run badly, corruptly or
destructively, it is innocent people who get hurt and end up footing
the bill.
In other words, incorporation doesn't make the risk of doing business
go away. Incorporation just shifts some of the risk from the business
and its investors to all the rest of us. But we have decided in
America that that risk is worth bearing in order to promote growth.
President Bush, however, ignores the economic advantages that
corporations get from their separate personhood. Instead, he focuses
on the fact that the same money is taxed twice. The corporation pays
dividends out of its pre-tax income. And then the shareholder pays
taxes on that same money as part of his or her income. That, says the
president, is unfair.
Here's where my barber comes in. I pay him out of my pre-tax income.
As with corporate income and dividends, the ten-dollar bill that buys
me my haircut is taxed twice - once when I earned it as part of my
income and once when my barber earns it as part of his. Nobody calls
this "double taxation" because everyone recognizes that my
barber and I are different people.
The only way the Bush administration gets away with claiming that
dividends are taxed twice is by ignoring the fact that the
corporation and the shareholder are two different people, just like
my barber and me.
Of course my barber might decide to incorporate in order to get all
the advantages that go with the corporation's separate personhood.
Maybe he's going to start a chain of shops, needs to raise capital,
and wants to encourage investors with the lowered risk that comes
with a corporate charter. But if he and his investors profit from the
lower risk they get from their corporation's separate personhood, it
would scarcely be right for them to turn around and protest that
taxing both them and the corporation is unfair.
President Bush's proposal has a worthy economic goal. It would
correct the present tax code's encouraging of corporations to use
risky leverage by raising capital from lenders rather than
shareholders. That's because corporations can deduct interest but not dividends.
The right fix for that problem is to allow corporations to deduct
dividends as an expense, which would be consistent with the distinct
personhood of corporations and their shareholders.
Why didn't the administration go for the consistent and honest
approach of allowing corporations to treat dividends as an expense?
The business press has been full of reports that it's due to
politics. In our post-Enron environment, such a proposal would be
seen as a corporate giveaway.
This was confirmed by a talk I recently had with a top-level
executive in a major financial institution who had discussed this
question personally with Karl Rove, the president's political
advisor. Rove told him that the administration feared the political
repercussions of a straightforward proposal to allow corporations to
deduct dividends.
That points up the worst feature of the president's proposal - its
long-run effect on the moral quality of our political and social
life. The administration's disingenuous use of the language of
fairness serves the special interests of a favored few.
Although many Americans now own shares, the majority of tax-free
dividend income would go to the very wealthy. Microsoft recently
initiated a dividend that will pay its largest shareholder, Bill
Gates, an income of one hundred million dollars a year. Would it be
fair for him not to pay taxes on that hundred million while working
families now pay tens of thousands of dollars a year in taxes that
they would rather spend on their children? (Don't tell me that I
don't know what I'm talking about. I just filed my 1040.)
I understand, of course, that some will say that the issue is not
fairness but economic growth (it should be not be forgotten, though,
that President Bush first raised the fairness issue). These folks say
we'll all be better off because the Bush tax proposal will revive the economy.
Even if so, we still live in a democratic society where political
power will ultimately place limits on inequality and special
privilege, as has happened many times before in American history, as
in the New Deal and the Great Society periods.
Business people aware of the clumsiness with which the government
moved in those times to create a more just society would be wise to
work themselves to make the corporation the instrument of democratic
economic growth that it has sometimes been in America. |
