Dear Washington: Heal thy tax system

August 14, 2014, 11:31 AM UTC
contract armin harris
Kyle Bean for Fortune

Becky Quick is an anchor on CNBC’s Squawk Box.


If you’re looking for the business bogeyman these days, look no further than corporate inversions. They’ve been called economically unpatriotic by Treasury Secretary Jack Lew and flat-out “wrong” by President Obama. And companies that use inversions to shift their tax domicile and lower their tax bills have even been targeted as “corporate deserters.”

Inversions are just a symptom of a bloated, unwieldy corporate tax code that is sorely in need of an overhaul. The tax code was last updated in 1986, and ever since, lobbyists have been inserting loads of exemptions, loopholes, and sweetheart deals. “This town I live in is full of lobbyists, and a lot of them [are] business lobbyists,” says Washington, D.C.–based Will McBride, chief economist for the Tax Foundation. “There’s a lot of funny stuff in there.”

That’s no joke. All told, corporate “exemptions” (a.k.a. loopholes) are expected to cost the U.S. $148 billion of revenue this fiscal year, according to the Office of Management and Budget. (The government collected only $221 billion from corporate taxes in 2011.) That’s not to scoff at every tax break out there—targeted tax breaks can start out as reasonable incentives to keep jobs here in America or promote research and development or other laudable policies. But sooner or later those tax breaks get exploited and abused by creative accountants seeking an advantage. Take the deduction for manufacturing products in America. It started out as a tax incentive to protect high-paying jobs in heavy industry. But today it seems as if just about every corporation is calling itself a manufacturer, at least as far as the IRS is concerned. In fact, the industries that most heavily rely on the “made in America” deduction—relative to industry size—include publishing, broadcasting, and motion pictures.

The big winners are big businesses, which can afford to employ legions of accountants and tax lawyers. The big losers: small businesses, which can’t afford to follow suit and so are trapped in a lopsided system. As the head of one big business quipped to me recently, “It’s the best tax code money can buy.”

MIND THE GAP Yes, corporations pay hundreds of billions of dollars in taxes each year, but they also get over a hundred billion in annual credits. MIND THE GAP Yes, corporations pay hundreds of billions of dollars in taxes each year, but they also get over a hundred billion in annual credits.Graphic Source: Internal Revenue Service

A tax overhaul designed to level the playing field for small businesses would seem like a political slam dunk. But while both Democrats and Republicans are on the record saying they’d like to “fix” the corporate tax code, the two sides each have a hefty ideological price they want to extract in order to cooperate with the other side of the aisle. The President has called for lowering the corporate rate to 28% from 35%, but his plan also calls for a temporary mechanism (read: tax) to raise more revenue from companies to fund infrastructure projects. Republicans are looking for a rate well below 28% that would, at least for the short term, bring less corporate revenue into the Treasury’s coffers.

While the politicians bicker and drag their heels, American business continues to lumber on, despite the competitive disadvantage vs. many foreign competitors that operate in countries with lower tax rates. The gridlock has one longtime Washington player exasperated. “When I look at these inversions, they make me very sad,” says Erskine Bowles of Simpson-Bowles fame. Bowles recalls in years past how his home state of North Carolina lost jobs when it failed to offer industrial revenue bonds or tax incentives the way other states did. This, he says, is the same thing playing out on a global scale. If we don’t reform the tax code, and soon, “we as a nation will rue the day,” warns Bowles. “The jobs of the future will remain offshore, and the money earned by U.S. corporations in their plants overseas will stay there and be reinvested there not here,” he adds. “Sad, very sad.”

I’m feeling another emotion: anger. Anger that common sense can’t find a way to prevail on a topic where there is so much common ground. The real solution is simple: Lower the tax rate, strip out loopholes, and make it all revenue-neutral to the Treasury. Now let’s see whether there are any politicians with the courage to do something really brave: compromise.

This story is from the September 1, 2014 issue of Fortune.

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