The competitive tax game. Why US tax changes are globally important.
Countries don’t just compete via goods, services and currency rates, but also via tax rates. The US Congress has passed sweeping tax changes reducing the US corporate tax rate from 35% to 21%, including tax breaks for business and individuals. These US corporate tax changes have an effect on many other countries, for example;
- A US corporate rate of 21% would add significantly to retained earnings for US domiciled companies, and thus improve their competitive position;
- The improved competitive position of US domiciled companies could see foreign enterprises relocate into the US, and consequently, increased fund flow into the US;
- The US dollar could potentially lift on growth and fund inflow expectations; Higher growth expectations could create further incentives for the US Federal Funds rate to be lifted, and
- Other countries could be pressured to lower their corporate tax rates to maintain a competitive position with the US.
Current Corporate Tax Rates
EU Finance ministers are already warning the Trump administration that US tax changes could cut across international agreements and undermine trade.
China is concerned that tax changes could see an increased outflow of funds pressuring the Yuan, something authorities have been trying to stem.
There is also likely to be less incentive for US companies to retain earnings outside the US. An estimated US$2.5 trillion in funds currently held offshore by US companies could potentially flow back to the US.
The complexity of tax changes should be bullish for tax accountants.
There is considerable debate around how much, or if, the US tax changes will lift the US deficit. The Joint Committee on Taxation (JCT) estimates the tax changes will reduce US Federal tax receipts by ~US$1.5 trillion over ten years. The reason this is difficult to predict is that the impact of fund flows and stimulatory effects to the US economy are made more complicated by certain aspects of the tax change legislation.
US individual tax rates will change. For most income brackets it’s estimated that there would be a reduction in tax payable. However, alterations in deductible expenses and other factors make this difficult to determine accurately.
From a global perspective, the proposed tax changes should make the US a more attractive location for companies, and therefore investment.
The US remains an attractive investment destination primarily because of its large market, dominant companies, and technological progress.
Reducing the corporate tax rate to 21% could make the US an even more attractive destination for investment, while pressuring many other countries to match the US on the corporate tax rate.
While there is a risk, noted by many economists, that the US budget deficit could balloon, on balance we see the move as a positive catalyst for increased US and possibly global growth.