However, the active business  income earned by foreign subsidiaries is generally eligible for deferral  from U.S. tax until it is distributed, usually in the form of dividends, to the   When income is  U.S. parent corporation or other U.S. shareholders.repatriated in this way, it may have already been taxed in the foreign  country where it was earned. Currently, it is often viewed by tax experts and  in the research that we reviewed as promoting competitiveness. Deferral provides no benefit to these purely  domestic or exporting U.S corporations. However, these  studies may not indicate who ultimately benefits from deferral and,  further, whether deferral is fair and equitable. Deferral Adds Complexity to the Tax Code

There is widespread agreement among tax experts that the U.S. system  for taxing foreign source income is complex and adds burden for IRS and  taxpayers. Deferral Does Not Overlap Directly with Other Federal Programs

Our prior work on corporate tax expenditures identified no related federal  activities sharing the same reported purpose as the two deferral tax  expenditures.as an area of potential duplication and overlap, these programs are  focused primarily on small companies rather than U.S. multinational   Although we have highlighted export promotion programs  corporations.multinational corporations, and interacts with a number of other tax  provisions, such as Subpart F. When considering reform to this system,  changes to deferral would need to be coordinated with changes to other  tax provisions. No Consensus Exists on Which Agency Should Evaluate Deferral

No federal agency has been tasked to evaluate deferral. Evaluation of Graduated Corporate Income Tax Rate Schedule

		The Graduated Corporate Income Tax Rate Schedule’s Purpose Is Viewed as Supporting Small Businesses, but It May Not Be Well Targeted to That Purpose

The purpose of the graduated corporate income tax rate schedule has  generally been described in the academic literature and by tax experts as  supporting small businesses by reducing their tax burden. Evidence is mixed on whether the lower corporate tax rates provided by  the graduated rate schedule increases business formation. The graduated rates could be justified on efficiency grounds if, from  society’s point of view, without the incentive too few small businesses are  formed given their potential for profit and innovation. Informed Judgments about the Graduated Rates’ Equity Require Information about Ultimate Beneficiaries

As with the deferral tax expenditures, studies that specifically estimate the  distribution of the benefits from the graduated corporate income tax rate  schedule are unavailable. This clustering of  filers around certain tax rates may be the result of tax planning that  increases compliance costs. A  2007 study of businesses with assets of less than $10 million in 2002  found that small businesses initially face significant fixed compliance  costs, which increase at a decreasing rate as the business grows.However, the specific administrative and compliance costs of the  graduated rates may not be a large part of these costs compared with  other, more complicated provisions of the tax code. Graduated Rates Are Related to a Number of Spending Programs but the Relative Effectiveness of the Tax Expenditure Has Not Been Assessed

Our prior work on corporate tax expenditures found no related federal  spending program sharing the same reported purpose as the graduated  rates of supporting small businesses that adopt the corporate form of  legal organization. Treasury, IRS, JCT, and external experts  provided technical comments that were incorporated, as appropriate. Appendix I: Objectives, Scope, and Methodology

This report uses our tax expenditures evaluation guide to determine what  is known about following three tax expenditures: (1) the deferral of  income for controlled foreign corporations; (2) deferred taxes for certain  financial firms on income earned overseas; and (3) the graduated  corporate income tax rate. What is the tax expenditure’s purpose and is being achieved? 2. 3. 4. What are the consequences for the federal budget of the tax  expenditure? 5. What data are needed to evaluate the tax expenditure? Previous work by the Congressional Research Service (CRS), the  Congressional Budget Office (CBO), the Joint Committee on Taxation  (JCT), the Department of the Treasury (Treasury), and the Internal  Revenue Service (IRS). As discussed above, the experts we interviewed agreed and economic  theory suggests that any corporate tax system’s overall effect on  efficiency depends on its relative effect on different types of investment  decisions.
Why GAO Did This Study

Congress and the administration are reexamining tax expenditures used by corporations as part of corporate tax reform. These tax expenditures-- special exemptions and exclusions, credits, deductions, deferrals, and preferential tax rates--support federal policy goals, but result in revenue forgone by the federal government.
GAO was asked to examine issues related to certain tax expenditures. This report uses GAO's tax expenditures evaluation guide to determine what is known about: (1) the deferral of income for controlled foreign corporations; (2) deferred taxes for certain financial firms on income earned overseas; and (3) the graduated corporate income tax rate. GAO combined the two deferral provisions for evaluation purposes.
GAO's guide suggests using five questions to evaluate a tax expenditure: (1) what is its purpose and is the purpose being achieved; (2) does it meet the criteria for good tax policy; (3) how is it related to other federal programs; (4) what are its consequences for the federal budget; and (5) how is its evaluation being managed? To address these questions, GAO reviewed the legislative history and relevant academic and government studies, analyzed 2010 Internal Revenue Service (IRS) data, and interviewed agency officials and tax experts.

What GAO Found

Deferral : Both deferral tax expenditures confer the benefit of effectively reducing taxes by delaying the taxation of certain income of foreign subsidiaries of U.S. corporations until it is repatriated to the U.S. parent as dividends.
1. While views on the purpose of deferral have changed over time, currently, it is often viewed by experts as promoting the competitiveness of U.S. multinational corporations. Some experts argue that this view is too narrow. For example, this definition of competitiveness ignores the effect on other corporations that cannot use deferral, such as those that are purely domestic or export without foreign subsidiaries. Further, it ignores impacts on the wider economy.
2. Good tax policy has several dimensions. By delaying the tax on foreign source income, deferral could distort corporate investment and location decisions in a way that lower taxes, but favor less productive activities over more productive ones. Informed judgments about deferral's effect on the fairness of the tax system cannot be made because who benefits from deferral, after accounting for such factors as changes in prices and wages, has not been determined. However, there is widespread agreement among experts and the Internal Revenue Service (IRS) that deferral adds complexity to the tax code.
3. GAO did not identify other federal spending programs that provide similar support to U.S. multinational corporations.
4. Joint Committee on Taxation (JCT) 2011 estimates show relatively modest consequences for the federal budget.
5. No federal agency has been tasked with evaluating deferral.
Graduated corporate income tax rate schedule : The graduated tax rates lower tax rates for corporations with less than $10 million in taxable income.
1. The purpose of the graduated corporate income tax rate schedule is viewed by the sources GAO reviewed as supporting small businesses. However, evidence is mixed on whether it achieves this purpose. The tax rates may not be well targeted toward supporting small businesses because corporations that are large in terms of assets and gross receipts may have taxable income that is small enough to qualify for the rates.
2. The economic efficiency of the graduated rates depends on whether they correct for a market failure. This includes too few small businesses forming, given their potential for profit and innovation, which offsets the possible distortions from its advantaging one type of business organization over others. GAO did not identify any studies of the efficiency effects or those that specifically estimate the distribution of the benefits from the graduated rates. According to IRS staff, while the graduated rates present little complexity, some evidence of tax planning to avoid higher rates has been found.
3. The graduated rates may be related to a number of federal spending programs also targeted to small businesses.
4. JCT 2011 estimates also show modest consequences for the federal budget.
5. No federal agency has been tasked with evaluating the graduated rates.

What GAO Recommends

GAO made no recommendations. Treasury, IRS, the Joint Committee on Taxation, and external experts provided technical comments that were incorporated, as appropriate.