Who Should Pay the Corporate Tax in a Flat Tax World ?

Case Western Reserve Law Review, Dec 1989

By Rebecca S. Rudnick, Published on 01/01/89

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Who Should Pay the Corporate Tax in a Flat Tax World ?

W ho Should Pay the Corporate Tax in a Flat Tax World ? Rebecca S. Rudnick 0 0 Thi s Article is brought to you for free and open access by the Student Journals at Case Western Reserve University School of Law Scholarly Commons. It has been accepted for inclusion in Case Western Reserve Law Review by an authorized administrator of Case Western Reserve University School of Law Scholarly Commons - Review Volume 39 This article reviews the corporatetax system within the context of the historical bias and current effects of the current system of taxation of corporations and shareholders. Drawing on public finance theory, financial markets microstructure research, and perspectives on corporate governance, Professor Rudnick proposes a profits tax on the liquid equity offirms. She finds this to be a normative rationalefor a double tax system under opti* Assistant Professor of Law, Indiana University Bloomington; B.A., Willamette University (1974); J.D., University of Texas (1978); LL.M., New York University (1985). Copyright © 1989 Rebecca S. Rudnick I was a member and secretary of the American Bar Association Tax Section Task Force on Passthrough Entities which submitted its final report in July 1988. The views expressed in this article are my own and not those of the Task Force. Much of the work on this article was done while I was visiting at the University of Texas School of Law. I thank my research assistants, Tami Walker and Monika Rutland, for their help and David Gunn of the Tarlton Law Library for his unfailing cooperation. For the subsequent work at Indiana I thank Melissa Brown and particularly appreciate the steadfast help of Kellye Testy. I gratefully acknowledge secretarial assistance from Shirley Walker at Indiana and Pat Floyd at Texas. A research grant from Indiana was also gratefully received for the project. Valuable comments were received at faculty workshops at Texas and Indiana, and from Calvin Johnson, Joseph Bankman, Joseph Pechman, Carl Shoup, Merritt Fox, Stephen Utz, Glenn Coven, Robert Hamilton, John Chown, Richard Bird, John Wilson, John Dzienkowski, and especially Robert Anthoine. Anjan Thakor and Michael Simkowitz at the Indiana University School of Business and Edward Altman and Ernest Bloch at the New York University Graduate School of Business were particularly helpful on financial markets and related matters. The apparent and hidden mistakes are all my own as is the thesis. This article is dedicated to the memory of Henry Simon Bloch who would have added immensely to its intellectual content. mal tax principles due to the inelasticity of demandfor and supply of liquidity and the economic rent it produces. The value of liquidity in different capital markets is the crucial determinate. Under traditional tax policy criteria of horizontal and vertical equity and efficiency, this approach correctly classifies those firms that can normatively be included in a double tax system after an interest return on equity is deducted. Drawingthe line at liquidity allows the fullest expansion of passthrough regimes such as Subchapter S and partnership taxation as well as other forms of integration. b. Berle and Means Revisited - The Economic Personality of the Firm c. The Power Rationale in a Flat Tax W orld ........................ III. Proposal for a Profits Tax on Publicly Traded Firms With Liquid Equity .................... A. The Value of Liquidity ................... 1. Liquidity and the Cost of Firm Capital 2. M onitoring ......................... 3. Diversification and Portfolio Changes B. Definition of Liquidity .................... 1. Realization and Speed ............... 2. Time, Valuation, and Market ......... 3. Liquidity in Existing Markets ......... C. Proposal ................................ IV. Present and Proposed Provisions That Draw the Line for Double Taxation on the Basis of Public Trading .................................... A. Proposals by Congressional Committees and the Treasury ............................ B. Public Trading as a Worldwide Standard in Taxation ............................... C. The 1987 Publicly Traded Partnership Legislation .............................. V. Other Proposed Rationales for the Double Tax Are Ineffective in Formulating a Unified Theory ..... A. Misuse of Material Participation Standard .. B. Ineffectiveness of Small Number of Owners Standard ............................... C. Economic Size Standard .................. D. Surcharge on Passthrough Income ......... E. Return to the Pre-1986 System ............ VI. Testing the Proposal Against Tax Policy Criteria. A. Profits Taxation Theory ................... B. Optimal Taxation Theory.................. 1. Optimal Taxation and Commodities .... 2. Profits Taxation Viewed Under Optimal Tax Principles ...................... C. Implementation of Profits Taxation and the ALI Proposals .......................... D. Summary of Profits and Optimal Tax Theory and (...truncated)


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Rebecca S. Rudnick. Who Should Pay the Corporate Tax in a Flat Tax World ?, Case Western Reserve Law Review, 1989, Volume 39, Issue 4,