Tax Rates: the Haves and Have Nots

Comparing corporate tax rates can be hard, given all the tax terminology that's out there. But a new study reveals what real rates companies are pa...
Kathy HoffelderApril 17, 2013

While all U.S.-based corporations are subject to a federal tax rate of 35 percent (the highest federal corporate tax rate in the industrialized world), the rate each one actually pays based on taxable income–the so-called “effective tax rate”–can be decidedly unique, a new study shows.

Why the discrepancies? Large multinational companies, for instance, routinely garner benefits from having foreign operations in jurisdictions where the tax rates are lower than the United States. On the other hand, some companies also take advantage of state and local income taxes, tax credits and other items to lower their bill to Uncle Sam.

A new study by Charles Mulford, director of the Georgia Tech Financial Reporting & Analysis Lab, reveals some vast differences in what levels U.S.-based companies, such as those 30 companies that comprise the Dow Jones Industrial Average (DJIA), have been paying in effective rates from 2009 to 2011.  

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Some of those differences stem from the complexities of tax terminology. Since corporate financial statements spew out all sorts of tax rates–federal tax rates, effective tax rates, effect-of-foreign-tax rates, and current tax rates (taxes currently due ,which are typically lower than effective tax rates), comparing apples to apples can be challenging to CFOs and other corporate executives, according to Mulford.  

“CFOs should gain insight from knowing what other companies are doing to minimize tax expense,” he says. They should ask themselves: “How does my effective rate compare? What am I not doing that they’re doing?”  

The answers can be revealing. Take Johnson & Johnson and IBM, for example. They pay considerably less than 35 percent in effective tax rates, according to the study. Johnson & Johnson, reported an effective tax rate of 21.8 percent in 2011, roughly on par with its results from 2010 and 2009. Similarly, IBM paid 25%. Both firms benefited anywhere from 10 percent to 16 percent from foreign tax rates being much lower than U.S. corporate tax rates in 2011. J&J also had a savings of 1.6% from U.S.-based tax credits.

“The haves are these multinationals that are truly multinational. They have the ability through transfer pricing [the process of shifting goods and services within companies] to shift profits to lower tax rate jurisdictions away from higher tax rate jurisdictions,” explains Mulford.  

But not all companies within non-U.S. jurisdictions actually benefited from the tax situation in those countries. Integrated oil companies, such as Chevron and Exxon-Mobil, for example, had effective tax rates that exceeded 40 percent, the study noted. Chevron had an effective tax rate of 43.3 percent in 2011, while Exxon reported 42.4 percent. Both firms’ foreign operations added to their tax cost by anywhere from 7 percent to 14 percent, according to the report.

Similarly high effective tax rates also occurred at companies with most of their operations in the United States. Mulford’s study showed that Home Depot, United Health Group and Walt Disney, for example, all reported effective tax rates at or above 35 percent.

Overall, the trend has apparently been to higher rates. Mulford notes that between the years 2009 to 2011, the median effective tax rate increased for companies in the study to 27.2% in 2011 from 24.1% in 2009.

Besides their actual costs, effective tax rates are important because financial analysts use them to determine profitability, says Mulford. They want to know how a company ended up at that rate and to see if the rate is something that will remain, he adds. “When they look at cash flow, they want to know what they are paying in taxes. What are they able to do given their effective tax rate?”