Cutting corporate taxes has become politically popular in the United States in the past few decades, based on the argument that doing so stimulates investment and hiring—and then grows the economy and tax revenue. State politicians use tax policy to attract and retain businesses, with the goal of driving up labor rolls and investment.

But in their efforts to accommodate employers, state governments have gone beyond lowering corporate tax rates and have narrowed the tax base, the amount of revenue on which taxes are assessed, according to Duke’s Juan Carlos Suárez Serrato and Chicago Booth’s Owen Zidar. As a result, states are raising less revenue, and “we reject the hypothesis that tax cuts tend to pay for themselves,” the researchers write.

In an analysis of state corporate taxes from 1980 to 2010, Suárez Serrato and Zidar studied 15 measures of the corporate tax base—including indicators relating to throwback rules (meant to eliminate the loophole on income not taxed in any state), combined-reporting rules (which apportion income among states in which companies do business), investment tax credit (ITC) rates, research and development, and accounting carrybacks and carryforwards, among other things.

They find that states have been shrinking their tax bases by adding new types of tax credits and changing how companies can deduct expenses. These considerations may lead budget scores based on historical data to overestimate how much revenue the state will receive at a given tax rate.

“If you raise corporate rates by 1 percent, you’ll get less money than you used to,” Zidar says. In the research, although average corporate rates held steady in states, revenues dropped dramatically—as a share of GDP, average state corporate tax revenue fell nearly 40 percent from 1980 to 2010. There are multiple reasons for this decline, one of which is the shrinking base.

The change in state tax bases has been good for corporations, “reducing the extent to which tax rate increases raise corporate tax revenue,” the researchers write.

Naturally, this shift in the tax base could have broad policy implications. For instance, state taxes fund local services such as fire, police, and education, which have an arguably larger impact on citizens’ lives than federally funded ones. Lower state tax revenues can mean cuts in social services, education, and transit. The question of how states raise money to pay for public services has come to the forefront in the past year with teacher strikes that started in West Virginia and spread to Kentucky, Oklahoma, and other states.

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