General Electric: The Face of a Broken Tax Code

The New York Times published a four-page cover story on Friday showing how, using a bevy of tax shelters and a legion of lobbyists, General Electric (NYSE: GE  ) paid no U.S. income taxes last year.

Predictably, people lost their noodles. The story was especially noxious because GE's CEO Jeff Immelt is President Obama's chairman of the Council on Jobs and Competitiveness. At least 500 media outlets picked up the story within hours of being published, nearly all of them outraged. Jon Stewart of the Daily Show profiled the story on his "I give up" segment, saying, "I know the Supreme Court ruled that corporations are people, but what I didn't realize is that those people are [jerks]."

While enlightening, the Times' story was probably overstated. GE may not have paid any U.S. taxes in 2010, but 2010 wasn't a normal year. Of the hundreds of media outlets covering the story, the most informative take may have come from Washington Post blogger Ezra Klein, who posted an email from a contact at GE:

The Times' story missed the most important part of the story, and I wanted to make sure you have all the facts. The reality is that within the context of the 2008 financial crisis, GE Capital suffered significant losses, which affected taxes. Take out GECapital, and GE's effective corporate tax rate would be 21%.

Here's how it works. General Electric is made up of two major segments: GE Capital and GE. GE Capital is a financing arm; GE makes wind turbines, light bulbs, stoves, and other stuff. GE is a good, profitable business. GE Capital has a knack for losing ungodly amounts of money, particularly over the past few years and particularly in the U.S. Losses from GE Capital's U.S. division offset taxes the GE parent company would have owed the IRS -- so much so that GE's overall tax rate hit zero last year.

Overlooking this stuff is common. A pitchfork-waving website called PayUpNow.org lists several corporations that have paid scant U.S. taxes in recent years. Among the culprits: Citigroup (NYSE: C  ) , Bank of America (NYSE: BAC  ) , and AIG (NYSE: AIG  ) . What do these companies have in common? They've all lost a metric ton of money over the past few years. When you or I lose money on our investments, it's tax-deductible in subsequent years. Similar deal for corporations. Nothing fishy about it.

Still, the Times is quite right about one thing. GE -- and many other large corporations -- employs a small army of tax lawyers whose job is to find every loophole and lobbying mission available to keep the tax bill low. Even before GE Capital was bleeding money, GE's U.S. tax bill was far below the statutory 35% rate, averaging 17% from 2004-2006. It's able to achieve these rates -- comparable to the marginal rate of a person earning less than $700 per month -- by running income through foreign subsidiaries with lower tax rates and running lobbyists through Washington.

You can't blame it for this. It's rational for a company to seek the lowest tax rate possible. This doesn't make them unpatriotic. It makes them capitalists. Part of the problem is the U.S. corporate tax rate is among the highest in the developed world. Countries we often paint with a stigma of high taxation -- France, Norway, Germany -- all have lower corporate tax rates than the U.S. Much more so than individual tax rates, corporate tax rates are competitive across borders. It's a globalized world. So to a certain extent, American corporations like GE have to run circles around our tax code just to stay competitive.

I don't think GE should be demonized in light of the Times' story. It's acting like any rational, profit-seeking company should.

It's the tax code itself that's the problem, and it's damaging to the economy in a couple ways. One, it makes it hard for small companies to compete with the big boys who can afford in-house tax departments. President Obama pointed this out in his State of the Union speech this year: "Those with accountants or lawyers to work the system can end up paying no taxes at all. But all the rest are hit with one of the highest corporate tax rates in the world. It makes no sense, and it has to change."

Why it might have to change is because, even though our corporate tax rate is among the highest in the world, its contribution to tax revenue is nearing irrelevancy:

Sources: U.S. Treasury, author's calculations.

There are several explanations for why this charts nosedives, not the least of which are lower tax rates. But there's more to the story. Corporate taxes as a percentage of the total tax pot has steadily plunged:

Sources: U.S. Treasury, author's calculations.

This chart, I think, shows a broken tax system. The corporate tax code is so inefficient, both in its rate compared with other nations and its ability to exploit, that companies like GE effectively avoid it. Unfortunately, these large corporations are the ones capable of making a dent in tax revenue. The poor schmucks that end up actually paying the 35% corporate tax aren't large enough to make much of a difference. The result is a corporate tax code that favors the large, punishes the small, and puts an outsized burden on individuals to pay the country's debts. If corporate tax revenue as a percentage of GDP were the same today as in 1962, today's deficit would be almost a third smaller.

What's the solution? Some have suggested switching to a territorial tax system. Others have proposed lowering the corporate tax rate but gutting exemptions and credits. Others still say leave it alone.

What about you? I want your take. Share your thoughts in the comment section below.

Fool contributor Morgan Housel owns Bank of America preferred. The Fool owns shares of Bank of America. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


Read/Post Comments (33) | Recommend This Article (43)

Comments from our Foolish Readers

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  • Report this Comment On March 30, 2011, at 2:46 PM, Parry2 wrote:

    They broke no laws but I would like a flat tax, no loop holes.

  • Report this Comment On March 30, 2011, at 3:02 PM, bluesguy84 wrote:

    Flat tax. No loopholes. And if a corporation has the same rights as people then they pay the same rate as people.

    If you do business in the USA then you pay taxes here. I don't care if your corporate headquarters is in China. Sell stuff here then you are using our infrastructure and other benefits and should pay for them.

  • Report this Comment On March 30, 2011, at 5:40 PM, xetn wrote:

    How about no taxes! Any one that says they would like to pay taxes, please pay mine. I don't like legalized theft.

    Please contrast the growth (or lack thereof) with Singapore who just basically cut their corporate tax rate by half! The highest income earners in Singapore effective tax rate is 13.5%.

    The US government likes to milk all of us cows for their benefit. They pass all kinds of regulation so that by March 2005, every man woman and child in the US was paying an extra $6000 + per year for corporate compliance. Do you think it has decreased? And what about the effective tax rate? Somewhere between 17 and 35%, disregarding state taxes. Perhaps you are still wondering why so many companies have moved off-shore.

  • Report this Comment On March 30, 2011, at 6:14 PM, surewind wrote:

    See Sen Ron Wyden's (D-OR) tax overhaul legislation and discover THERE IS A BETTER WAY. surewind

  • Report this Comment On March 30, 2011, at 7:56 PM, borneofan wrote:

    Complicated tax systems make it possible for lawyers, lobbyists, and politicians to game the system.

    Only the flat tax, with no exemptions or exceptions, provides the opportunity of a fair and impartial referee.

    The direct threat to the power of lawyers, accountants, tax advisers, and politicians is the primary impediment to passage of such a tax law. Ideally it would eliminate the AMT, FICA, and medi-whatever as well.

    To date, the best proposal I have seen is to offer the flat tax in direct competition to the AMT and the current mess: the taxpayer could choose the system and conform accordingly. Public knowledge of which corporations and individuals file under the convoluted mess reveals the scammers to the honest payers. Phase out of the mess would occur at some minimum level, perhaps when only 10% remain outside the flat tax.

  • Report this Comment On March 30, 2011, at 8:31 PM, neutrinoman wrote:

    Absolutely -- reform the US corporate tax code as soon as possible. Lower the rate, but get rid of all the loopholes. Make it territorial, like almost every other country in the world.

    This is a good article, but it failed to mention the biases in our tax code and monetary policy that favor debt over equity, and that helped to push once-storied industrial companies like GE into becoming quasi-banks or disguised hedge funds.

    This goes along with another trend of the last 15+ years, all the smart people who used to become engineers and scientists becoming wall Street wizards instead:

    http://rightwingnews.com/culture/are-we-wasting-our-brightes...

  • Report this Comment On March 30, 2011, at 9:05 PM, Tygered wrote:

    Flat tax, simple, easy and no loopholes whatsoever. Of course that puts lots of lobbyists, lawyers and tax accountants out of business. I say good on that. Let them get real jobs and pay their fair share of the flat tax.

  • Report this Comment On March 30, 2011, at 9:23 PM, Richnut2 wrote:

    All of your points are well taken, including the point about not blaming them for taking advantage of legal tax loopholes. But you miss the main point of all the data you present: When a big Corporation not only takes advantage of legal loopholes, but also creates those same loopholes by using its lobbiests to pay off Congressmen (called campaign contributions) to pass laws containing those loopholes, the system is and should be illegal. As some of your earlier articles have discussed, this unholy and illegal process is why the average wage has gone down 10% over the last 30 years while the average CEO pay has gone up by over a factor of 10.

  • Report this Comment On March 30, 2011, at 10:58 PM, xetn wrote:
  • Report this Comment On March 31, 2011, at 12:28 AM, ershler wrote:

    Why does a tax rate have to be flat to be simple? A progressive tax rate isn't what makes the tax code complex, it is the deductions and loopholes. Delete enough of these and the tax code may actually be progressive as intended.

    Open up the tax code and start deleting pages.

    Finally, enforcement needs to improve. It doesn't matter what laws (that is what the tax code is) you make if you don't enforce them.

  • Report this Comment On March 31, 2011, at 10:06 AM, 7351jay wrote:

    First to do anything is get rid of the lawyers and lobbyists that corrupt our system.

  • Report this Comment On March 31, 2011, at 1:59 PM, ndsufool wrote:

    This is misleading: "It's able to achieve these rates -- comparable to the marginal rate of a person earning less than $700 per month -- by running income through foreign subsidiaries with lower tax rates and running lobbyists through Washington."

    Anyone who understands the basics of taxes will know a person making less than $700 per month will not pay taxes, but I would bet a significant chunk of the millions who pay HR Block, Turbo Tax, etc. to file their 1040ez think they are paying 17% of their income in taxes while GE pays nothing.

  • Report this Comment On March 31, 2011, at 2:52 PM, Notwage wrote:

    I would also like to see a simple, easy to understand tax code for businesses and individuals.

    A new tax system should greatly reduce tax burdens on individuals.

    Individuals will spend and invest that money better and more wisely than our government can. There are many reasons why, one being the effect of lobbyists. They have done much more harm than good and only serve one group of narrow interests.

    The new tax system should be globally competitive for corporations to headquarter and do business in the U.S.

  • Report this Comment On March 31, 2011, at 3:19 PM, Truth2Power wrote:

    I favor a minimum tax for corporations. Force U.S. corporations to pay at least 1% (or pick a number) of their gross income in U.S. taxes, regardless of how much they write off, pay to foreign governments, etc. Then we can be sure that ExxonMobil (which paid no U.S. tax in...2009, I think?) and GE are always putting some portion of their fair share into the pot.

    AMTs exist for individuals and smaller corporations. Let's make the big boys play by the same rules.

  • Report this Comment On March 31, 2011, at 4:17 PM, ewaldave wrote:

    The Fair Tax is the only answer for individuals and corporations. Read the book before you say it won't work. It's a national sales tax. Applies to everyone and every corporation. If you buy something you pay the tax. If you sell something you collect the tax and send it in to the Irs (which by the way would need about 95% fewer employees). No exemptions, no deductions. You take home your entire paycheck. No tax writeoffs for anything. No lawyers, lobbyists, accountants are needed. No tax code. Simple. Takes the power from Government minions and puts it back in the hands of the people.

  • Report this Comment On March 31, 2011, at 9:28 PM, ynotc wrote:

    I wonder what amount of tax revenue would be generated with a flat tax no loopholes for both corporations and individuals. If the economy is 17 trillion and the flat tax is 10% across the board then wouldn't that be 1.7 trillion? How does this compare with current tax reciepts?

    Of course if we actually did something like that you can figure on higher unemployment due to the out of work tax collectors that will no longer be needed. Oh wait, this is the governement, they can't even cut 61 billion from a 3 Trillion budget.

  • Report this Comment On April 01, 2011, at 3:00 PM, RLoder wrote:

    A flat tax is not an answer to GE paying zero taxes. Any tax rate on zero income is still zero (flat or otherwise). The US corporate tax rate has to be competitive to other countries corporate tax rates, I've understood this for years but 60 minutes recently had an excellent segment on the problem.

    My solution would be to lower the corporate tax rate and make up the difference with a national sales tax like the rest of the world. What would you rather have?

    1) A job and pay a 2% sales tax

    2) No job and not pay sales tax

    The course we are on is #2.

  • Report this Comment On April 01, 2011, at 3:28 PM, drborst wrote:

    Morgan,

    I don't get why the charts show a broken tax system. I think the army of lawyers shows the broken tax system.

    To the flat taxer's comments above, I feel seduced by your arguement right about now when I'm doing my own taxes, but the personal benifit of avoiding the tax time pain probably isn't good social policy.

    I think we should reduce the corporate tax rate to zero and replace it with a comsumption tax. Every business passes their tax cost along to consumers, so in the end, I'm paying the corporate tax when I buy my GE dishwasher.

    Only this year, instead of me paying GE and GE paying the government, GE uses losses from their financial group to keep the cash. Oddly, GE benifits and the government loses because GE Finacial lost money. I'd love to see someone explain how that could be a good policy.

    DRB

  • Report this Comment On April 01, 2011, at 4:07 PM, SocialRespInvest wrote:

    The tax code should not be drafted by corporate lobbyists who hand language to the people they get elected with their donations paying for ads (this only will get worse, thanks to the Roberts court's placing a massive thumb on the scale with Citizens United).

    While there should be incentives for certain investments and research, debt, especially the leveraged buyout kind, should be discouraged rather than favored.

    We should let the incorruptible Bernie Sanders write our tax laws-- he is a big fan of small businesses, which are an important part of the state he represents, Vermont, yet he is fierce in fighting to stop the destruction of the middle class at the expense of those who have done nothing productive but simply extract wealth from those who produce it.

  • Report this Comment On April 01, 2011, at 6:07 PM, scheibeh wrote:

    The corporate tax rate should be reduced to a competitive level and the writeoff for previous year losses needs to be capped as it isa for individuals. Monies held overseas to avoid taxes by US corporations should be visible to auditors and taxed in the year earned whether or not they are brought into the US. Exemptions and credits need to be deleted except for those that directly affect the national interests of the US--the new lower rate (perhaps 20%) will for the most part offset these. Foriegn corporations doing business in the US, including US corporations with figurehead headquarters abroad, need to fall under the same tax code as domestic companies. Let's level the playing field for all corporations, enhance US competitiveness in the market place, and reduce the national debt.

  • Report this Comment On April 01, 2011, at 8:26 PM, 1MikeOz wrote:

    The flat tax is my answer as well. Something called the "Fair Tax" HR-25 I think has been around for years. Apply this to people and corporations (I hear they are people now too anyway!) to every entity doing business in the US, no exemptions!

  • Report this Comment On April 02, 2011, at 3:09 AM, runswithbulls wrote:

    The current tax code with the countless deductions and loopholes provides a "license to steal" for too many "good citizens" of this country. The CEOs earning multi-millions have become respected by the masses. The Financial Times 3/31/11 starts a major article on GE with "Under Jeffrey Immelt, GE has performed below par for nearly a decade......" To reform the tax code is no small task, but lack of reform will only result in loss of respect that we have literally fought for. We cannot delay reforms of our tax code. The system we have now is only corrupting the fragile system of values

    we have left.

    Runswithbulls

  • Report this Comment On April 02, 2011, at 3:19 AM, runswithbulls wrote:

    Good article, Mr. Housel!

    How about promoting terms limits in Congress? It is related to tax reform (essential!) as it limits the practice of gaming the system.

    Runswithbulls

  • Report this Comment On April 02, 2011, at 7:16 AM, twomuch2luz wrote:

    So, if I understand the article correctly; GE or any corporation can screwup and cause shareholders to lose significantly, but GE gets to offset their income entirely, yet the shareholders only get to use $3000 dollars a year of stock losses to offset gains? Perhaps I am missing something, but it appears the citizen taxpayer continues to be screwed in favor of laws drafted by wall street lobbys and our failed political system.

  • Report this Comment On April 02, 2011, at 8:53 AM, charlotta761 wrote:

    Be aware that corporations do not actually pay taxes. They just collect them for the IRS, taking the money from employees, suppliers and customers. How could they. They are really just legal entities. Corporate taxes are job killers, the worst of the taxes at undercutting economic growth.

  • Report this Comment On April 02, 2011, at 4:43 PM, davidcfood wrote:

    A Flat Goods and Services Tax, Tort Reform, Universal Health Care (not an insurance mandate), Transparency in Government, Social Security instead of a special retirement program for Politicians and Government Workers, a large helping of INTEGRITY.

    Unfortunately, the massively complicated tax code seeks to administer public policy, without the public's knowledge, or permission.

    Peace wouldn't hurt, either.

  • Report this Comment On April 02, 2011, at 7:36 PM, buffalonate wrote:

    The tax code is not broken. GE lost 30 billion due to the financial crisis. They get to carry those losses forward against future profits. It is simple and the media just used them to make up a story.

  • Report this Comment On April 03, 2011, at 2:11 PM, rocketman67 wrote:

    Flat tax......no loopholes. FWIW.

  • Report this Comment On April 04, 2011, at 11:34 PM, chaz572 wrote:

    The first and most important step: public financing of all elections, with all candidates BARRED from taking any donations of any kind. When the large corporations can't make the big donations, their lobbyists lose influence. When their lobbyists lose influence, our elected representatives can finally hear the voice of the people, and respond. When Congress begins truly acting in the best interests of all of its constituents, not just those who can make large contributions to the campaign war chest, the system finally can and will change for the better.

  • Report this Comment On April 05, 2011, at 8:49 AM, NinjaHamster wrote:

    @bluesguy84 That is one of the most stupid comments I have ever read ... anyone who "does business" in the USA is using your infrastructure and should pay your taxes ?? GREAT - let's use that theory ... Apple does "business" in at LEAST 40 Countries ... so they should pay each of those countries' taxes in addition to tax from the USA government ... same with any of your companies who "transgress" over USA boundaries ... Man, you should be running Bear Stearns - or maybe you have been ...

  • Report this Comment On April 06, 2011, at 11:16 AM, PartyPooper2 wrote:

    I I like neutrinoman's comment. I'd add that it's not only the big corporate boys who can work the system but only rich people in this society who can afford the financial experts who can reduce their tax bill. We currently have a system that only favors the rich, while at the same time adding more burden on those who provide the work. CEOs are useless without motivated workers, just as our government is useless without motivated companies. Kudos for clearing the air on GE. I've worked with GE. They are ruthless. But that's capitalism.

    I believe government is the problem. I'm a scientist for the government. I see the tremendous waste every day, and I also see how companies like GE are so much more efficient. Government is an inverted pyramid when it comes to work. 90% hot-air, and 10% work. If you choose to work, you're a threat to those who can only talk. To fluorish, you become another politician. Remember, Al Gore invented the internet. Taxes should only support Federal agencies that provide basic society support functions. Get business and research out of government.

    Summary: flat tax rate and no loopholes. Tax fairly and close the loopholes that only favor debt, housing, big families, and other loobied interests. Your income should be a personal choice and not one controlled by lobbyists.

    As for being a scientist, well that's another personal choice. I was going to suggest an incentive for education in science and engineering, but that would be a special interest for us eggheads. As a society, if we continue to value professional sports, movie stars, and financial wiz kids, then we WILL become second rate. Better invest in foreign stocks and consider moving overseas. I've worked hard and am proud of my accomplishments, but the personal sacrifices, especially in pursuing a doctorate, are extreme. Few will persevere with only a 12K salary to support them through their twenties.

  • Report this Comment On April 22, 2011, at 3:40 PM, Ryan68 wrote:

    Eyeballing your charts, as recently as 2006/7 corporate taxes were at the same level as the late 1970's.

    And, keep in mind, in a world of partnerships, S-corps, and LLC's you are focusing in on one type of business entity. Is The Motley Fool a C-corp.? And, should you not include taxes paid on dividends?

    How do you arrive at the statement that GE 'effectively' avoids the US tax code?

  • Report this Comment On July 18, 2011, at 2:02 PM, jacksprat2004 wrote:

    I own GE stock and when ever I get a dividend I am going to pay income tax on the dividend. So I really don't know why it is always stated that GE did not pay any tax. I as a stock owner am part of the GE company. The dividends come from the profits of the company so in tern the company (GE and me) pay taxes. I realize that not all the profits are paid out in dividends, some is reinvested in the company. So I guess what I am saying if I, as a GE stock holder has to pay taxes isn't that the same as GE payings taxes?

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