Discouraging the Birth of Business Entities

While returning, this weekend, to the long-standing question of what sort of official entity Anchor Rising should become, I whittled down my understanding of the relevant tax law to what I believe to be its basic statement: Once one creates an entity, in Rhode Island, that entity is subject to fees and taxation.

An individual can procure from the IRS an Employer Identification Number (aka, a Taxpayer Identification Number) in order to act under an assumed name, and as long as his or her product is not taxable (as via sales taxes), the state need not be involved. Once, however, the business becomes an entity distinct from the individual — whether by joining multiple individuals in a partnership or through the creation of a corporation — various registration fees kick into play, as does the "minimum corporate tax."

The significance of the change is most conspicuous in the cases of pass-through business, such as limited liability companies and S-Corps. As a matter of general taxation, the profits of such businesses are claimed via the income tax filings of partners and owners, but in Rhode Island, they must first shave off the (currently) $500 minimum tax. In other words, even though the business entity itself has no actual income, it must pay $500.

This experience relates to a recent column by Steve Forbes:

... The U.S. has one of the highest profits levies in the developed world: 35% at the federal level, with another average of 5% from state and local taxes. Only Japan has worse. In contrast, Ireland's rate is a mere 12.5%. Imagine the howls from congressional Democrats if Barack Obama were to suggest enacting such a low corporate tax rate in the U.S.

But the accompanying table tells an eye-opening tale: Ireland's corporate tax take as a portion of its economy is higher than that of the U.S. High rates breed pressure for ever more complicated exemptions and ever more ingenious ways to avoid Uncle Sam's tax bite. But an Irish-like rate leaves companies to focus brainpower on growing their businesses instead of on jousting with tax collectors. ...

Mark Steyn seconds Forbes's assessment of tax avoidance and adds the matter of beginning businesses at all:

To a certain type of simple-minded populist, the idea of soaking vast faceless corporations is appealing. But in the end a "corporation" cannot pay tax: The Globocorp corporate HQ looming in chrome and steel over the skyline does not have a pocket to dip into. Like all taxes, the actual cash has to be ponied up by flesh-and-blood human beings - the owners, workers and employees of the corporation. The growing gap between US corporate rates and other developed nations is a massive disincentivization for real human beings to start and grow a business here. And for those already here it encourages the kind of short-term thinking that leads to Bailoutistan and American sclerosis.

It's an easy sell, I guess, to tax a non-human business "entity," but it isn't really possible, because such entities don't exist outside of abstraction. A company is essentially a mechanism within which human beings act, and its construction will be managed to serve the interests of the flesh-and-blood people who use it.

If we at Anchor Rising were to behave rationally, as an Internet-based organization with no manufacturing operations, we'd incorporate elsewhere (for liability reasons) and become The Other Side of Hope in Rhode Island... in Nevada (or wherever). The entity doesn't really "do business" in Rhode Island. With our server in Texas and our incorporation in some other state, in no tangible sense would our advertisers and sponsors be engaging in transactions with a Rhode Island company, even though they'd be trying to reach a Rhode Island audience seeking information relevant to Rhode Island communities, written by Rhode Islanders.

By contrast, if Rhode Island's corporate tax structure didn't entail regular payments from organizations with no income, and if its regular rate were more competitive with those of other states, then rational organizations from other states would have incentive to be "from Rhode Island." Mainstreamers and progressives alike speak often of building up New Economy industries in this state, but they've shown little inclination to acknowledge the incentives to which such businesses — arguably characterized by their ability to locate anywhere — will respond.