Should corporations be taxed?
To some this is a silly question…yes. To economists the question is unclear. When corporate income is taxed and it is taxed when there are dividend payments or capital gains. On the other hand there is the benefit of limited liability of corporations. Bias toward debt finance There is a bias toward debt finance when corporate income is taxed. To see why, think about two different firms. Suppose that one is an all equity firm and the other that is 50% equity, 50% debt. Suppose also that both need $1 million in capital and generate $150,000 in income. Assuming that the interest rate is 10% then the interest payments on that debt are $50,000. Since interest is deductible then the taxable income for the all equity firm is the entire $150,000 where as the taxable income for 50-50 firm is $100,000. Assuming a 34% tax rate then the after tax income to the all equity firm is $99,000 whereas its $66,000 to the 50-50 firm. That would seem to say that firms would make more money with equity rat
