On Corporate Taxes, Put the Public in Publicly Traded: View

How can you tell how much federal income tax a publicly traded company pays in a specific year? You can’t.

Writing in the Washington Post last month, journalist Allan Sloan suggested this can be corrected by demanding that the Financial Accounting Standards Board require companies to disclose this number. This was a follow-up to his critique of a New York Times article published in March reporting that General Electric Co. (GE) had paid no U.S. income tax in 2010.

Sloan asked for anyone who supports his call to stand up and be counted. And so we endorse Sloan’s idea and will up the ante: Make the income-tax returns of all companies with shares traded on U.S. stock markets available to the public.

It’s not such a radical idea. In fact, it would restore the intent of the law when the first permanent federal corporate income tax was adopted by Congress in 1909, stating that returns “shall constitute public records.” Over the years, legal rulings and regulations placed limits on disclosure. An impermeable wall was erected in 1976 in response to the Nixon administration’s misuse of tax returns to harass those on its notorious “enemies list” of journalists and anti-Vietnam War protesters, according to a 1981 study by Boris Bittker, a now-deceased professor at Yale Law School.

Cookie Jar

That has left us with the current sorry state of U.S. financial reporting: Although U.S. company financial statements are choked with numbers on taxes, they omit critical and needed information. There is an entry for how much cash is paid in taxes, but no indication to whom or where. There is another line known as the provision for taxes. This is little more than a cookie jar that companies can use to stuff with money for pulling out later as needed.

Making corporate tax returns public would enhance investor understanding of how a company makes money. It might even lead to changes that would lower the cost of doing business.

Here’s why. Today, there are two sets of books for keeping track of a company’s financial performance. These parallel universes are, in many ways, at odds with each other. One reporting system suits the purposes of the Internal Revenue Service, whose goal as the tax collector is to maximize income and thereby increase its claim. The other, known as generally accepted accounting principles, contains the information now made available to the public and investors. The goal of this system is to keep taxable income in check while preventing investors from being deceived.

Financial Clarity

Mihir A. Desai, a professor of finance at Harvard Business School, says public regulators should consider reconciling most of the differences between the two reporting systems. This would provide more financial clarity, and let companies spend a lot less time taking the same information and shaping it to conform to different rules.

Disclosing corporate tax returns might be a simpler alternative. It may well accomplish something beyond the reach of the IRS: intense scrutiny by private investors, the best financial minds in the world.

Companies are sure to resist, insisting that making their returns public would divulge proprietary information.

To which we would ask: What exactly are the secrets hidden in a company’s tax returns? A drugmaker doesn’t disclose the molecular formula for a new medication in its tax filings. A software maker doesn’t include the code for a novel program that makes Web searches faster.

No, the main secrets in corporate tax filings are the dodges that companies and their auditors cook up to game tax collection. Indeed, recent history is full of examples of companies and accounting firms creating phony losses to lower taxable income. In even more perverse cases, unprofitable companies such as Enron Corp. goosed their returns to make it look as if they had taxable income.

Unique Strategies

But in those rare instances when a company can convince the IRS that its tax strategies are unique and need protecting, there can be a provision for keeping that part of a return confidential.

As for the privacy rights, we wouldn’t advocate public disclosure of personal tax returns. More importantly, there should be an honest acknowledgement of the difference between individuals and businesses. In spite of recent court rulings, which disingenuously conflate personal freedoms with corporate rights, companies aren’t people and never will be.

To contact the Bloomberg View editorial board: view@bloomberg.net.