Key Takeaways

  • Corporations are separate legal entities and must pay taxes on profits that are not deductible as business expenses.
  • Taxable profits include retained earnings and dividends, which may be subject to double taxation.
  • Corporations reduce taxable profits through deductions such as salaries, benefits, depreciation, and operational costs.
  • While the federal corporate tax rate is 21%, effective tax rates are often lower due to credits, deductions, and tax strategies.
  • Some corporations minimize U.S. taxes through tactics like profit-shifting, use of overseas subsidiaries, or incorporation in low-tax jurisdictions.
  • State corporate tax rules vary; for example, Florida imposes both federal and state-level corporate taxes.
  • Economists debate who ultimately bears the corporate tax burden—shareholders, workers, or consumers.

A common question from business owners is "how do corporations not pay taxes?" Corporations are separate legal entities from their owners, and therefore the company itself is charged a tax on all its profits that cannot be deducted as business expenses. This means a large portion of the corporation's income can potentially be taxable by law.

Corporations are treated differently than many other business structures when it comes to taxes. Rather than paying taxes on business profits, the other business entity types are able to pass profits onto the owners of the businesses, who are then responsible for paying taxes on their own personal tax returns.

What Are Taxable Profits?

Typically, taxable profits consist of the company's profits and retained earnings kept by the company to pay for business expenses or expansion of the company. The profits also include dividends that are paid to the owners and shareholders of the company.

Double Taxation of Corporate Profits

One of the most debated issues in corporate taxation is double taxation. C corporations pay federal income tax on their earnings, and when those profits are distributed to shareholders as dividends, shareholders must also pay personal income tax on those amounts. This creates two layers of taxation on the same income. Smaller corporations often avoid this issue by compensating owners through salaries and bonuses, which are deductible business expenses, rather than dividends. However, large corporations with many shareholders cannot easily bypass this structure.

How to Reduce Taxable Profits

One way to reduce the amount of taxable profits, and ultimately the amount of taxes paid, is for the corporation to deduct business expenses. Some of the business expenses that fall under this category include:

  • Startup costs
  • Operating expenses
  • Product costs
  • Advertising expenses
  • Employee salaries
  • Employee profits
  • Employee medical costs paid by the company
  • Employee retirement plan costs paid by the company

The corporation will only owe taxes remaining on the profits after all of the expenses for the business have been accounted for and deducted from the profits.

Common Corporate Tax Breaks and Deductions

Beyond standard deductions like wages and benefits, corporations often take advantage of targeted tax breaks:

  • Depreciation rules: Accelerated depreciation lets companies deduct the declining value of equipment faster, reducing taxable income in early years.
  • Industry-specific incentives: Renewable energy companies may qualify for energy tax credits, while tech firms benefit from research and development (R&D) credits.
  • State-level incentives: Many states offer credits to attract or retain businesses, including job creation credits, property tax abatements, or investment incentives.

These deductions significantly lower effective tax rates, which is why many corporations pay far less than the statutory 21% federal tax rate.

How Corporations Are Taxed

When a corporation has after-tax profits, there are typically two options for how to spend them. The first option is to return the profits to their shareholders, who are the owners of the corporation, including all the people who hold company stock. The second option is to keep the profits, turn them into retained earnings, and reinvest the money into the business to facilitate growth. The latter option is also worthwhile for the shareholders, as the investment will help grow the business and ultimately increase the price of the company stock.

It's important to note that the profits used in these two options are after-tax. The company must first pay taxes on the profits before investing the profits back into the company or paying them to the shareholders as dividends. This can be problematic, as it greatly reduces the amount of profits that the company retains.

Who Really Pays the Corporate Tax?

Although corporations are legally responsible for paying corporate income tax, economists debate who ultimately bears the burden. Studies suggest that part of the tax may be passed on to:

  • Shareholders, through lower dividends or stock values.
  • Workers, through reduced wages or fewer job opportunities.
  • Consumers, through higher prices on goods and services.

This shifting of tax burdens means that while the corporation writes the check to the IRS, the economic impact often falls on individuals.

How to Pay Corporate Taxes

When filing taxes for a corporation, the taxes are paid at the corporate income tax rate. The United States corporate tax rate is among the highest in the world, topping out at 35 percent. The countries that come close to the same tax rate include France and Belgium. However, even at the high corporate tax rate, many United States corporations pay far less than 35 percent of their profits.

Recent studies show that the average company paid only about 18 percent in taxes. This is partly due to loopholes and companies becoming extremely savvy in tax practices. Some corporations have become quite crafty at finding ways to reduce their owed taxes. These companies have found ways to boost equipment expenses by accelerating the depreciation of their equipment. Another tactic is to use overseas operations to show increased expenses. Some corporations even incorporate outside of the United States where the corporate tax rate is much lower. A corporation may also attempt to reduce taxes by utilizing various corporate tax breaks within certain industries.

Another frequently used strategy is to hold the cash that has been earned in internal business practices. If the company were to bring these profits back into the United States, they would be forced to pay taxes on them. Utilizing overseas subsidiaries has proved to be a key way for some large technology companies to avoid paying taxes on a large portion of their sales and profits.

Federal vs. State Corporate Taxes

Corporations must consider both federal and state tax obligations. At the federal level, all C corporations pay a flat 21% income tax. At the state level, rules vary significantly:

  • Some states, such as Florida, levy a corporate income tax in addition to federal taxes. Florida’s corporate tax rate is 5.5%, though deductions and credits often reduce the effective burden.
  • Other states, like Nevada and South Dakota, impose no corporate income tax at all, creating incentives for companies to incorporate there.
  • Multistate corporations must allocate income across jurisdictions, often using complex apportionment formulas.

Understanding these layers of taxation is essential for compliance and for structuring operations in a tax-efficient way.

How to File Corporate Taxes

The corporation should use an IRS Form 1120 to file taxes. Any taxes owed by the corporation should be estimated for the year and should make payments to the IRS each quarter. This is done in April, June, September, and January.

International Tax Strategies

Some corporations legally minimize their U.S. tax obligations by shifting profits overseas. Common strategies include:

  • Offshore subsidiaries: Profits earned abroad may be held overseas to defer U.S. taxation.
  • Inversion transactions: A U.S. company may merge with or relocate its headquarters to a foreign country with lower corporate tax rates.
  • Transfer pricing: Multinational corporations allocate profits among subsidiaries in different countries, sometimes moving profits to jurisdictions with favorable tax regimes.

While recent tax reforms have sought to limit these practices, they remain significant tools for reducing corporate tax liability.

Frequently Asked Questions

  1. Do corporations pay taxes in every state?
    Not always. While all corporations pay federal taxes, state corporate tax obligations vary. Some states have no corporate income tax, while others impose rates from 3% to over 9%.
  2. Why do some corporations pay little or no taxes?
    Corporations reduce taxable income through deductions, credits, accelerated depreciation, and international tax planning. These strategies often lower their effective tax rate.
  3. What is double taxation in corporate taxes?
    Double taxation occurs when a corporation pays taxes on profits, and shareholders also pay personal income tax on dividends distributed from those profits.
  4. Who ultimately pays corporate taxes—companies or people?
    Although corporations pay taxes directly, the economic burden often falls on shareholders, employees, and consumers through reduced returns, wages, or higher prices.
  5. How do international tax strategies affect U.S. corporate taxes?
    Many corporations shift profits overseas or incorporate in low-tax countries to minimize U.S. taxes. These tactics can defer or reduce tax liability but face increasing regulatory scrutiny.

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