What Is Corporate Tax?

A corporate tax is a levy placed on a firm's profit by the government. The money collected from corporate taxes is used as a nation's source of income. A firm's operating earnings are calculated by deducting expenses, including the cost of goods sold (COGS) and depreciation from revenues. Next, tax rates are applied to generate a legal obligation that the business owes the government.

Rules surrounding corporate taxation vary greatly worldwide, but they must be voted upon and approved by a country's government to be enacted. Some areas, such as Jersey, are considered tax havens and, as such, are heavily prized by corporations.

Key Takeaways

  • Corporate taxes are collected by the government as a source of income.
  • Taxes are based on operating earnings after expenses have been deducted.
  • The corporate tax rate in the United States is currently at a flat rate of 21%. Before the Trump tax reforms of 2017, the corporate tax rate was 35%.
  • A company can register as an S corporation to avoid double taxation. An S corporation does not pay corporate tax as the income passes through to business owners who are taxed through their individual tax returns.

Understanding Corporate Tax

The federal corporate tax rate in the United States is currently a flat 21%, thanks to the Tax Cuts and Jobs Act (TCJA), which President Donald Trump signed into law in 2017 and which went into effect in 2018. Previously, the maximum U.S. corporate income tax rate was 35%.

U.S. corporate tax returns are typically due March 15. Corporations may request a six-month extension to file their corporate tax returns in September. Installment payment due dates for estimated tax returns occur in the middle of April, June, September, and December. Corporate taxes are reported on Form 1120 for U.S. corporations. If a corporation has more than $10 million in assets, it must file online.

Because of the coronavirus pandemic, the IRS extended the April 15, 2020, tax filing deadline for individuals and businesses to July 15, 2020. Businesses that need an extension to file beyond that date must fill out Form 7004; an extension to file is not an extension to pay taxes owed. Most states also extended their 2020 tax filing deadlines for individuals and businesses, but check your state's deadline; Idaho, for instance, set a filing date of June 15. The deadline for estimated federal tax payments normally due by June 15, 2020, was also extended, without penalty, to July 15, 2020.

Corporate Tax Deductions

Corporations are permitted to reduce taxable income by certain necessary and ordinary business expenditures. All current expenses required for the operation of the business are fully tax-deductible. Investments and real estate purchased for the intent of generating income for the business are also deductible. A corporation can deduct employee salaries, health benefits, tuition reimbursement, and bonuses. In addition, a corporation can reduce its taxable income by deducting insurance premiums, travel expenses, bad debts, interest payments, sales taxes, fuel taxes, and excise taxes. Tax preparation fees, legal services, bookkeeping, and advertising costs can also be used to reduce business income.

Special Considerations

A central issue relating to corporate taxation is the concept of double taxation. Certain corporations are taxed on the taxable income of the company. If this net income is distributed to shareholders, these individuals are forced to pay individual income taxes on the dividends received. Instead, a business may register as an S corporation and have all income pass-through to the business owners. An S corporation does not pay corporate tax as all taxes are paid through individual tax returns.

Advantages of Corporate Taxation

Paying corporate taxes can be more beneficial for business owners than paying additional individual income tax. Corporate tax returns deduct medical insurance for families as well as fringe benefits, including retirement plans and tax-deferred trusts. It is easier for a corporation to deduct losses, too. A corporation may deduct the entire amount of losses while a sole proprietor must provide evidence regarding the intent to earn a profit before the losses can be deducted. Finally, profit earned by a corporation may be left within the corporation, allowing for tax planning and potential future tax advantages.