Pharmaceutical maker Pfizer is staying put, but other companies might follow Burger King and Chrysler and incorporate in another country.  Such corporate inversions reduce taxes owed to the U.S. and thus have been labelled a tax dodge.  I think that inversions demonstrate the need for an overhaul of our corporate tax system.

Businesses incorporate under the laws of a nation (and state laws in many countries including the U.S.).  Inversions occur when an American company reincorporates, and do not really affect day-to-day operations.  You probably did not notice when Burger King became a Canadian corporation in 2014, since they maintained their restaurants and employees here.  Sometimes a company’s top management will not even relocate.  Inversions differ from the movement of factories, data centers, or call centers (and consequently jobs) out of the U.S.

The Johnson Center’s Courtney Michaluk recently examined the link between inversions and corporate taxes in a study for the Mercatus Center at George Mason University.  I think that the link is strong.  Managers have a responsibility to stockholders to take legal steps to reduce taxes, and have done so for a long time.  Inversions began in the 1990s, when other nations started cutting their corporate taxes.

The U.S. is one of only three developed nations to not cut corporate taxes over the last 15 years, and now has the highest rate at 35%.  Many states add their own corporate tax to this; Alabama’s rate is 6.5%.  Additionally the U.S. is one of just six developed nations which tax corporate income earned internationally.  The details here will bore anyone except an accountant, but this, combined with our high rate, gives U.S. companies with significant international earnings an incentive to invert.  Burger King now only pays U.S. taxes on income earned in the U.S.

With the Federal government $19 trillion in debt, every dollar in potential tax revenue can appear indispensable, and we might think that rich corporations can afford extra taxes.  But corporations involve many individuals, including employees, managers, stockholders, suppliers, and customers.  These individuals, many of whom are not rich, eventually pay corporate taxes.  Who bears the burden of corporate taxes?  Economists who study this question are not sure.  The best guess is stockholders.  But stockholders are not all rich capitalists, and include average Americans who own stock or have a pension plan invested in stocks.

Despite high tax rates, the corporate income tax collects relatively little revenue (only 11% of all Federal tax collections).  The tax is rife with credits and exemptions secured from Congress in exchange for campaign contributions.  The high tax rates reduce income creation (and drive inversions) by businesses unable to secure exemptions.  The corporate tax is a core element of crony capitalism.

Could the government just prohibit inversions?  The Treasury Department has tried, and announced new efforts earlier this year.  The Treasury did close the loophole used in some of the first inversions in the 1990s.  But more recent inversions have occurred following mergers with European or Canadian firms: Chrysler with Daimler, Burger King with Tim Horton’s, and Pfizer’s contemplated merger with Allergan.  Mergers have important economic benefits, so a prohibition on all mergers would be quite harmful.  Yet managers will inevitably consider taxes in deciding where to incorporate.  Consequently preventing mergers done only for tax purposes proves impossible.

Inversions are the tip of the iceberg of the economic cost of business taxation.  We benefit when businesses create value by introducing new goods and services, improving existing products, reducing costs, improving customer service, or make their workplaces safer.  In a market economy, businesses profit when they create value.  Yet the corporate income tax makes tax avoidance beneficial, regardless of the value created.  Securing a tax break can become more profitable than introducing a new product.

Every hour that executives spend thinking about avoiding taxes is an hour they don’t spend thinking about improving their business.  Economic growth slows as a consequence, ultimately leading to lower standards of living.  Regardless of whether corporations continue to find ways to invert, we all lose from the corporate tax game.

Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision.  Respond to him at dsutter@troy.edu and like the Johnson Center on Facebook.