Rethinking Taxing Excess Profits

Abstract

This article discusses the application of excess profit taxes (EPTs, also referred to as windfall taxes) that have gained renewed interest and popularity over the past several years. The revival of these windfall taxes gained renewed interest following the COVID-19 outbreak, which led to a sharp price increase in corporate revenues of medical equipment and within pharmaceutical industries. However, the revival of such taxes was also used following the recent rise in energy prices mainly in Europe, leading to a sharp increase in corporate revenues of energy corporations and the recent surge in borrowing interest rates that was not accompanied by a corresponding increase in lenders’ interest rates which, in turn, led to a sharp increase in the corporate revenues of the banking sector.

Not only are these taxes viewed as a means to finance governmental needs, but they also assist the federal government in supervising large scale and sophisticated cross-border taxpayers that possess significant economic and political powers. The main criticism is that the corporations that become exceptionally profitable do not hesitate to exploit their monopolistic powers and inflate their prices.

This article therefore questions the extent to which EPTs can be used to combat the “curse of bigness” (in paraphrase to Louis Brandeis’ greatest critique on the “curse of bigness,” which he viewed as a menace to liberty and democracy) and restore one of the principal justifications in the legislation of the corporate tax code as a “supervisory control of corporations which may prevent a further abuse of their power[s].”

The introduction of windfall taxes dates back more than a century ago to the early phase of World War I (WWI)—a period in which corporate income tax was in its infancy—by more than dozens of countries that adopted some kind of above standard/normal returns, primarily in Europe but also by North American countries. The first imposition of EPTs on food exporters was by Denmark in 1915, which imposed taxes on Danish food exporters that received an exceptional trade permit to trade with Germany during the first World War. More countries followed suit and imposed similar taxes The notion was that such taxes minimize the enrichment that had been attributed to taxpayers who traded on the “world’s misery” and, as such, were viewed as important means to increase governments’ tax revenues when governments desperately needed to increase their revenues to support national efforts.

However, as soon as the period of war/crisis ended, many of the countries that imposed EPTs repealed them because they were highly controversial and sharply criticized by business and commercial sectors. These taxes were not revived or re-imposed unless crisis conditions existed, and for this reason, many of the windfall taxes that were imposed by different countries, following the period of the two world wars, were imposed on a temporary basis.

This article also argues that exceptional corporate profitability primarily results from a monopoly or quasi-monopoly status, a political crisis, or natural disasters that are a significant extent “undeserved” (i.e., the result of luck or political power) and cannot be attributed to corporate behavior. However, the imposition of EPTs does not lead to behavioral changes, especially when the goods or services that the corporations provide are viewed as essential (that is, they meet the population’s basic needs). Therefore, the EPTs’ corporate incidence is shifted to the end customers, potentially increasing regressivity. This article also argues that EPTs may unintentionally discourage corporations from innovative, entrepreneurial decision-making, especially in respect of activities that are inherently risky, and thus may disincentivize investments in research and development.

This article therefore examines the recently enacted (or proposed to be enacted) EPTs by dozens of countries (both developed and developing) and proposes certain necessary adjustments to an archaic design, which might have worked well a century ago but no longer does, and will decrease unintended spillover effects to alleviate concerns about EPTs base erosion and tax competition.

I. Introduction

In recent years, dozens of countries have enacted/proposed taxes on the excess profits that corporations earn from events that are not under their control. For example, the European Union (EU) imposed a tax on the excess profits that energy companies realized from the Ukraine war. Several other European countries and Israel have imposed/proposed excess taxes on the financial sector profits resulting from high interest rates. In the United States, there have been proposals for taxation of excess profits resulting from the pandemic and later from high gasoline prices. These taxes are all modeled on the excess profit taxes (above-normal returns) that were enacted by many belligerent countries in Europe and North America at the beginning of the previous century and during the two world wars.

There are two typical ways in which above-normal returns are measured. The first is to decide on a normal return to capital and labor and tax only the excess above that “normal” or “standard” return. A recent example that may clarify this would be the GILTI (global intangible low tax income) tax in the United States and Pillar I of the OECD BEPS (Base Erosion and Profit Shifting) project, which taxes profits above 10%. The second methodology is to choose a period of time before the exceptional and unexpected event (such as wars, natural or ecological disasters, pandemics and others) and compare the profitability rates or profits between the two periods and tax only the excess of the average profits or profitability rates in addition to the normal corporate tax rate.

The first challenge regarding EPTs seems practical. However, it touches on a more conceptual issue. Neither of the methods outlined above have worked well. The normal return method is flawed due to the need to define what a normal return is and achieving a consensual formula, which may be difficult. Furthermore, a generic formula that would determine above-normal returns may be arbitrary for many sectors, whereas adoption of a complex formula may be easily manipulated, difficult to enforce and audit, and subject to high litigation costs. There is a big difference in determining above-normal returns based on the magnitude of the returns or profits compared to the profitability rates. Determining the magnitude of the returns or profits varies greatly between various business sectors, and to a certain extent, depends on the economies of scale, meaning that large corporations generally generate greater returns (and often generate higher profits) regardless of the actual profitability rates. That is, a corporation that sells one billion widgets that purchases the widgets at nine dollars and sells them for ten dollars generates one billion dollars of profit, whereas a similar corporation that purchases the widgets at one dollar and sells them for two dollars earns far less but has a much higher profitability rate.

Furthermore, measuring above-normal returns or profits based on the taxpayer’s sizeable profits can easily be manipulated by simply splitting up the corporations to avoid the threshold. For this reason, the United States chose to adopt a mandatory consolidated returns approach for tax purposes during WWI. Such manipulation (EPT base erosion) can also be achieved without a formal split by shifting deductions or income among affiliated companies. Similarly, determining the above-normal returns based on profitability rates presents challenges because profitability rates vary greatly among different sectors and do not necessarily consider additional critical factors, such as the risky nature of the activity and the ability to accurately differentiate between those different sectors, in order to deter taxpayers from engaging in activities that do not necessarily increase the profits but reduce the overall corporate profitability rate.

The challenge in determining above-normal returns or “excess profits” goes beyond the technical discourse and is rather conceptual. The assumption behind EPTs is that the normal return is the result of the corporation’s (i.e., corporate management’s) own efforts and is therefore “deserved.” Any excess return is the result of external events and therefore can be viewed as “undeserved.” But this distinction is misguided and may also discourage corporations from entrepreneurial decision-making that is inherently risky (but potentially very profitable and promotes economic growth and increases social progress and global welfare). A large amount of literature has shown that most high corporate profits are rents, i.e., result from monopoly or quasi-monopoly status, political crisis, or natural disasters that are significantly “undeserved” (the result of luck or political power) and cannot be attributed to corporate managerial behavior. Furthermore, since such windfall taxes are charged for goods and services that cannot be substituted, the imposition of such taxes is assumed to be without significant behavioral effects and therefore is an efficient way to increase revenues despite the regressive nature of such taxes and would generally result in increasing government tax revenues while still being economically worthwhile for the corporations and their stakeholders.

A second challenge touches on the interaction between the corporate income tax and the EPTs, specifically the question of who bears the burden of the corporate income taxes. The corporate income tax was introduced more than a century ago to regulate corporations’ operations and possibly limit their powers. By contrast, the imposition of EPTs were introduced to combat enrichment of corporations that abuse their market power by overpricing their goods and services thereby taking advantage of the world’s misery and suffering.

There is a large volume of literature on corporate integration and on the question of who bears the burden of the corporate income tax. However, it seems that while the answer to the question of who bears the corporate income tax on normal returns has yet to be conclusively revealed, there is a consensus that the shareholders bear the corporate income tax incidence as to the additional corporate profits because a corporation in a monopolistic position can already raise prices and lower salaries with relatively little interference. Consequently, all the additional profits from its monopolistic status belong to the shareholders, and taxation of excess profits is not only efficient but also progressive.

Over the past several decades, different voices have attributed the corporate tax incidence to the shareholders, corporate employees, corporate customers and other corporate stakeholders. Supplementing EPTs to corporate income taxation as an additional layer of taxation or as a surcharge would naturally complicate the operation and interaction between the different taxes, affect the overall tax burden, and possibly affect the way in which the tax receipts should be allocated in the cross-border context.

And that brings us to a third challenge that was not that significant a century ago but is more relevant these days, which is the increasing mobility of both physical and human capital, making the cross-border race to the bottom more significant and possibly (perhaps even easily) erode EPTs tax base. While the issue of intercompany transactions was not as important a century ago (especially because most corporate taxes and EPTs were traditionally imposed on a territorial basis), we now live in an era of globalization with high capital mobility, and applying the consolidation approach is probably not enough in the cross-border context. Therefore, the imposition of EPTs, in our view, also calls for revaluation of the methodology that could address EPTs base erosion in the cross-border setting. That is why we believe that EPTs offer a good opportunity to reevaluate the existing flawed transfer pricing regime, which is based on the unrealistic arm’s length approach, and instead adopt an alternative regime (like unitary approach/consolidated basis) that would be based on formulary apportionment methodology.

However, as we stated before, achieving a formulaic consensual approach in the domestic context is challenging, whereas achieving it in the cross-border settings is even more complicated. That is why there have been several voices among tax scholars who recommend adopting a global coordinated measure that would not allow corporations to erode EPTs’ tax base and have called for a multilateral initiative. While we believe that a multilateral operation would be clearly beneficial, we also believe that successful implementation of such taxes domestically or in the cross-border context does not require a multilateral approach and can also be imposed unilaterally with limited coordination.

This article also challenges the justification for the revived application of these taxes throughout the past several years by examining the justification for imposing EPTs on a transitory basis and the experience gained in (and the literature that supported) the countries that had imposed these taxes over the past century following the two world wars. Part II provides a historical overview of the various versions of EPTs imposed by countries over the past century (since the early phase of WWI) and the recent revival of EPTs. Part III classifies the two dominant formulas used by countries during the past century in identifying the normal profits of corporations that would not be subject to EPTs on one hand and the supernormal profits that would be subject to such taxes on the other. It then raises the main conceptual problems that arise under any of such formulas and identifies technical/formal problems that arise under any of the formulas, as well as additional conceptual issues presented from the application of such taxes on a temporary versus permanent basis. Part III also summarizes the main characteristics that EPTs should adopt for them to be viewed as furthering optimal tax policy. It also characterizes such taxes as corrective taxes that are designed to assist taxpayers in understanding the positive and negative externalities that can result from the EPTs’ application to the taxpayers’ operations. It then views the regulatory framework that was developed to encourage development of inventions, especially in light of the significant resources that are invested in R&D processes that often amount to nothing but, if successful, can result in revolutionary breakthroughs that benefit society in general.

Part IV offers a comprehensive model that addresses the fundamental risks associated with the way in which EPTs are currently imposed. We also explore whether such taxes should be imposed on a temporary or permanent basis, whether globalization may impact such taxes, and whether a successful imposition of such taxes can be achieved absent a multilateral cooperation of different countries. part V concludes and proposes additional measures that address the inherent regressive distributional impact of EPTs both domestically and internationally.

II. Historical and Contemporary Perspectives

Over a century ago, dozens of European and Northern American countries introduced excess profits taxes (also known as war profits taxes) in an effort to fund the war effort in the early phases of WWI. These taxes were all modeled on the excess of profits on the assumed “normal” profits (average returns of these corporations in a period before war started). However, as soon as the crisis/war times were over, such taxes were very difficult to justify/defend during a time of peace and were repealed, or their sunset provisions came into effect.

In his war budget speech, then Great Britain Minister Lloyd George justified the imposition of “war taxes” in the following remarkable statement:

During the war and during the period of reconstruction . . . I think we can look forward to something like four or five years when the industries of this country will have the artificial stimulus which comes from these abnormal conditions . . . I want to impress upon the Committee with all the earnestness at my command that it is desirable that the nation, during this period of inflation, should raise as much money out of taxation as it can be induced to contribute. It is easier to raise taxes in a period of war and to lower them in a period of peace than it would be to raise even lower taxes in a period of peace. War is the time for sacrifice, and that makes a difference. It is a time when men know that they are expected to give up comforts, possessions, health, limb, life all that the State requires in order to carry it through the hour of its trial. It is a time of danger, when men part willingly with anything in order to avert evils impeding on the country they love. Every twenty million raised annually by taxation during this period means four or five million taken off the per thereafter imposed on the country. Inflation is a nasty by-product of war, a result of war spending, and of the errors of war finance. Inflation spreads its influence unevenly from class to class and from man to man, enriching some and impoverishing others. It is undoubtedly less disturbing, at a time when the least possible disturbance of industry is highly essential, to gather some of the needed extra revenues from those who profit by the irregular rise in prices than it would be to in- crease the general taxes. Those who get rich from war inflation can certainly well afford to pay war taxes. To use the phrase of the street, “a good way to get money for the government is to take it from those who have it.”

Historically, the first EPTs were imposed by the Danish and the Swedish governments at the early phase of WWI. Such taxes were imposed on traders’ large and extraordinary profits, especially on exporters that supplied the needs of Germany. During WWI these Danish and Swedish traders had exceptional opportunities for profits because Germany was desperate for food resources. That is possibly why the tax was also referred to as the Goulash tax or the “stew tax.” The limited resistance of the tax and the significant increase in governments’ tax revenues led other belligerent countries, on both sides of the fight, to adopt similar taxes.

Even though the imposition of these taxes was not coordinated multilaterally by these countries, all such taxes shared similar characteristics, including imposition on a transitory basis, the “supernormal” profits that were generated during the times of crisis (the definition of what was considered to be supernormal/excess profit varied greatly among the different countries, but the most common definition compared profitability rates before the war and during the war), a fixed or a variable rate of taxation (depending on specific income brackets), and the tax on a territorial basis.

Despite the imposition of such taxes (which naturally reduced the after-tax profitability of these taxpayers), taxpayers still reaped substantial rewards. For example, less than half of the countries imposed a fixed rate of 50% or less, and while some countries imposed a fixed rate above 50% of the supernormal returns, none of these countries imposed a tax at a rate exceeding 100% of the profits (the highest rate was imposed by the United States at a fixed rate of 95%).

For 1910-1914 in the UK, the pre-tax average return to equity was 10.14 percent compared to more than double this figure at 25.78 percent for 1915-1918. The corresponding after-tax return ratios were 9.77 percent and 14.8 percent, respectively. In the UK, Billings and Oats (2014) report that EPT revenue was 32 percent of total revenues in 1918 (or 4.5 percent of GDP). In the United States, revenues from the EPT in 1943, for example, reached approximately 22 percent of total receipts, or 2.2 percent of GDP (Ratchford, 1945). Fast forward to today’s EPTs, for example, the increase in the windfall profit tax under the 2022 UK Energy (Oil and Gas) Profits Levy Bill is estimated to raise extra revenue of £5bn in the first 12 months of its operation (total receipts were £718.2bn in 2021), while the cost of the government’s package to support the cost of living is estimated at £37bn (House of Lords Library, 2022).

This means that regardless of the imposition of the tax, corporations were still better off selling their products and rendering their services even if they were overpriced (by reference to previous actions), and governments were better off as their governmental receipts increased from the imposition of these taxes at the expense of the customers/service recipients (who paid higher prices). Moreover, even though most EPTs were repealed/revoked as soon as the war/crisis period ended, the imposition of various forms of EPTs did not end during the period of the two world wars. A revival of such taxing measures can be also seen throughout the past several years during the global pandemic. Recently, the EU has imposed a tax on the excess profits of energy companies stemming from the Ukraine war. Several other European countries and Israel have proposed or imposed excess taxes on financial sector profits resulting from high interest rates. In the United States, there have been proposals for taxation of excess profits resulting from high gasoline prices.

Based on the IMF Report, there are now dozens of countries all throughout the world that impose EPTs, which are predominantly calculated as profits above a certain benchmark rate of return or a specified ratio between cumulative revenues to cumulative expenses. EPTs are applied either before or after the corporate income tax is calculated (most of which take into account the taxes paid as a deductible expense in computing the other tax). Also, based on the IMF Report findings, the average EPT rate by these counties is 25% and a threshold of 14%. What we also find quite striking is that the average top/marginal EPT rate is 58%, and the top profitability threshold is 28%. That is why such taxes generally have a very limited behavioral impact and why governments mainly view it as a means to support its financial needs.

Also, the IMF Report suggests that most EPTs are designed on a temporary basis, and not on a permanent basis. In our view, enacting such taxes on a temporary basis is distortive and increases biases and manipulation even though enactment of such taxes on a permanent basis might be less popular and would not necessarily gain the popular support, especially if such taxes would lead to price increases. Nevertheless, in our view (as we will elaborate more in Part V), enactment of EPTs on a permanent basis would achieve more certainty and reduce arbitrariness. Therefore, assuming such taxes are adopted, their adoption should be made on a permanent basis.

Lastly, in our view such taxes should also be applicable to all economic sectors and should not be directed solely to specific sectors of the economy. Having said that, the design of such taxes (including the way in which excess profits should be calculated in light of certain factors/unique characteristics) should take into account various factors that would differentiate between sectors/industries, including the nature of the risk taken, the necessary investment/resources that had been invested, and the contribution that such activity/operations make to society as a whole.

III. Conceptual and Practical Issues

As we indicated above, the IMF Report analyzed dozens of instances in which countries adopted EPTs during the past century and identified two distinct designs that such taxes use in measuring the amount of “excess profits”—i.e., the amount in excess of the “risk-adjusted ‘normal’ returns.” The term “excess profits” does not necessarily refer to the magnitude of the profits, which may have nothing to do with actual profitability rates and may just represent sizeable economic rents due to (among other factors) economies of scale representing “normal” rents.

A century ago, the first countries to impose EPTs during the early phase of WW-I used comparative methodology and measured extraordinary above-normal returns simply by comparing the corporate profitability rates during that period to a similar period prior to the war. However, the determination of “above-normal” returns based on this methodology was naturally arbitrary, as it could have significantly fluctuated based on the relevant periods in which the comparison had been made. Over the ensuing years, other countries have used different methodologies to determine the amount of “excess profits” for purposes of computing EPTs. There are two typical ways in which such taxes work. The first is to decide on a normal return for capital and labor and impose a tax on any excess above that net return. The differences between the methodologies concentrate on the different allowances/deductions afforded under each method. A modern example would be the GILTI tax in the United States and Pillar I of the OECD BEPS project, which tax profits that are above a 10% return on tangible assets. Nevertheless, such taxes are often viewed by the public as justified because governments during periods of crisis frequently need to increase revenues to support efforts to cope with the crisis and because such taxes are often imposed on a temporary basis.

The IMF Report analyzed numerous EPTs that had been imposed by countries during different periods throughout the past century and identified the following additional two main methodologies in measuring excess/supernormal profits. The first methodology measures the above-normal return by offering a deemed allowance for capital (conceptually equivalent to tax-free return/rent). This means that excess profit will be measured considering deemed deductions to capital regardless of the way in which such capital has been financed (debt or equity). This methodology does not influence the scale or allocation of the investment between different assets or activities, which (in theory at least) means that it should not impact investment decisions and may actually encourage corporate management to increase R&D investments even if they result in losses.

The Allowance for Capital (AC) methodology is more specific and computes excess profits by measuring returns above prescribed assets-based margins, which may have a greater impact on corporate managerial decisions and incentivize the artificial shifting of income and expenses/losses from one activity/asset to another. The IMF Report also identified an alternative methodology that measures “supernormal” returns; however, unlike AC, it offers an Allowance for Equity (AE). Accordingly, in measuring excessive profits, it provides deductions for notional return to equity in parallel to existing interest deductions. Such allowances for normal returns restores neutrality in the tax treatment of debt and equity. Additionally, it offers a zero marginal effective tax rate on a new investment that just reaches the breakeven point (that is, the pre- and post-tax returns are the same, leaving the normal return untaxed). Moreover, based on the IMF Report, it seems that most EPTs imposed by different countries over the past century were not permanently legislated, and as soon as the crisis passed, such taxes were automatically eliminated (using sunset provisions), revoked using new legislation that repealed them, or simply ineffective as corporations did not tend to generate supernormal returns in post-crisis periods. Furthermore, based on the IMF Report, it seems that many EPTs charged by different countries over the past century used flat rates (though others included multiple rates that increased the overall tax burden as corporate profits increased or as corporate profitability rates increased).

Regardless of the methodology adopted in determining supernormal returns, unless the overall marginal tax rate (of both the effective corporate income tax plus the effective EPTs) exceeds 100% of the supernormal returns, corporations will be indifferent (or even better off) as long as overall marginal costs do not exceed the marginal prices of its goods/services. Similarly, governments would continue to be better off as a result of the increase in tax receipts resulting from the imposition of EPTs.

However, in the current political climate the likelihood of imposing progressive corporate income tax rates on multinational corporations at significant rates (higher than 20%) seems unrealistic for several reasons. First, more and more countries have adopted a Nordic corporate tax system, which taxes corporate profits at reduced flat rates and also taxes shareholders of corporate distributions at reduced rates. The Nordic corporate tax system achieves corporate integration in which the overall tax liability (both at corporate level and individual level) resembles the marginal personal tax liability that would have been incurred if such profits had been generated by the shareholder directly. The imposition of an additional layer of tax on corporate profits that would increase overall tax liability significantly will often be viewed as unjust, especially since it is not entirely clear who will bear the ultimate burden of the corporate tax.

Moreover, during the past five decades, a growing number of countries have lowered their applicable corporate income tax rates. The average statutory rates among OECD member states is currently set at approximately 20%. Since different studies show that the effective tax rates on multinational corporations are significantly lower than the actual statutory rates, the United States and OECD have recommended in Pillar II that effective tax rates on multinational corporations should be at least 15%. Therefore, even assuming Pillar II could be successfully implemented and MNEs (multinational entities) would be subject to effective corporate income rate of 15%, it seems highly unlikely that excessive profits generated by these entities would be effectively taxed at significantly higher rates and such taxes would lead to any behavioral change.

Therefore, reinstating the high historical rates (during WWII the U.S. imposed EPTs and set the marginal rate at 95%, but the combined income and excess profit tax rate was limited to 80%) on a permanent basis would be highly unlikely. The IMF Report assumes that countries that had imposed EPTs mainly viewed them as a temporary revenue-raising measure, and to the extent that corporate profitability increased during times of crisis, such taxes had very limited (if at all) behavioral impacts as corporations continued to overprice their goods/services using their market power and tended to push much of the tax burden on consumers due to inflexible demand elasticities. However, such taxes (which can typically lead to price increases) generally have a negative distributional effect. That is why any imposition of EPTs on a permanent basis should be accompanied with an adoption of certain curative mechanisms to reduce the regressive impact such taxes tend to have on low earners.

Furthermore, in an era of globalization, another challenge to the efficient imposition of EPTs would be achieving cross-border cooperation of the leading economies or at least, international coordination that would make tax evasion more complicated or too costly and not worth pursuing. The first challenge to widespread adoption of EPTs is the difficulty of calculating “excessive profit” or “excessive profitability.” Neither of the methods that have been used by countries that imposed such taxes in the past have worked well. Initially, countries adopted the “normal return method” which determined supernormal returns based on a comparison between the average profitability rates of certain years before the period of war and the profitability rate during the war period. However, such comparisons are generally flawed because it is very difficult to determine what a “normal return” is, and the choice of the two periods that are compared can be arbitrary as well and influenced by other external events like, for example, residual losses from those same external events that generated the financial crisis and unrealized appreciation/depreciation of capital that may have distorted the taxpayers’ profitability.

Second, the determination of a normal return may vary significantly from one industry to another and lead to arbitrary results. How should the normal rate of return be measured? The determination of the different elements that are considered in making that calculation and the different weights in the mathematical formula tax authorities use in calculating the “normal return” (e.g., capital invested, labor, risky nature of the operation) may make it difficult to achieve consensus domestically, specifically in the cross-border context. Consequently, it may result in political and economic pressures that would make the formula very complicated and easy to manipulate thereby undermining the ability of tax authorities to audit these corporations to ensure enforcement of EPTs.

Third, the ability to impose EPTs on affiliated corporate groups is questionable because corporate taxpayers can easily split up corporations on a tax-free basis and by doing so, avoid the tax threshold, which is precisely why the United States adopted mandatory consolidated returns during WWI. Similarly, the ability to inflate prices of services and goods may also assist taxpayers to avoid the threshold, which is why these taxes also require tax authorities to use anti-pricing methodologies that would eliminate the ability to artificially increase profitability of one corporate taxpayer at the expense of another corporate taxpayer within the same corporate group without splitting up the corporations or changing the corporate structure.

Fourth, in addition to the pragmatic challenges, the bigger problem, in our view, is conceptual. The assumption behind EPTs is that the “normal return” is the result of the corporate taxpayer’s ordinary course of doing business, and whatever profits the corporation realizes are presumably due to the efforts and resources it invested in the business. Its profits therefore “deserve” to be regularly taxed and not subject to an excessive tax burden. Based on such an approach, the “excessive return” is the result of external events and therefore “undeserved.” But the distinction between “deserved” and “undeserved” profits is misguided.

For example, assume a corporation is engaged in R&D processes and discovers a drug that cures cancer. The invention of the medical treatments/drug will generally be protected and enjoy patent protection that would allow the corporation to exclusively manufacture and sell the drug for a limited period of time (approximately 20 years) from the date the patent was registered. During any patent-protected year, the company enjoys exclusive rights to manufacture and sell the drug which could be viewed as “supernormal” returns, but those returns result (in this hypothetical) from the corporate management decision to invest in risky R&D processes that may or may not lead to the invention of the life-saving medial drug/treatment.

Clearly, the artificial separation between the “normal” return and “supernormal” or “excessive” returns is irrelevant as both returns in this example theoretically do not “deserve” to be subjected to excessive taxation. Moreover, assuming EPTs are imposed, entrepreneurs and responsible corporate management might think twice before determining to invest in such a risky odyssey as the profit net of taxes in post-invention years would naturally be more limited (assuming such profits will be subject to EPTs).

Fifth, another conceptual issue that arises in the context of EPTs relates to the fundamental concept that supernormal/excessive profits result from external events (for example, wars, ecological crises, financial crises, etc.), but in fact, what may appear to be supernormal/excessive profits may be generated simply from the concentration of market power, including geographic limitations, that result in lack of competition allowing certain corporations to significantly increase their prices in rendering services/selling goods, especially when the services/goods are essential in nature and subject to inelastic demand.

Therefore, assuming the corporate taxpayer renders such basic goods with limited competition and enjoys unproportioned market powers, the imposition of such taxes on the goods/services rendered that are responsible for the corporation’s supernormal returns/relatively high profitability rates would not necessarily result in repricing of such services/goods or in changes in customers consumption habits. Therefore, imposition of such taxes would not decrease a corporation’s profits and would mainly increase governmental tax revenues. The imposition of such taxes will also possibly increase capital inequality and lead to regressive distributional effects, which is contrary to the preliminary vision that such taxes would have a “chilling effect” and regulate these corporations. Due to these conceptual challenges, we do not think any imposition of EPTs should distinguish between “deserved” and “undeserved” profits in the calculation of what taxes are due, absent accompanying curative measures that would limit the regressive impact of EPTs and international coordination of such taxes to minimize tax avoidance by multinational corporations.