Senate Finance Committee Chairman Orrin Hatch has been expected to propose integrating the corporate and individual tax systems. Under his proposal, corporations would receive a deduction for any dividends distributed to shareholders, eliminating the two levels of tax on corporate income.

As both the rate cuts proposed by the Trump Administration and the system of border adjustments in House Republicans’ tax reform proposal have faced skepticism and opposition, it is worthwhile to look at some other proposals for tax reform. For example, Senator Orrin Hatch, Chairman of the Senate Finance Committee, has proposed to integrate the corporate and individual tax systems, generally referred to as “corporate integration.”

Under current law, equity-financed corporate income is subject to two levels of tax. A tax is levied at the corporate level (the corporate tax) and another tax is levied at the individual level when the profits are distributed as a dividend. However, because interest payments on debt are generally deductible against the corporation’s taxable income, debt-financed corporate income is, in effect, only subject to one level of tax. Whereas passthroughs are not taxed at the entity level, their income is similarly subject to only one level of tax. These differences create a number of significant economic distortions. “Corporate integration” generally refers to any proposal that seeks to eliminate this double tax on equity-financed corporate profits. For a longer discussion of this topic, see this report by the Tax Foundation.

There are several ways to “integrate” the corporate and individual tax systems. Many developed tax regimes (most notably Australia) have some form of an integrated corporate tax through an “imputation credit” system (which is discussed further in this article). Senator Hatch is expected to propose a regime where corporations deduct dividends paid to shareholders from their taxable income. Dividends would therefore be treated like interest payments, harmonizing the treatment of equity-financed and debt-financed corporate income. In addition, dividend and interest payments paid to tax-exempt and foreign investors could be subject to a 35% withholding tax, including payments made to foreign investors that may benefit from a lower rate of withholding under an existing treaty.

The details of Senator Hatch’s plan have not yet been unveiled; but from what has been discussed, the impact of implementing Senator Hatch’s plan would be significant but varied for different taxpayers. For example, REITs, which already enjoy a dividends paid deduction, could begin to compare less favorably to other corporations. In addition, deciding whether or not to distribute cash to shareholders (generating a deduction) or to keep the cash and grow the business may become more difficult, especially for highly leveraged firms that have to use after-tax cash to repay their debt. An important point to keep in mind is that the financial statement impact of Senator Hatch’s proposal (with lower effective tax rates) may also look more favorable than the actual reduction in tax burden—a potential selling point for such reform in surviving revenue scoring.