A Look at Book-Tax Differences for Large Corporations Using Aggregate Internal Revenue Service (IRS) Data

A Look at Book-Tax Differences for Large Corporations Using Aggregate Internal Revenue Service (IRS) Data

INSIGHTi
A Look at Book-Tax Differences for Large
Corporations Using Aggregate Internal
Revenue Service (IRS) Data
April 7, 2021
The 117th Congress may consider policies that would tax book income, or income as reported on financial
statements. President Biden has proposed a 15% minimum tax on book income. Senator Elizabeth Warren
has announced her intent to propose a tax on book income, which would be structured as an add-on tax or
surtax.
This Insight examines IRS data on aggregate values of financial statement income (“book income”) and
income as reported on tax returns for corporations filing IRS Schedule M-3 (corporations with assets of
$10 mil ion or more). Corporations file Schedule M-3 to reconcile financial statement income to tax
income.
Aggregate IRS Data on Book-Tax Income Differences
Media reports identify companies that report profits, but report no taxes, on publicly available financial
disclosure reports (Zoom is one of the latest examples). Publicly traded companies publicly disclose
comprehensive financial information on the Form 10-K, which is filed with the Securities and Exchange
Commission (SEC). A primary purpose of these reports is to provide potential investors information about
the risks associated with investing in the firm. Tax accounting rules are intended to produce a verifiable
tax base based on rules that can be implemented and enforced.
Tax payments disclosed on Form 10-Ks may differ from tax payments as remitted to the U.S. Treasury,
due to differences in consolidation rules (which determine the reporting entity) and accounting rules
(financial accounting or tax accounting). Financial statement income is usual y determined using U.S.
General y Accepted Accounting Principles (GAAP), while tax income is determined under the Internal
Revenue Code (IRC).
Large corporations—those with assets of at least $10 mil ion—are required to file Schedule M-3 with
their corporate tax returns. The first step in reconciling financial statement (book) income to tax income is
to address differences in consolidation rules. Different consolidation rules under U.S. GAAP and the IRC
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make it such that the reporting entity for the purposes of a financial statement is not necessarily the same
as the entity filing a tax return. Schedule M-3s filed in 2017 reported $1,409 bil ion in worldwide
consolidated financial statement net income. Financial statement net income for entities included on U.S.
tax returns was $1,324 bil ion in 2017. Applying tax consolidation rules to al entities al ows for an
apples-to-apples (same entity) comparison of financial (book) and tax measures of income.
Figure 1 compares aggregate pretax financial (book) income to tax income for corporations filing
Schedule M-3, after differences due to consolidation have been removed (other analysis of book-tax
differences also uses pretax book income; pretax book income can be found on Part II of the Schedule M-
3, while federal taxes are reported on Part III). From 2009 through 2017, aggregate book income reported
on corporate Schedule M-3s exceeded tax income. Figure 2 plots aggregate book-tax differences from
2004 through 2017. Since 2009, corporations filing Schedule M-3, in aggregate, have reported more in
financial (book) income than tax income.
Schedule M-3 reconciles book income to tax income before adjusting for net operating losses (NOLs) and
other special deductions. When deductions exceed receipts, income is negative, and the negative amount a
NOL. Income subject to tax—the measure of income to which tax rates are applied—cannot be less than
zero, and includes NOLs. In economic downturns, income subject to tax tends to be higher than tax
income (the tax income measure reported on Schedule M-3s), since weak economic conditions limit
taxpayers’ ability to claim losses in the current tax year. At full employment, income subject to tax is
often lower than reported tax income as NOL carryforwards reduce income subject to tax. Ultimately,
because of NOLs, income subject to tax is smoother over time than tax income.
Figure 1. Aggregate Book Income and Tax Income for Large Corporations
2004-2017

Source: CRS calculations using data from IRS Schedule M-3.
Notes: Pretax book income is financial statement income of corporations filing tax returns that were required to file
Schedule M-3 plus U.S. tax expenses. Large corporations are those with assets of $10 mil ion or more filing Form 1120
U.S. corporate income tax returns.

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Figure 2. Aggregate Book-Tax Difference for Large Corporations
2004-2017

Source: CRS calculations using data from IRS Schedule M-3.
Notes: Aggregate book-tax difference is aggregate pretax book income less aggregate tax income. Large corporations are
those with assets of $10 mil ion or more filing Form 1120 U.S. corporate income tax returns.
Primary Causes of Book-Tax Differences
Differences between book and tax income reflect both differences in income items and differences in
deductions. Income items can be larger or smal er for book and tax purposes, and can vary over time. (For
example, book foreign-source income reflects distributions out of current and previously taxed income,
while tax foreign-source income reflects dividends not already taxed and certain income, cal ed Subpart F,
that is taxed whether distributed or not because it is easily shifted.) Interest income is larger for book
purposes because of tax-exempt interest. Capital gains are often larger for tax purposes because capital
losses are not fully deductible.
Similarly, some deductions can be larger or smal er for book or tax purposes, and these differences can
vary over time. Deductions for depreciation and stock options and other forms of equity-based
compensation are general y larger for tax purposes. Special rules that al ow bonus depreciation or
accelerated depreciation for tax purposes, which are often motivated by a desire to encourage investment,
are a major factor in explaining book-tax differences.
Some book-tax differences, including those due to depreciation deductions, are temporary. The costs
associated with capital investment wil be recovered for both book and tax purposes, but there is a timing
difference. With bonus depreciation for tax purposes, deductions are taken when investments are made.
For book purposes, these costs wil be recovered over time. Other differences are permanent. For
example, tax-exempt interest payments are included in book income.
The 2017 tax revision (P.L. 115-97, commonly referred to as the “Tax Cuts and Jobs Act”) changed the
tax treatment of multinationals, which may explain the significant book-tax difference in 2017, the year
before many of the law’s changes went into effect. Firms may have recognized commitments to larger
dividend payments from foreign affiliates for book purposes but delayed paying those dividends until
2018, when dividends became exempt.

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The relationship between book and tax income is affected by the business cycle (including the
Coronavirus Disease 2019 recession and recovery) and the government’s fiscal policy response. During
the Great Recession, in 2007 and 2009, aggregate tax income was larger than aggregate book income,
leading to negative book-tax differences (Figure 1 and Figure 2). One factor that may partial y explain
why book-tax differences decline during economic downturns is the treatment of bad debt, which may be
recorded on financial statements before being claimed for tax purposes.

Author Information

Molly F. Sherlock
Jane G. Gravelle
Specialist in Public Finance
Senior Specialist in Economic Policy

Disclaimer
This document was prepared by the Congressional Research Service (CRS). CRS serves as nonpartisan shared staff
to congressional committees and Members of Congress. It operates solely at the behest of and under the direction of
Congress. Information in a CRS Report should not be relied upon for purposes other than public understanding of
information that has been provided by CRS to Members of Congress in connection with CRS’s institutional role.
CRS Reports, as a work of the United States Government, are not subject to copyright protection in the United
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as a CRS Report may include copyrighted images or material from a third party, you may need to obtain the
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