Firms pay taxes on __________.An optimal tax on corporate profit would be levied on _________.

Question

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Firms pay taxes on their accounting profits, which is the difference between their total revenue and total costs. However, an optimal tax on corporate profit would be levied on economic profits. Economic profit takes into account both explicit costs (such as wages, rent, and materials) and implicit costs (such as forgone opportunities). By taxing economic profits, the government can capture a larger portion of a firm’s surplus, while also incentivizing businesses to make more socially valuable investments. Accounting profits do not always reflect a firm's true economic value, as they may not account for all costs and are subject to accounting rules and practices. Therefore, it would make more sense to tax economic profits instead of accounting profits.

Firms Pay Taxes on __________