The way corporations in the United States and the United Kingdom dealt with retained earnings and set dividend policy reflects an underlying difference in the location of power in corporations in the respective countries. This difference in the location of corporate power, in turn, contributed to the divergence of corporate income tax schemes. The notion is that the corporation itself was simply perceived differently in the two countries during the first half of the twentieth century when the income tax systems were still developing. Power in the large British public corporation was primarily located at the shareholder level, thus leading to a shareholder-focused corporate tax, while power in the large American public corporation was primarily located at the entity level, thus leading to an entity-focused corporate tax. These differences were then hard-wired into the respective national consciences and continued to influence corporate tax reform in ensuing years.

One possible version of this argument is that the UK and the USA each decided to treat corporations differently as a matter of law and this legal difference dictated the difference in tax schemes. This is the version that early twentieth-century commentators, influenced by entity theory conceptions of corporate development, forwarded in describing the two tax schemes. Under this argument, in the UK, the corporation was a mere aggregation of the individual shareholders and therefore was not itself subject to taxation. In his 1927 comparative study of the US and UK income tax systems Harrison Spaulding wrote that in the UK “[a] corporation is regarded merely as a device by means of which a number of individuals can conveniently do business, and it is not looked upon as a separate object of taxation. It is not in itself a potentially taxable person, but is an aggregation of persons who may or may not be taxable.” Although Spaulding conceded that “[i]t is necessary for some purposes that corporations be regarded as separate legal entities,” he explained that “the British do not extend this conception to the field of income tax.” This characterization continued to resonate in later descriptions. Jonathan Barron Baskin noted that the British income tax “was originally based on the idea that corporations should be treated similarly to partnerships.” Martin Daunton offered a more modern and nuanced version of this entity theory explanation, stating that “[c]orporate taxation did not have a purchase in British fiscal policy, for it contradicted the assumption that firms were agents rather than taxable entities. Corporation taxation did not, as in the United States, connect with hostility to big business or with opposition to a federal income tax.”