Fed Up U.S. Corporations Continue Flight to Other Shores

Burger King is the latest example of other countries successfully luring U.S. companies to relocate. While countries around the world have engaged in a downward spiral of lowering corporate tax rates to lure corporate migration, the United States has moved in the opposite direction.

With the highest statutory corporate rate of the 34 developed countries in the Organization for Economic Cooperation and Development (OECD), the U.S. has deigned not to compete. We will keep our rate the same at 35%, thank you. Worse, the U.S. is almost the only country that taxes a company’s profits when they are brought home no matter where in the world they were earned.

To avoid the IRS, corporations at one time could simply reincorporate in tax havens such as Bermuda or the Cayman Islands, but in 2004 and again in 2012, Congress passed legislation that made “that type of tax strategy virtually impossible”. Our strategy is not to attract corporations to move here; rather, we bolt the doors to keep companies from leaving.

With no sign of tax reform, companies are resorting to the one device left, the maneuver referred to as “inversion”, by which a U.S. corporation buys or merges into a foreign company in order to transfer its domicile out of the United States and pay its taxes to a less avaricious country. In what is clearly a glitch in its lockdown strategy, the U.S. permits inversions provided that the foreign company ends up owning at least 20% of the U.S. company’s stock. President Obama wants that raised to 50% — quickly, to stop the loss of tax revenue.

There’s near universal recognition that the U.S. corporate tax rate is too high. The president has urged its reduction — repeatedly in his state of the union addresses, for example — and both sides of the aisle in Congress agree that our 35% makes the United States noncompetitive, drives businesses offshore and jobs along with them. But it never goes beyond talk. Put another way, imagine the impossibility of persuading a foreign company to "invert" into the United States with the promise of paying the world's highest tax rate and on its profits worldwide.

Treasury Secretary Jack Lew thinks the nation needs a “new sense of economic patriotism”, as he said in a letter to House Ways and Means Committee Chairman Dave Camp (R-Mich.). He asked that Congress prohibit inversions retroactive to May 2014 to “shut down this abuse of our tax system”. Indicative of the Democrats’ wrong-footed approach, congressional inaction in the face of this latest wave of inversions has Obama and Lew searching for ways to lock in U.S. companies by executive action instead of competing. That’s driving the wrong way down a one-way street.

Inversions are not new. About 50 companies in the last 30 years have made the transition according to Bloomberg. But 20 of those have occurred in just the last year and a half, and the pace is accelerating. Since April of this year, when the major pharmaceutical company, Pfizer, announced plans to buy Britain’s AstraZeneca for $118 billion, 17 of the Fortune 500 companies have contacted investment bankers to assess prospects for an inversion deal, says The New York Times. Reports of corporations looking to move “are sparks that have lit a dry timber”, says Michigan Democrat Sander Levin, a ranking member of the House Ways and Means Committee.

Three of the OECD countries are English speaking — the U.K., Canada and Ireland — desirable for American companies, and they have aggressively lowered their tax rates to attract corporate relocations.

The U.K. in 2010 declared that it would “send out the message loud and clear that Britain is open for business”. Rules were relaxed and a tax rate reduction to around 20% has brought dozens of foreign companies to London. Canada lowered its rate in stages from 2006 to 2012 to its current 15% rate. Ireland’s rate is 12.5% — so low that other OECD countries are angry. Ireland had been bailed out to the tune of $90 billion by the European Union and the International Monetary Fund after the 2008 crisis.

Medtronic, a prominent maker of implanted medical devices, intends to move to Ireland. It provides an example of what our tax laws have led to. Medtronic is set to buy Covidien, which produces surgical tools and devices. Covidien, ostensibly an American company, has been on the run from taxes since 1997 when it moved to Bermuda and then to Switzerland in 2009. In May it switched its domicile to Ireland when Switzerland tightened rules on executive pay. If you presume Covidien’s management is in Ireland and will be joined by Medtronic’s, you would be mistaken, however. Medtronic’s management will stay put in Minneapolis and Covidien’s operates out of Mansfield, Massachusetts.

Not all inversion attempts are going forward, it should be noted. Pfizer’s attempt met with stiff resistance in Britain, which feared that cost-cutting Pfizer would eviscerate AstraZeneca’s strong research efforts. Pfizer withdrew.

Walgreen, the 113-year-old Illinois-based drugstore chain, was hit with resistance on this side of the Atlantic when it planned an inversion as part of its acquisition of Alliance Boots, a British drugstore chain. Walgreen derives nearly all sales and profits from its 8,700 stores in the U.S. and almost a quarter of its $72 billion in revenue comes from sales to Medicare and Medicaid. The “betrayal” had earned the company adjectives such as “unfair, “unconscionable” and “ deeply unpatriotic”. It decided to back down.

But there are many more intended inversions in the pipeline, scrambling to flee before Washington shuts the valves.

High taxes are not the only reason for U.S. corporations to take flight. Our multinationals have an enormous and growing horde of cash lying offshore which can be put to use in an inversion. Profits from foreign operations had grown to $1.5 trillion at the end of last year, says The Wall Street Journal, but there they sit because to bring them home means paying that 35% (net of taxes paid to the local countries).

Companies have been angling for years for a special deal to bring those profits home, like the one-time dispensation awarded by the George W. Bush administration in 2004, which cut the tax rate to 5.25% on repatriated profits. With no movement toward a repeat of that deal — which didn’t go well, as we reported three years ago — U.S. companies with billions stashed abroad have borrowed heavily here for purposes of stock buybacks and dividends rather than bring the money home and suffer the tax hit. Apple, for example, sits on $132 billion at its foreign subsidiaries yet the company floated bond issues in this country of $12 billion this year and $17 billion last year to buy back its own stock.

Inversions provide an outlet for the cash stash. The money can be used to finance buying the foreign company in the inversion deal, and can then be employed in the combined venture. Those stranded profits become money that is never coming home.

There have been repeated proposals to drop the rate to, say, 25%, and get rid of the loopholes that result in an effective tax rate well below the posted 35%. A study by Citizens for Tax Justice reports that of the 288 corporations that were profitable between 2008 and 2012, the average tax rate was 19.4%.

But the averages mask the inequities in the American tax hairball. Companies whose business is solely in the U.S. — food chains, retailers, railroads, truckers, for example — are exposed to the full 35% (more like 40%, counting state and local taxes), whereas companies with extensive foreign operations or transferrable intellectual property such as pharmaceutical patents and software have had at their disposal a wealth of devices to evade U.S. taxes. Thus we see General Electric pay a tax rate of 3.6% in the three year stretch ending in 2012, while retailer Wal-Mart was saddled with 33.6%.

To “level the playing field” and make a tax rate cut revenue neutral — that is, to bring in the same amount of tax income — all tax breaks must be eliminated, even those judged as worthwhile, according to Congress’s nonpartisan Joint Committee on Taxation. That’s when we would see that “businesses all want to get rid of the other guy’s tax deductions”, Sen. Carl Levin pointed out in the Times.

It looked last year as if Congress would finally get serious about tax reform. The bipartisan and bicameral combination of Senate Finance Committee Chairman Max Baucus (D-Mont.) and House Ways and Means Camp had worked for years on tax reform that would have cut the rate to 25%. But unity did not extend to the rest of Congress. Sensing futility, Baucus accepted a posting to China as U.S. ambassador. Camp labored on and presented a comprehensive plan to overhaul taxes, both corporate and personal, early this year. Too boring for House Speaker John Boehner — “ Blah, blah, blah” was how he greeted this work of unparalleled importance. In February, with the entire rest of a year stretched out before him, Boehner announced that the House would not address tax reform in 2014. After all, it’s an election year, and the sole job of Congress is to keep their jobs in Congress. The business of the country will just have to wait. Dave Camp announced that he, too, would leave.

That spectacular indifference is what probably set off the wave of companies looking for foreign companies to buy or merge into. And Wall Street, seeing the opportunity to broker major deals, is in a scramble to oblige in finding compatible un-same-tax marriage partners.

Sen. Ron Wyden, the Oregon Democrat who has shown a willingness to work across the aisle, and who has effectively taken Max Baucus’ place on the Senate Finance Committee, said in a May Wall Street Journal op-ed that it is a mistake to blame “these runaway corporations alone and simply question their morality or patriotism…that would be ignoring our own failure to bring the tax code into the 21st century”. He advocates cutting the rate to 25% and eliminating loopholes as an immediate fix, but that’s for now. He advocates that we switch to a territorial tax structure.

And that would be the ultimate and most sensible fix. All the countries in the G-8 save ours and 26 of 34 member countries of the Organization for Economic Cooperation (OECD) have territorial tax schemes. It means a company, irrespective of where it is domiciled, pays taxes to a country only on the profits it has earned in that country. It is arguable that a state has no justification for taxing that portion of a business’s sales and profits that are generated entirely in another country. Shouldn’t we adopt a “territorial” tax scheme whereby profits earned in other countries not be taxed here at all?

Or, rather than profits earned in a particular country, given how their distribution is manipulated, why not adopt what is called “unitary” taxation. Under that arrangement, irrespective of where corporate tax departments have shifted them, a corporation’s worldwide profits would be apportioned to countries according to a formula based on assets, sales and other activity in each jurisdiction. Such a scheme would rid the world of accounting legerdemain, bogus transfers of intellectual property, tax havens, domiciles shifted here, headquarters there — the works.

It also has the effect of freeing a country to charge what it thinks appropriate as a tax rate without concern for other countries’ rates. If you want to sell in our country, each can say, here’s what you will pay.

That it is so hard to imagine the United States acceding to such a plan shows how ossified the thinking has become in this country.