Companies aren't fleeing the United States because of a lack of tax competitiveness, a top tax expert says. They're leaving to use the trillions of dollars in cash they hold abroad to boost their stock prices.
That argument by Ed Kleinbard, former chief of staff of the Joint Committee on Taxation, bolsters the case for Congress to move quickly on legislation favored by the White House and Democrats to stop so-called corporate "inversions," in which a U.S. company buys a firm in a low-tax country and then makes that country the new parent company’s headquarters.
Congressional Republicans generally have resisted those measures on the grounds that the underlying problem can be solved only with comprehensive reform that would lower the 35 percent corporate tax rate to make it more competitive internationally. But Kleinbard told the Washington Examiner that the idea that the United States lacks competitiveness is a "false narrative" and is no excuse for holding off on smaller, near-term measures to prevent inversions.
While legislation stalls in Congress, the Treasury Department is expected in the coming weeks to take executive action to restrict the tax maneuvers.
Kleinbard, now a law professor at the University of Southern California, argues in a new paper that “the current mania for inversions is driven by U.S. firms’ increasingly desperate need to do something with their $1 trillion in offshore cash,” and that U.S. competitiveness has nothing to do with it.
Kleinbard isn’t trying to defend the U.S. corporate tax code, he tells the Washington Examiner, but he believes that the “only thing that it’s innocent of is making U.S. firms noncompetitive.”
The United States has a worldwide corporate tax system, meaning that the government taxes companies' foreign earnings at the U.S. corporate tax rate of 35 percent, the highest in the Organization of Economic Cooperation and Development. As a result, U.S. corporations are now holding roughly $2 trillion in profits overseas to avoid paying U.S. taxes, which are due only when the money is brought back to the United States.
Some businesses seeking inversions have said that the U.S. system puts them at a disadvantage to competitors based in low-tax countries that have territorial systems, in which foreign earnings are not taxed or are taxed lightly.
That claim is misleading, Kleinbard argues, because the biggest multinational corporations have the tax avoidance know-how to repatriate foreign profits without paying taxes. He notes that U.S. corporations actually pay low effective tax rates — just 13 percent for profitable businesses, according to the Government Accountability Office.
Instead, the real reason they seek inversions is that they are “counting the days until the money can be used to goose share prices through stock buybacks and dividends,” he writes. In other words, companies want inversions not to invest and expand actual business, but to please shareholders.
“The critical point is that we are in the process of enabling the evisceration of the U.S. domestic corporate tax base on domestic income” for companies that undergo inversions, Kleinbard says.
A study published Wednesday by the nonprofit Tax Policy Center also attributes the rash of inversions to the fact that U.S. companies' foreign cash holdings have grown so large that they are increasingly willing to restructure as foreign companies so they can distribute those funds to shareholders.
The report’s author, Kimberly Clausing of Reed College, told the Examiner that “pessimism about other tax law changes that would allow reduced U.S. tax on such repatriations” is also driving the move to inversions.
While other experts may share Kleinbard’s assessment of the cause of inversions, they don’t necessarily share his conclusion that short-term measures to cut off further mergers are justified.
The right-of-center Tax Foundation’s Kyle Pomerleau said Kleinbard’s dismissal of complaints about the tax code’s “competitiveness” is “a semantic issue.”
“Inverting is about companies taking themselves out of this worldwide tax system so they’re more competitive,” Pomerleau told the Examiner, “and part of that competitiveness is not having worldwide taxes on foreign earnings.”
James Hines, a professor at the University of Michigan Law School, said there is “loads of evidence” that the “punishing tax regime” on repatriating profits affects real business activity, not just stock prices.
Hines cited the example of U.S. shipping. In 1975, the United States began denying shipping companies the ability to defer taxation on shipping profits held abroad, a move that “precipitated the decline of the industry,” Hines said, before Congress reversed the move in 2004 in recognition of the harm done to U.S. shippers’ overseas business.
“You’ll notice, no one ever inverts to the U.S., it’s all going the other way,” Hines added.
Gordon Gray, director of fiscal policy at the conservative American Action Forum, attributed the increasing popularity of inversions to the failure of Congress to reform the tax code.
“The president literally offshored Max Baucus at a time when he’d been participating in good-faith efforts” on tax reform, Gray said, referring to the former Finance Committee chairman’s retirement from the Senate to become U.S. ambassador to China.
The companies “were holding out for something better and they didn’t get it,” and instead turned to inversions, Gray said. “A lot of times we talk about tax policy in the abstract,” he added, “but these companies actually respond to these market signals.”