Obama’s Feckless War On Corporate Inversions

Yelling Obama 3Inversion is a way for companies to work around a government imposed obstacle to investment in America.

UPDATE: The news  that Burger King plans to merge with a Canadian firm has energized anti-inversion talk in Washington and the media.

President Obama and the Democrats, hoping to stir up envy and resentment against American businesses ahead of the November election have declared war on corporate inversions.  He and his media supporters call companies that are interested in inversions unpatriotic and unwilling to pay their “fair share” of taxes. 

The White House web site features a page devoted to the anti-inversion offensive.  It starts with a roughly accurate definition followed by a deception :

Question: What exactly is an “inversion”?

Answer: A corporate “inversion” is what happens when a US-based multinational with operations in other countries restructures itself so that the U.S. “parent” is replaced by a foreign corporation – and usually one that’s in a country with a lower tax rate than the United States. 

As a result, on the whole, this means that corporate income tax that would otherwise be paid to the United Sates ends up going overseas [italics added].

The first sentence defining inversion is accurate.  The second sentence regarding the tax revenue results, (we formatted in italics) is in most cases false and in all cases misleading.  Nothing is “going overseas.”  

Corporate income tax is a tax on profits, or earnings.  At 35% (of earnings) the top bracket US corporate tax rate is the second highest in the industrialized world (the highest is 35.64%)  When state taxes are added a US corporation pays an effective top rate of 40%.  Corporate rates in UK, France, Germany, China, India, Netherlands, Russia, New Zealand, Brazil, Spain, Canada, and Australia are all lower than the U.S.  Even the socialist Scandinavian countries have lower rates, ranging from 20% to 27%. 

But America’s high tax rate isn’t the only or even the most significant problem.  To understand the why a company would want to “invert” consider the difference between US tax law and the law in all other, major industrialized nations.  The difference can be illustrated with an example.

  • BMW, a German company, operates an assembly plant in South Carolina where it builds cars for the American market.  When BMW’s US operations generate earnings BMW pays US corporate income tax on those earnings.
  • Ford operates plants in Germany, building cars for the German and wider European markets.  Ford pays German corporate income tax to the German government on its earnings from its German operations.

So, the U.S. taxes a German company on business it does here, and Germany taxes an American company on business it does there.  Fair and balanced, right?

The problem for American companies begins after the earnings are taxed by the country where they were generated.  That difference is in the tax treatment of “repatriation” or bringing after tax earnings home.

  • BMW is free to bring its after-tax earnings back home without additional tax.  On behalf of its people, the German government welcomes repatriated earnings from foreign operations because when the company invests those earnings it grows the German economy, creates jobs and, ultimately, generates tax revenue.
  • But Ford doesn’t have such freedom.   The U.S. government impedes the flow of Ford’s after tax earnings back into America with a second round of taxation, the U.S. corporate income tax.

Unlike any other industrialized nation, the U.S. taxes earnings generated by American companies in other countries–earnings that have already been taxed by those other countries.  And here’s the exasperating part: the event that triggers that second round of taxation is repatriation, bringing the earnings back home where they can be reinvested in the domestic economy!  But there is no tax barrier to investment in America by a foreign owned company. 

So, rather than being unpatriotic, Inversions enable American companies to invest more resources here at home, growing the U.S.  economy, creating jobs, and ultimately generating more tax revenue from domestic earnings and employee wages!

Reinvested earnings is the number one source of capital, funding business start-ups and expansions. Thus, high tax rates and double-taxation of foreign earnings that reduce capital investment in America ought to be cause for concern among our political elite. 

2 GDP-through-2014-Q2But Even in the weakest post-recession economy in 75 years there’s little political energy in Congress and none in the Obama Administration for simplifying the tax code, reducing the tax rate, or eliminating the double taxation of repatriated earnings.

Back to the second sentence in the quote above from the White House that we said was in most cases false and in all cases misleading.  Inversion does not reduce taxes on American earnings.  Just like BMW in the example above example, an inverted American company must continue to pay U.S. corporate income tax on it’s U.S. earnings.  The little sliver of truth is that the inverted company MAY, through complex bookkeeping maneuvers, shave a percentage point or two off it’s taxable U.S. earnings.  But, the horrendously complex corporate tax code also has plenty of loopholes a domestic company can structure itself to qualify for without inverting. 

Democrats say 35% is not too high because companies routinely pay less than that after taking advantage of numerous loopholes in the law.  True enough.  But a company must DO something to qualify for each loophole.  It must structure itself to comply with some sort of politically motivated condition.  Some  loopholes, such as special credits for wind and solar energy were custom designed for specific industries or even specific companies.  Many companies don’t qualify for any loopholes and thus pay the full 35% rate.

The real problems with the corporate tax code are high rates and massive complexity.  The solution is not to look for ways to punish companies that invert.  The real solution is lower rates coupled with simplification, elimination of arcane loopholes, and an end to the cronyism that generates special tax breaks for politically connected companies and industries.  And, of course end inversions by eliminating double taxation of repatriated earnings.

More from the White House website

Question: OK, but I’m not a corporation. So how does this relate to me?

Answer: Simply put: You’re paying for it. That’s because when corporations pay less, other working Americans have to pay more to help fund the services we all rely on…

This is simply not true.  There is no linkage between the individual tax code, also needlessly complex, and corporate tax revenue.  The IRS does not tax individuals more when corporations pay less and it certainly doesn’t tax individuals less when corporate tax revenue goes up.

One more excerpt from the White House website:

Most Americans don’t have fancy accounting tricks at their disposal — and these businesses shouldn’t, either.

We fully agree.  An American company should never have to waste resources restructuring itself to qualify for “fancy accounting tricks” in order to invest in the American economy!  The United States of America should, like every other industrialized nation welcome home all earnings produced in, and already taxed by, foreign countries.

Instead of operating the worst corporate tax code of all industrialized nations, and looking for a way to impose a tax penalty on the act of investing in America, our President’s goal should be to make America the most business friendly environment in the world  to companies that are prepared to compete in a free market and profit by offering value to customers, not by making political deals in Washington.

Let’s make the American corporate tax rate one of the lowest instead of the highest.  Let’s make the tax code so simple and business friendly that we attract trillions in investment capital from all over the world.  Let’s eliminate all special interest tax breaks so business owners and investors know they’ll be competing for customers, on merit, not disadvantaged by lack of political connections.

No Comments

Comments are closed.