Tax Inversion and the United States
Recent mergers by large multinational corporations have increased awareness to the practice of corporate inversion, or tax inversion. Corporate inversion, as defined by the U.S. Department of the Treasury, “is transaction in which a U.S. based multinational restructures so that the U.S. parent is replaced by a foreign parent, in order to avoid U.S. taxes.” Typically, “a U.S. company acquires a smaller company based in a foreign country- usually a low-tax country – and then relocates the residence of the combined company in that other country for tax purposes” (Hanlon and Zeints). Understanding why companies leave the United States, the effects of their relocation on the United States, government actions taken to curtail future inversions, and analyzing solutions is essential to making it less attractive for corporations to incorporate elsewhere. Reevaluating the U.S. tax code will lead to a significant decrease in inversions and increase in tax revenue for the United States. Current domestic tax policy is a major factor in many companies’ decisions to give up their U.S. residency.
Multinational corporations seek to increase profits by reducing their costs, including tax bills, as much as possible. Operating across the globe, they conduct business outside their country of incorporation and generate income in foreign markets. Which country a company establishes residence in can significantly influence the amount of taxes it owes to governments. Unfortunately, current tax policy can place the United States at a competitive disadvantage when a company is trying to decide where to call home. Companies based in the United States are subject to a tax policy that follows a worldwide view (DeAngelis 1356). Income generated, both, domestically and abroad is subject to the U.S. corporate tax rate of 35 percent (DeAngelis 1356). It is also subject to taxation by the country in which the transaction took place (DeAngelis 1356). While tax credits for payment of foreign taxes are offered to U.S. companies, the tax bill of those subject to territorial regimes is often still lower (DeAngelis 1357). Territorial tax structures only subject income generated within the domestic country’s borders to taxation (DeAngelis 1357). Any income from beyond the country of incorporation’s borders is only taxed by the source country (DeAngelis 1357). By relocating its headquarters from the United States to a country with a tax code resembling a territorial structure, companies can often reduce their tax liabilities. Using cost-benefit analysis and strategic decision-making, a company can determine which tax jurisdiction is most favorable. Countries recognize this opportunity and strategically develop tax policies encouraging foreign entities to establish residency and invest within their borders.
When companies renounce their citizenship, and leave the U.S., they take tax revenue with them. Companies surrendering their American residency strips the United States of the ability to invest in valuable programs. The Joint Committee on Taxation Revenue Estimate for H.R. 415 determined that there is potential that “inversions cost the U.S. as much as $40 Billion over the next 10 years” (“You Don’t Get to Pick…”). As noted by the White House, these funds could be used to fund 7 years of child care programs, make college more affordable, and reduce poverty through tax credits (“You Don’t Get to Pick…”). Operating with a budget deficit, every dollar is crucial to continuing government expenditures taken for granted. Eroding of the tax base limits the government’s ability to operate and prepare the United States for the future. Quickly finding a solution to the inversion epidemic is pivotal in preventing greater strain on the budget.
Action must be taken to create an environment where leaving the United States is never optimal. Congressional legislation toward a revised tax code is the only permanent fix. Unfortunately, due to Congress’ unwillingness to do so, the Treasury Department opted to exercise its power to make inversions less attractive and beneficial to companies (Hanlon and Zients). Recently, the department has addressed “serial inverters” and “earnings stripping” (Hanlon and Zients). Scott DeAngelis, a graduate student at Vanderbilt University studying Law and Economics, suggests creating a patent box to the likes of European nations (1383). Doing so would eradicate some of the advantages of relocating to countries with these policies. Solutions such as these are only patches to the problem or parts of the whole fix. DeAngelis endorses the notion that, “The best course of action for the United States would be to join the member countries of OECD and G20 and adopt the OECD’s proposed multilateral instrument” (1380). When the global market place is growing increasingly connected, drafting tax instruments that work harmoniously is the most logical solution. Without international agreement, nations will, justifiably, do what is only in their best interest. Selecting a course of action and moving to enact resolution must be of high importance.
Companies, and corporations, owe it to shareholders to increase their value and returns. Current tax policy in the United States has led many entities to question where they locate their operations. By simply relocating headquarters beyond the U.S. border, it is possible to reduce tax liabilities and increase the bottom line. Globalization has led to this phenomenon. Taxes faced by those in worldwide tax regimes, as the United States is, are frequently greater than those in territorial-like regimes. As a result, many U.S. companies left the United States solely for tax purposes, and many more continue to evaluate the opportunity. Reviewing the tax code and enacting legislation fit for the 21st century will help mitigate this issue and grow U.S. tax revenues. Ultimately, working with the international community to draft a comprehensive tax reform for a global marketplace will best serve everyone.