U.S. multinational companies have been seeking a tax break on overseas income for years, and the top Republican tax writer in Congress is proposing to give it to them. There’s a catch they don’t like.
Businesses and trade groups are lobbying House Ways and Means Committee Chairman Dave Camp to loosen rules in his draft plan that would make it more difficult for companies to shift income from the U.S. to lower-taxed countries. Among those groups is the National Foreign Trade Council, whose board includes officials of Oracle Corp. (ORCL), Pfizer Inc. (PFE) and PepsiCo Inc. (PEP).
“It’s a good-faith effort, but we are a long way from developing a package that everyone can sign on to,” said Catherine Schultz, vice president for tax policy at the trade group, which advocates expanded international commerce. “You would not get a lot of the business community supporting this if this was a final draft.”
The debate over foreign income is a preview of how difficult a tax overhaul, which both political parties say they want, is going to be. While many — though not all — companies know they don’t like what Camp proposes, they don’t agree about how to fix it. What some companies call fair others see as unjustified, depending on what line of business they are in and how their global operations are organized.
“There are a few Veruca Salts who want it all and want it now,” said Camp, comparing a minority of companies to the fictional spoiled rich kid from the book and movie “Charlie and the Chocolate Factory.”
In many cases, tighter rules on moving income to low-tax countries such as Bermuda would offset much of the gain from the exemption Camp is proposing.
U.S. multinational companies, including Google Inc., Cisco Systems Inc., and Forest Laboratories Inc., save billions of dollars in taxes annually by shifting profits into subsidiaries in tax havens, often using techniques with nicknames like “double Irish” and “Dutch sandwich.”
Under current law, U.S. companies owe the 35 percent U.S. corporate tax rate on all the income they earn around the world. They get credits for tax payments to foreign governments, and they don’t pay the U.S. anything until they bring the money home.
Camp, the U.S. Chamber of Commerce and Republican presidential candidate Mitt Romney say the U.S. tax system makes it harder for American companies to compete internationally with businesses from the U.K., Germany and Japan whose home countries don’t impose additional taxes on foreign profits.
President Barack Obama contends the tax code already provides incentives to move business offshore. He wants to deny tax deductions for the cost of moving production abroad and make it harder for companies to defer U.S. taxes on overseas income.
“It still makes no sense for us to be giving tax breaks to companies that are shipping jobs and factories overseas,” the president said May 30.
The plan offered by Camp, a Michigan Republican, assumes the corporate tax rate will drop to 25 percent from 35 percent, and it would give companies a 95 percent exemption on their foreign income. The plan has three options to keep companies from eroding the U.S. tax base by shifting income overseas, and that’s what has prompted much of the business reticence.
“The base-erosion provisions have not been particularly popular,” said Pamela Olson, deputy tax leader at PricewaterhouseCoopers LLP in Washington. Companies are trying to come up with an alternate proposal though it is a “tortuous path,” she said.
Camp, 58, said in a statement that companies should be realistic and understand the choice is between Republicans’ “pro-growth reforms” and “massive tax hikes the president and Democrats are talking about.”
Most companies realize a tax plan must “balance the need of raising the same level of revenue with reforms that make us more competitive and lead to stronger economic growth, and that includes necessary safeguards,” he said.
Dave Cote, chairman and chief executive officer of Honeywell International Inc., based in Morris Township, New Jersey, said in a statement that the company supports Camp’s efforts.
“We applaud the chairman’s invitation to the business community to provide feedback and recognize that the legislation will include provisions to prohibit abuse and maintain a U.S. corporate tax base,” Cote said. He said the plan needs to “serve both American business competitiveness and the need to preserve tax revenue in order to address our growing national deficit and debt issues.”
Camp’s plan would offset the tax revenue lost from the 95 percent exemption. Some would be made up by requiring companies to pay taxes on more than $1 trillion in overseas profits they accumulated earlier and haven’t brought home.
Part would come from Camp’s options for making it tougher for companies to gain an advantage by shifting income to a lower-tax country. One idea, borrowed from the Obama administration, would tax excess profits — as defined by the government — from companies’ intangible overseas assets, such as patents and trademarks. A second, modeled after a Japanese law, would exempt overseas income from U.S. taxes if a company paid at least 10 percent in foreign taxes.
The third alternative would set a 15 percent tax rate on international income from all intangible assets. If a country’s effective tax rate isn’t at least 13.5 percent, the company would have to immediately pay enough U.S. taxes to bring the total to 15 percent.
For example, a company that earns $1 million from intangible assets in Ireland, which has a 12.5 percent tax rate, would pay $125,000 to Ireland and $25,000 immediately to the U.S.
The National Association of Manufacturers has criticized the provisions.
“We’ve got to be overseas and we’re trying to be profitable and compete,” said Dorothy Coleman, the trade group’s vice president of domestic and economic policy. “The goal is not to erode the U.S. tax base. The goal is to be competitive and be part of the global economy.”
The three options may undercut the gain from the 95 percent exemption, the Semiconductor Industry Association said in a March 14 letter to Camp.
“We urge the committee to look at other countries and explore how these proposals would fit within the norms of international taxation, and how these proposals fit within a goal for a competitive tax system,” Bill Blaylock, vice president and senior tax counsel at Texas Instruments Inc., wrote on the group’s behalf. “It appears to us that they would not fit.”
The semiconductor group’s letter said Camp’s three options would lead to disputes over how to define income from intangible assets and calculate effective tax rates.
Camp and Obama understand how companies are trying to reduce their taxes by taking advantage of lower-taxed jurisdictions, said Reuven Avi-Yonah, a law professor at the University of Michigan in Ann Arbor.
Businesses don’t like Camp’s approach “for precisely the reason that I like it,” Avi-Yonah said.
Camp’s base-erosion proposals represent “a very important and very hopeful area of consensus,” Jason Furman, the deputy director of the White House’s National Economic Council, said at a May 17 National Tax Association conference.
Executives from some companies, including Intel Corp., Praxair Inc. and United Technologies Corp., say they can tolerate the base-erosion provisions, in part as a way to get the 95 percent exemption on overseas taxes.
“You look at each provision and you find something good or bad about it, but in totality we look at the entire proposal,” said Tobin Treichel, a tax vice president at United Technologies (UTX), the maker of Otis elevators and Pratt & Whitney aircraft engines.
Treichel called Camp’s third option “more refined and more targeted” than the second option. His company relies on intellectual property based in the U.S., while high-tech companies have moved such assets out of the country and would be more likely to face higher taxes under the third alternative.
The Business Roundtable, an association of chief executives of the largest U.S. companies, wants to ensure that the rules don’t put U.S. companies at a disadvantage, said Matt Miller, a vice president at the group.
“None of our trading partners have such broad rules that have such broad application, so that’s kind of the concern,” he said.
Coleman, of the manufacturers’ group, said companies are studying how the proposal may affect international operations established under today’s rules.
“It’s a work in progress,” she said, “and that’s the way we viewed it.”
By Richard Rubin
Courtesy of Bloomberg News