The U.S. government's efforts to collect taxes on American corporations' overseas earnings that have been shielded by so-called tax inversions may have backfired, triggering a wave of foreign takeovers of American firms, according to a report published Sunday in the Financial Times. To reduce taxes on foreign earnings, corporations based in the U.S., which levies the highest tax rate on corporations among developed nations, have resorted to tax inversions: Reincorporating foreign subsidiaries in nations with lower corporate tax rates. That effectively shields foreign earnings from U.S. taxes.
Since the U.S. Treasury Department revised five sections of the tax code, in September, and issued new rules designed to discourage companies from moving their headquarters abroad as a way to avoid paying taxes in the U.S., inbound cross-border acquisitions of U.S. companies have added up to about $156 billion, up from $106 billion the previous year, and $81 billion in the year before that, according to data from Thomson Reuters, cited by the Financial Times.
The move was designed to reverse a growing tide of capital from the U.S. Congressional Joint Committee on Taxation estimated that the measures would raise tax revenues by about $19.5 billion between 2015 and 2024, and the Congressional Budget Office estimated corporate tax revenues from the period to be about $4.5 trillion.
Senator Rob Portman, R-Ohio, told the FT that the jump in foreign takeovers underscored the need for comprehensive tax reforms, stating it “shows that one-off solutions instead of tax reform simply won’t work . . . The need for reform is urgent, and it’s not a Republican or Democrat thing, it’s non-partisan.”
President Barack Obama had previously proposed a major overhaul of the country’s corporate tax laws, which would have lowered the corporate tax rate to 28 percent from its current level of 35 percent, one of the highest in the world. However, political gridlock meant the plan failed to get traction. In his fiscal year 2016 budget, he also included a provision for a one-time 14 percent tax on about $2 trillion of income that has reportedly been kept abroad, and additional provisions to bring foreign income back home in the future.
However, a Reuters analysis found that the biggest companies known to have practiced tax inversions were paying taxes well below the actual rate of 35 percent even before their respective inversion deals went through. The Center for Tax Justice also released a report in February 2014, which found that 111 of the companies on the Fortune 500 list effectively paid zero income tax for at least one year between 2008 and 2012.
The biggest foreign buyers since the crackdown have been countries with lower tax rates such as Canada and Ireland, where deals worth $26 billion and $22 billion respectively have been announced. Prior to the U.S. government's move against tax inversion, Japanese and German groups were the most represented in acquisitions of American companies, according to the FT.
An unnamed Treasury Department official told the FT that the rule change on inversions was a first step, and that comprehensive reform is needed.
“As we’ve always said, we need to fix underlying problems in our tax code through business tax reform to address inversions and other creative tax avoidance techniques. We are committed to working with Congress to enact business tax reform that simplifies the tax code, closes unfair loopholes, broadens the base and levels the playing field.”