Posted by Kenneth Anderson:
How Offshore Corporate Income Tax Savings Works:
http://volokh.com/archives/archive_2009_05_31-2009_06_06.shtml#1244171516
A quick practical example, (responding unfortunately belatedly to a
student who, congrats, graduated a week or so ago) who asked what was
what with proposals from the Obama administration to tax US corporate
income parked offshore. I ran across a short [1]Bloomberg article
giving a practical example of what's at issue with respect to
Microsoft. The issue is this:
Obama on May 4 proposed outlawing or restricting about $190 billion
in tax breaks for offshore companies over the next decade. Such
business groups as the National Foreign Trade Council, the U.S.
Chamber of Commerce and the Business Roundtable have denounced the
proposed overhaul.
U.S. tax rules let companies defer paying corporate rates as high
as 35 percent on most types of foreign profits as long as that
money remains invested overseas. Obama says he wants to end such
incentives to keep foreign profits tax-deferred so that companies
would invest them in the U.S.
Here's how the current tax arrangements function for Microsoft:
Barry Bosworth, an economist in Washington at the Brookings
Institution research center, said many software companies such as
Microsoft have exploited tax and trade rules in the U.S. and other
countries to achieve a low overall tax rate.
Typically, he said, a company like Microsoft develops a product
like Windows in the United States and deducts those costs against
U.S. income. It then transfers the technology to a subsidiary in
Ireland, where corporate tax rates are lower, without charging
licensing fees. The company then assigns its foreign sales to the
Irish subsidiary so it doesn�t have to claim the income in the
United States.
�What Microsoft wants to do is deduct the cost at a high tax rate
and report the profits at a low tax rate,� Bosworth said. �Relative
to where they are now, the administration�s proposals are less
favorable, so there will be some rebalancing on their part.�
There is nothing illegal or unethical about this, of course; the tax
rules were developed understanding these effects. It's an asymmetrical
relationship; deduct at the high country rate and pay tax abroad at
the low country rate. But given that the rules were set up with the
effect of giving companies like Microsoft an effective lower tax rate
- 26%, according to the article - a change in that rate will cause
what Bosworth calls, a trifle blandly, "rebalancing," which is to say
adjusting for the tax hit by moving jobs offshore. (It's also not very
clear to me how the proposed change leads to increased investment in
the US, unless one thinks of the tax paid in the US as a form of
investment in the US government's investment plans.) However, good
idea or not, the article gives a useful, quick, and real life example
of how the current system works drawing on Microsoft.
References
1. http://www.bloomberg.com/apps/news?pid=20601087&sid=aAKluP7yIwJY
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