Burger King, Pfizer, AbbVie, Walgreens and other American corporate icons have ignited an intense political firestorm arising from their proposed “inversion” mergers with non-US firms to lower their tax bills.
President Obama has accused them of being “corporate deserters” and of “cherry-picking the rules” to damage US finances. Treasury Secretary Jack Lew assails these companies for lacking “economic patriotism” and on September 22, his Treasury Department unilaterally changed the rules for inversions to limit some of their benefits. And the move has had an effect. AbbVie and Shire just last week called off their merger because of the rules change.
A “corporate inversion” is an ominous sounding provision in the Internal Revenue Code which spells out the tax rules for U.S. companies which combine with a foreign company to take advantage of lower tax rates. One wonders whether the term was meant to sound like “subversion” by IRS lawyers who don’t want companies to “invert”, because when they do, it calls attention to the United States’ egregious corporate tax laws.
In a sense though, Secretary Lew is right. What is at stake here is economic patriotism. But he’s got it backward. What would be truly patriotic are tax policies that make the United States a more attractive county for firms to invest and do business in. While he and virtually everyone else pays lip service to the need for more and better jobs and greater economic growth, we have a corporate tax regime that does just the opposite. The way to stop inversions is to reduce the incentives for doing so, not to use the tax code to build a Berlin Wall to keep them from leaving.
The fact that firms are seeking to make these deals should be all the proof needed that we should rethink corporate taxes.
At roughly 39% (including state taxes) the U.S. has the highest corporate tax rate among developed countries. The U.S. rate is double the average in Europe and is more than triple the 12.5% rate in Ireland.
Moreover, our tax code compels a “worldwide tax regime” which means that U.S. companies pay taxes at the highest rate on income earned everywhere in the world. Virtually all other developed countries have “territorial tax regimes” which do not tax the foreign profits of their domestic companies. So our tax code doubly penalizes US companies by taxing them at higher rates and with punitive worldwide tax collection.
By giving foreign companies a big tax advantage – remember, taxes are simply another business expense – more and more U.S. companies are looking at inversions. If your tax rate were 39% in one country and 12.5% in another, what would you conclude?
According to Laura Tyson, chair of President Clinton’s Council of Economic Advisers: “America’s relatively high rate encourages U.S. companies to locate their investment, production, and employment in foreign countries, and discourages foreign companies from locating in the U.S., which means slower growth, fewer jobs, smaller productivity gains, and lower real wages.”
So it’s right to talk about patriotism–but what are “unpatriotic” are tax policies that drive businesses out of the United States, deter foreign firms from entering and drive investment, innovation and jobs out of the country.