U.S. MULTINATIONALS & TAXATION: The Root Causes of US Structural Debt

Growth and employment requires the President to set aside political rhetoric and focus on real U.S. tax reform.

by Gil Shidlo for The International Chronicles


Recently, it has been popular to bash hedge funds, oil companies, private jets and U.S. multinationals for failing to repatriate hundreds of billions of dollars held overseas. With election season coming up, Obama is positioning himself to “fight” for the middle classes. There are good political reasons to carry out such a strategy but the main one is that it is easier to blame others for reduced government tax revenue than to create jobs.

Obama said recently he wants to get rid of the “egregious loopholes that are benefiting corporate jet owners or oil companies at a time when they are making billions of dollars in profits”.

The cancellation of tax incentives such as the bonus depreciation, which used to entice companies to buy corporate jets again after 9/11, will be popular with the middle classes. Recall the media frenzy when the executives of Detroit’s Big Three were criticised for flying to D.C. in private jets in 2008 to ask the government for a bailout. Closing this loophole will increase tax revenue by an estimated $3 billion over the next ten years, but it will also mean that employment in the business aviation industry will suffer.

Kansas, which calls it itself the “air capital of the world,“ employs over 30,000 people directly in the aviation industry and is home to Cessna, Hawker Beechcraft  Bombardier and hundreds of parts suppliers. It is not only “corporate fat cats” that use private jets for businesses but rather many others. These jets fly to the 90 percent of U.S. airports not served by commercial airlines. Foreign manufacturers of private jets such as France’s Dassault are not the only ones to benefit from this tax break, but the $3 billion revenue increase over ten years is a drop in the bucket. Nevertheless, polls show (and this is what dictates Obama’s decisions) Americans are quite happy to increase taxes to big corporations and millionaires. The problem is that increasing taxes during a recession only makes things worse, as President Clinton quickly learned before his U-Turn.

Obama’s use of the tax code to target enemies and reward supporters could not be more clear. Obama was quick to hand out mega billions in subsidies to the Big Three to give thanks to the auto unions that donated enormous amounts to his campaign.

Currently there is a debate about reintroducing some form of the “2004 Tax Holiday” that allowed U.S. multinationals to repatriate profits at a rate of 5.25 percent, in order to increase revenue and redirect investment back onshore. Obama’s opposition to the idea, is based on the argument that the 2004 holiday did not generate new jobs. Most companies used the repatriated money to buy back shares or increase dividends. However, this indeed is true and can be remedied by creating a so called “Infrastructure Bank” and requiring guarantees that the funds be used to create jobs. Not only Republicans are promoting this policy but actually so are leading Democrats such as President Bill Clinton and Senators Charles Schumer and Kay Hagen.

In addition, one other way which was proposed to encourage companies to create new jobs in the U.S. has been to tax them $25,000 for every American fired. At the same time, the new tax holiday would not realistically be at the same level as in 2004 but rather at a more globally competitive 15 to 20 percent tax.

What most people don’t know is that the USA has the second highest corporate tax rate of any advanced economy–after Japan. While Japan is planning to decrease company taxes this is not the case in the current White House. With a 35 percent federal tax on corporations, and an additional state corporate tax rate of between 4-9 percent, it is not surprising that companies that have access to financial and taxation planners and that have overseas operations are depositing billions in other countries and leaving it there.

Many European countries are benefiting from high U.S. corporate taxes, especially ones with low rates like Ireland’s 12.5 percent. Another low taxation favourite of U.S. companies is Switzerland, with various cantons competing for US corporate headquarters. For example, Tyco International which was criticised a few years ago for being registered in Bermuda (while most of its operations were in the U.S.), decided to relocate to Schaffhausen in Switzerland, or Noble Energy in Baar, Zug just outside Zurich.

Although, the statutory corporate tax in Switzerland is 24 percent, many companies end up paying less as each Swiss district (or canton) competes with each other and it is common to pay 8-10 percent - which is even lower than Ireland's rate.

Despite having such high tax rates,  the U.S. government collects only about 15 percent of GDP in tax revenue which is comparatively low on both a historical and global basis. An underestimated reason is that 50 percent of Americans pay no income tax at all while many receive tax credits. With the government spending 25 percent of GDP it is not surprising that the U.S. has such a structural debt crisis and the rating agencies are pessimistic.

Polls in the U.S. indicate the majority of Americans have no problem with the government increasing taxes, but only to corporations and rich people—that is households with an income over $250,000 a year. The last ten years are the only time in American history when the country went to into major conflict – Iraq and Afghanistan – without raising taxes to pay for at least some of the costs,  which run in the hundreds of billions of dollars a year.

If one compares the U.S. and European governments then one can see that the latter collect much more taxes and spend much less on defence. But it is not only how much a government collects but also how those taxes are collected. The U.S. problem is that the government relies on collecting taxes from profits, capital gains or from the interest people receive from their investments. In a period of economic crisis it is obvious that tax collection drops sharply. Many European countries rely on collecting taxes via Value Added taxes (VAT, or in France, TVA), a so-called national or federal sales tax and as well as highly taxed gasoline. Indeed, a poor country like Portugal now has one of the highest gas prices as the government increased taxes at the pump. Other countries like Switzerland, France etc. rely on a wealth tax, which taxes individuals on total assets rather than income.

What is necessary for the White House to do is to stop using populist measures and rhetoric when deciding tax policy but rather to think about carrying out a serious tax overhaul or reform. The last time a serious federal tax reform was carried out was in 1986 under President Ronald Reagan.  Quite a lot was achieved by  the U.S. Tax Reform Act of 1986 that was passed by Congress – simplifying the income tax code; eliminating many tax shelters and deductions; decreasing the top rate from 50 percent to 28 percent, and increasing the bottom rate from 11 percent to 15 percent. The reform was designed to be tax neutral as corporate taxes were increased. Capital gains were taxed the same as ordinary income.

The Obama administration should consider carrying out a serious tax reform instead of doing cosmetic changes. One possibility is to implement partly the “competitive tax plan” which was created by Michael Graetz - Professor of Law at Yale University and a former Deputy Assistant Secretary of the Treasury for Tax policy.  His plan - which is regressive or at least less progressive than the current personal income tax - would impose a 10-15 percent value added tax (VAT) and reduce personal and corporate income taxes.  Graetz states that such a tax would generate enough revenue so that individuals or families with up to $100,000 annual income would not need pay any income taxes or even file a return. In addition, households with an annual income of over $100,000 would pay a flat 25 percent rate.

In order for the VAT to be less regressive it would make sense to reduce the rate on food and children’s clothing say to 5 percent and use the higher rate for big ticket items like cars. Revenues from a federal retail sales tax could be used to replace federal revenues from payroll, estate and gift taxes. At the same time Graetz advocates reducing the corporate income tax rate to 25 percent which would make the US a very attractive country to invest in. Lower corporate taxes would reduce the incentives for corporations to shift income to other countries with relatively low tax rates.

Repatriation of U.S. corporate funds held overseas can generate jobs in the U.S., if properly administered. The idea of a “tax holiday” is gaining support from moderate Democrats as well as from Republicans. It is clear, however, that with the government in a debt crisis the 2004 rates for repatriated earnings would not be feasible. Both parties should work together to carry out a serious federal tax reform, making the U.S. more attractive for foreign investment through competitive corporate rates. It makes no sense that U.S. companies prefer to acquire foreign companies and assets instead of local ones based on tax disincentives.


Gil Shidlo holds a Ph.D. from the London School of Economics and worked for many years in academia and international organizations. He has published numerous books and articles. For the past 12 years, he has focused on investing in international stock markets and he contributes regularly to NewsMax’s Financial Intelligence Report and Moneynews. He is based in Monaco.

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published this page in The Attic 2012-03-27 02:31:00 -0400