No Corporation Left Behind

Hi, I'm George Mundstock. Michael was kind enough to let me guest blog while he travels. Always wanted to try running a blog, but was afraid of the start-up and commitment (and, OK, that I would throw a blog and nobody would come). This is a great opportunity for me. Thanks Michael! Hope that you all find my stuff at least somewhat interesting.

As a tax type, it seems mandatory that my first entry be on taxes. Unfortunately for America, there is a huge corporate tax bill working its way through Congress, which is likely to pass after the elections and, therefore, makes a perfect first topic. The House passed the American Jobs Creation Act with $130 billion (over 10 years) in new corporate tax breaks (and some offsetting corporate tax increases, but only one big one, which will be discussed in a minute). The Senate has its Jumpstart our Business Strength (JOBS) Act with about the same total new benefits (although it, unlike the House bill, also includes the energy stuff that will be discussed tomorrow), but a few more revenue offsets, so as to have a lower net cost.

Quo Vadis? Well, its a long story: Since the 1960s, the US has had a tax incentive for exports, first called DISC (Domestic International Sales Corporations), then FISC (Foreign International Sales Corporations), and now ETI (Exempt Territorial Income). Most of the current tax benefits go to few companies (Boeing, GE, Intel, Microsoft, Honeywell, Caterpillar, Motorola, and Cisco). Surprise, all 3 versions of the incentive have been ruled to violate GATT by interfering with free trade, most recently in January of 2002. Since then, Europe has waited patiently for Congress to repeal ETI. (The Bush Administration did not push very hard for a fix.) Finally, in January, various European countries began imposing WTO-approved sanctions: tariffs on various imported US goods, which tariffs increase the longer that the US is in non-compliance, until the tariffs reach a total of $4 billion a year. So, now, Congress must Act. But, there is a problem: Chair Thomas of the House Ways & Means Committee views this as a “competitiveness” issue: US corporations must pay as little tax on foreign operations as some hypothetical tax outlaw foreign corporation (that doesn't really exist). In other words, GE needs new breaks for its foreign operations to replace its lost export incentive — that this makes it more desirable for US businesses to export jobs be damned. But, wait, says the Senate, what about Boeing and Caterpillar? We also need tax breaks for US manufacturing to replace the lost break for US manufacturers who export. And the House, which never met a tax cut that it didn't like, agrees. So, now, we have 2 bills that, rather than pick up $50 billion in much needed federal revenues by repealing an illegal subsidy, instead provide expensive new rules that benefit companies' offshore operations, while also rewarding anything that some accountant thinks is US manufacturing. Aarrgh! Why isn't your business as valuable to America as manufacturing?

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17 Responses to No Corporation Left Behind

  1. Skip says:

    But – I don’t understand – aren’t the “… expensive new rules that benefit companies’ offshore operations …” simply different versions of the same DISC/FISC/ETI illegal (by WTO rules) subsidies/tax incentives? Or is that the idea – new laws mean new litigation from European WTO members which then has to wend it’s way through the legal process …?

  2. Just wanted to offer words of welcome to George. Learned from and enjoyed your first post and will continue to follow your guest blogs.
    Cheers..

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  4. GeorgeMundstock says:

    Skip, ETI only rewards exporting (US manufacture AND associated foreign sales). The new bills do not provide an illegal export incentive: The GE stuff reduces US tax on most foreign operations, including foreign manufacturing. The Caterpillar stuff is for US manufacturing, regardless of where the manufactured goods are sold. Thus, a US manufacturer can sell in the US and get the US manufacturing benefits. The bills are not export incentives, but also, therefore, are just corporate giveaways. George

  5. vachon says:

    Welcome to the neighborhood, George. Got here from Brad DeLong’s shop. Good first post.

  6. Jonathan Rimdzius says:

    Are these the programs that are supposed to offset the disparity between “universal” and “territorial” tax systems? Or is that disparity a mirage…?

  7. GeorgeMundstock says:

    Thank you to those welcoming me!

    Most of the policy arguments for the GE rules are the same as advanced for the US repealing its world-wide regime and going to territoriality. As JR suggests, however, the difference between the US world-wide approach and territoriality is not that big. For those who have no idea what I just typed or want more elaboration, all of this will be the subject of a series of posts starting later in the week.

  8. GeorgeMundstock says:

    FOR ECONOMISTS: My last comment made me realize that, if Congress understood the theory of the second best and acted in accordance therewith, lobbyists would have a lot fewer arguments for bad legislation. Hmmm…..

  9. KevinCA says:

    It seems like this problem would be moot if we used a system of unitary apportionment to “divide up the pie.”

  10. GeorgeMundstock says:

    Kevin, Apportionment — which, I agree, is much better than arm’s-length pricing — only goes to sourcing of income. Apportionment doesn’t really answer the world-wide vs territoriality question, as sourcing issues arise under both. (Even under world-wide, need a sourcing rule under the foreign tax credit (which is needed to prevent double taxation.)) More later in the week.

  11. Drew says:

    The GOP have certainly used the worldwide vs. territoriality argument to sell these subsidies, but it’s just a distraction from the real goal — rewarding the big corporate donors. About half of the OECD countries are purportedly worldwide and half are territorial — but the terms don’t really seem to mean much. My understanding is that worldwide regimes have so many carveouts and territorial regimes have so many anti-abuse rules that they are not terribly different in the end. For example, the French territorial system taxes foriegn income that is parked in low income havens, and our worldwide system generally does not allow taxpayers to defer foreign income that is parked in low income havens — different systems but similar results.

    Funny how everyone moans about the complexity of it all, but given the opportunity to write their own legislation, these corporate donors and their tax lobbyists have come up with something that is obscenely complex.

    It seems to me that the best approach would be to allow for a territorial system with regard to foreign income earned in “high tax” countries and a worldwide system with regard to “low tax” countries. As long as a taxpayer paid tax somewhere — at, say, 80% or 90% of American rates — they would not have to worry about US taxes. Otherwise, they would pay US taxes with a foreign tax credit offset. This would still have sourcing problems, but we are stuck with those unless we are going to upend the international treaty and OECD system and go with apportionment.

  12. GeorgeMundstock says:

    Drew: Would you look through foreign subs, which we do today only with haven income? If so, the treaties are out the door anyway. If not, there is no real tax on low-tax income.

    General reader, I’ll start the discussion of the basics of the US taxation of cross-border enterprise with a post this eve.

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  14. PGL says:

    Under ETI, a corporation can make 15% of its profits tax-free by fiat. Since 0.35*0.85 = 29.75%, this can be an easy and powerful way to reduce one’s effective tax rate. ETI also allows a company to use the transfer pricing logic of section 482 to put profits into what is called by one entity a “virtual distribution entity” and have an effective tax rate equal to 24.5% (0.35*0.7) on that income. The section 482 route is preferable only if half of the profits under the arm’s length standard should accrue to the distribution entity, which is a laughable proposition to put it kindly. But guess what? Some professional advisors are dishonestly writing opinions that would suggest all manufacturing profits belong to the distribution entity. Over at angrybear.blogspot.com on Tues., I’ll offer up an example.

  15. pgl says:

    George:

    Just read with care Drew’s comment and your reply. As you might have been able to tell from my comment, transfer pricing is of strong interest to me. I really found your post of timely interest and you forward to the evening post as well!

  16. Tom says:

    Hey, George, what do you think about an excise tax on manufactured imports to pay for necessary improvements and other costs for seaport and airport security? That might be a constructive (and presumably legal) way to “equalize” U.S. manufacturers. Oh, I almost forgot. . . No new taxes. Perhaps President Kerry will like that idea.

  17. Duncan McQueen says:

    I hope we see more of your guest commentary, Mr. Mundstock. How the impressionable young minds at Minnesota will miss your wisdom.

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