Trump’s corporate tax reform plan could neuter Ireland’s advantage
President Trump on Wednesday this week announced a sketchy Republican tax reform plan that covered just 9 pages and he proposed that the headline federal corporate rate should be cut from 35% to 20%. However, there is a risk to Ireland’s low 12.5% corporate tax advantage. The average rate of the mainly rich 35 member countries of the Organisation for Economic Cooperation and Development (OECD) is 22.5%.
There would be a special rate ── reported to be about 10% ── to get about $2.5tn in cash that is technically overseas, repatriated. Most of this cash is already in the United States and is invested in US Treasuries.
There would also be an immediate 100% expensing of capital investments rather than spread over several years.
The Trump outline concludes with the following:
“TERRITORIAL TAXATION OF GLOBAL AMERICAN COMPANIES
The framework transforms our existing “offshoring” model to an American model. It ends the perverse incentive to keep foreign profits offshore by exempting them when they are repatriated to the United States. It will replace the existing, outdated worldwide tax system with a 100% exemption for dividends from foreign subsidiaries (in which the US parent owns at least a 10% stake).
To transition to this new system, the framework treats foreign earnings that have accumulated overseas under the old system as repatriated. Accumulated foreign earnings held in illiquid assets will be subject to a lower tax rate than foreign earnings held in cash or cash equivalents. Payment of the tax liability will be spread out over several years.
STOPPING CORPORATIONS FROM SHIPPING JOBS AND CAPITAL OVERSEAS
To prevent companies from shifting profits to tax havens, the framework includes rules to protect the US tax base by taxing at a reduced rate and on a global basis the foreign profits of US multinational corporations. The committees will incorporate rules to level the playing field between US-headquartered parent companies and foreign-headquartered parent companies.”
The US’s effective corporate tax rate based on tax paid on reported profits — after a large number of tax breaks — is at 18.6% according to a 2017 Congressional Budget Office report this year, compared with the combined headline federal + state rate of 38.9%. The US effective rate compares with Japan (21.7%); the UK (18.7%) and Germany (15.5%).
“Today, our total business tax rate is 60% higher than our average foreign competitor in the developed world,” President Trump said in Indiana last Wednesday. “That's not good. We have surrendered our competitive edge to other countries, but we're not surrendering anymore. We're not surrendering anymore… When our companies move to other countries, it’s our loyal American workers who get hurt. And when companies stay in America and come to America, it’s our wonderful workers who reap the rewards.”
“What is most interesting is how ill-formed this plan is. We have been waiting months and months for a Trump plan,” Steve Rosenthal at the Tax Policy Center, a think-tank, said. “They promised us a plan, then delivered principles. They promised us a plan again, then delivered a nine-page skeleton with wide margins. So where’s the beef? We have yet to see anything of any content.”
The big change in the corporate proposal is the shift to a “territorial” system under which US companies would in future mainly pay tax only on US earnings, rather than world income with an offset for foreign taxes.
While US multinationals have long advocated for a “territorial” system, they have benefited from the existing system as foreign profits are only subject to tax in the US if repatriated and for example Apple has designated up to 65% of profits as foreign-related and in fiscal 2012, for example, it had a foreign tax rate of 1.9%.
Fortune magazine wrote this week:
"US companies would not be simply paying, say, the 12.5% rate in Ireland on profits booked there. They'd potentially be subject to a 'minimum tax' on foreign profits. The proposal does specify a "reduced" rate, strongly implying the number would be below the 20% US statutory levy.
So the minimum rate is a mystery. We do know that the plan leaves open a levy below 20%. So something around 18% would seem highly possible. Indeed, a proposal in the final Obama budget for 2016 advocated a formula that could have pushed the minimum over 20%.
How the minimum would be imposed is another mystery. Here are the possibilities. First, the Treasury might use a 'cumulative' approach by adding together all a company's offshore profits. If the minimum tax is 18%, and the company paid less by sheltering profits in lots of tax havens, it would pay the difference in US taxes. Second, the Treasury might go country to country. If a drugmaker is paying 12.5% in Ireland, and 9% in Hungary, it would need to pay the difference in the US, amounting to an extra 5.5% for Ireland, and 9% for Hungary.
The choice is critically important. Here's why. Say multinational books 35% of its $1bn in foreign profits in Ireland and Hungary at an average local rate of 10%, and the other 65% in other countries at the world average of 22.5%. If the minimum tax is assessed cumulatively, the company would owe nothing; the requirement is $180m (18% of $1bn), and it's paying $35m in Ireland and Hungary, and $146m in other foreign nations, for a total of $181m, $1m over the floor.
But if the US goes country by country, the multinational wouldn't get credit for paying more than the minimum tax on 65% of its earnings. Instead, it would be hit with a surcharge of 5.5% in Ireland (to bring the total to 18%), and 8% in Hungary. It would owe an additional $28m, raising its total foreign tax bill to almost 21%.
Calculated either way, the minimum tax means that US companies would pay more overall than foreign competitors with the same foreign footprint. 'Going country by country would be extremely hard on multinationals with lots of operations in extremely low tax nations,' says Kyle Pomerleau of the conservative-leaning Tax Foundation.
The minimum tax is especially troublesome for tech and pharma companies that have large operations in such low-tax nations as Ireland. "It's even possible that a company could be worse off than before," says Pomerleau. He notes that many companies now pay no US tax on foreign profits because of the deferral loophole, yet generate lots of earnings from investments in those nations that they. in turn, keep reinvesting abroad tax-free. The reform proposal kills all deferrals. If a company faces an 18% minimum tax in Ireland, it can no longer simply pay the Irish tax only, leave the profits in the foreign sub, and delay paying the 5.5% difference for decades. It would need to cover that difference immediately, no loopholes allowed. 'In the past, the company could delay paying for many decades, so the present value of the tax liability would be well below 5.5%,' says Pomerleau. So for companies with heavy production in tax havens such as Ireland, tax bills could actually rise.
For many multinationals, the proposed reforms would appear to lower their overall taxes on foreign earnings. That's a good thing. The problem is that the benefits are unlikely to be as rich as advertised — again, because of the minimum tax. A pharma company in Ireland could pay 18% on its earnings there, while a Swiss competitor would owe just 12.5%, putting our drugmaker at a severe disadvantage."
Effective corporate tax rates
The 2016 national average effective rates of corporate taxes of 0.4% for France and 12.4% for Ireland, cited in the latest Comptroller and Auditor General (C&AG) report published this week, do not reflect the reality for multinational firms.
The C&AG report refers to the latest ‘Paying Taxes’ annual report produced by PwC and the World Bank. Its model company is a small firm which sells all its output of flower pots in its domestic market. The C&AG report says “France had the second highest statutory rate at 38% but the lowest effective rate at just 0.4%.”
However, France has a headline rate of 15% for small firms and in 2015 the PwC/World Bank reported that the model company's effective rate for France, based on taxes paid, was 7.4% in 2014. The plunge to 0.4% in 2016 reflects a 7% wages tax credit with a limit up to 2.5 times the national wage. The credit took effect in 2015 when it was worth 6%.
As for the Irish effective rate of 12.4% compared with the headline 12.5% rate for a company such as Google, the tax it declares is after massive profit shifting.
Google had an effective tax rate of 6.4%, outside the US in 2015.