The President unveils the fiscal year 2011 Budget," promoting job creation and the middle class while making tough choices to put America back on the path to fiscal sustainability, Monday, Feb 01, 2010

Ireland is again in the firing line as Obama targets overseas tax breaks available to US multinationals.

The Budget for fiscal year 2011, beginning on Oct 1st this year, which President Obama sent to Congress on Monday, proposes to impose a surcharge on the excess returns on assets such as brands and patents which are transferred to foreign affiliates that pay little tax. The administration is also proposing to deny companies that borrow money to invest overseas the ability to take immediate tax deductions on the interest payments.

The administration is targeting additional tax revenues of $122 billion over the next 10 years. The proposals are more modest than ones which were made by the President last year.

The Budget document states: "The American corporate tax code is riddled with inefficiencies and loopholes, including the fact that it allows companies to indefinitely defer the payment of US taxes on foreign income while immediately benefiting from the tax deductions associated with these activities. It also allows many companies to take advantage of transfer pricing to shift income earned in the United States to lower-tax countries. The Budget will reform and end these practices."

The patent tax exemption has been very attractive for multinational operations in Ireland as there is no requirement that the patent royalty be payable in respect of an invention used for an activity located in Ireland.

Patented inventions are a large source of revenue in the pharmaceutical industry. Ireland's tax exemption in respect of certain patent royalties, has been one of the driving factors behind investment by pharmaceutical multinationals, principally from the US, in the Irish economy.

The US Bureau of Economic Analysis said in 2008: "the large affiliate share of value-added for Ireland may be related to US MNCs’ geographic allocation of their income from intellectual property rights (such as patents). A sizable share of the investment in Ireland is in industries, such as pharmaceuticals and software engineering, where intellectual property plays a major role. Affiliates in Ireland conduct substantial R&D work, but it appears that a significant portion of the intellectual property held by these affiliates originated as a result of parent-company activity in the United States, and the property rights were subsequently relocated to Ireland where the tax regime for patent royalties is favorable. The royalty income, much of which is for use of the patents in other countries, is treated as arising from sales of services and is counted as part of the value added of the affiliates that hold them.”

The Wall Street Journal in a Nov 2005 article on Microsoft said: "A law firm’s office on a quiet downtown street here houses an obscure subsidiary of Microsoft Corp. that helps the computer giant
shave at least $500 million from its annual tax bill.

The four-year-old subsidiary, Round Island One Ltd., has a thin roster of employees but controls more than $16 billion in Microsoft assets.

Virtually unknown in Ireland, on paper it has quickly become one of the country’s biggest companies, with gross profits of nearly $9 billion in 2004."

The companies were subsequently converted to unlimited status to prevent access to the data.

SEE Finfacts article Nov 2008: Value added of US firms overseas as % of GDP highest in Ireland; US Employment of its Multinationals was 70% of total in 2006 down from 80% in 1988

In the Budget, the US economy is expected to expand by 2.7% in 2010 and unemployment is expected to remain high for several years.

"Our nation is still experiencing the consequences of a deep and lasting recession, even as we have seen encouraging signs that the turmoil of the past 2 years is waning," the President said in his Budget message."Moving from recession to recovery, and ultimately to prosperity, remains at the heart of my administration’s efforts."

US gross domestic product (GDP) is predicted to grow by 3.8% in 2011 and by 4.3% in 2012.

Last Friday, the US government reported that the economy grew in the fourth quarter of 2009 at an annualised 5.7% rate.

“Unfortunately, even with healthy economic growth there is likely to be an extended period of higher-than-normal unemployment lasting for several years,”the White House said.

The unemployment rate will be 10% this year, up from 9.3% in 2009 and 8.2% in 2012.

This year, a record $1.6 trillion deficit is expected, following a $1.4 trillion deficit in 2009. The 2011 deficit is predicted to be $1.3 trillion, with deficits remaining above $700 billion for the rest of the decade, according to the projections

The deficit forecast for the current year represents 10.6% of US GDP. The Budget forecasts an average 4.5% over 10 years.

Obama’s plan also includes the creation of a special debt commission to recommend steps to cut the deficit and tougher budgeting rules in Congress.

With the expiry of Bush tax cuts, top tax rates would increase to 36% and 39.6%, from the current 33% and 35%. The tax on capital gains and dividends would rise to 20% from 15%.

The Budget for fiscal 2011 totals $3.8 trillion compared with $1.9 trillion in 2001.

The national debt was $5.8 trillion when George W. Bush became president; it was $9.9 trillion when he left. It will be $15.1 trillion in 2011. The GDP estimate is also $15.1 trillion. Historical data here.

Peter Morici, professor at the Robert H. Smith School of Business, University of Maryland commented on Monday: "Today, President Obama released his proposed 2011 budget, which forecasts the federal deficit will fall to $706 billion by 2014 or just 3.9 percent of GDP before rising again in 2015.

To accomplish this feat, he proposes letting the Bush tax cuts expire and other spending cuts the Congress has rejected in the past. More extraordinary, though, the document assumes that real GDP grows at better than 4 percent a year over the four years from 2011 to 2014, and the economy does not encounter a serious recession.

If your staff economist tells you that is realistic, fire him.

Rosie Scenario wrote this budget.

The United States is facing deficits greater than one trillion dollars for the foreseeable future, and investing in long-term U.S. government bonds is a very risky proposition. It is not that Washington won’t pay, but longer term, an international run on the dollar and inflation are real risks.

Investing in U.S. bonds now entails considerable political risk. A populist government, similar to those that drove Latin American republics into bankruptcy during the 1970s is in charge.

Obama’s strategy: low growth policies and assume away the consequences."

Discussing how Congress will react to the President's budget, with CNBC's John Harwood and Ed O'Keefe, Washington Post.

Discussing the President's proposed budget for fiscal year 2011, with Heather McGhee, Demos Washington Office and Jeffrey Miron, Harvard University: