US lawmakers want to turn tax inversion upside down

7th August 2014

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The UK is no stranger to allegations of big corporate tax-dodges, but now the US is fast catching up both in losing corporation tax and trying to find ways to prevent these leakages.

While the British tax authorities try to come to terms with largely American companies such as Google and Amazon which route profits through a low tax jurisdiction such as Ireland or Luxembourg no matter where costs and sales arise, the US version known as “Corporate Inversion” or, more commonly “tax inversion” involves relocating a corporate headquarters out of the United States.

Although the end results can be similar, in American terms, it is seen as worse because it is more overt and considered by many as unpatriotic. Now some economists have come up with a new idea to beat corporation tax workarounds – but like most major tax changes, it is not cost free and there is no certainty it would work.

Inversion has been around for a long time but, spurred by this spring’s failed Pfizer takeover of UK based Astra-Zeneca, where relocation to the comparatively lower UK corporation tax was cited as a top reason for the merger, and the recent attempt by US stores group Walgreens to absorb the now Swiss-based Alliance Boots pharmacy operation and move its headquarters to Switzerland, US lawmakers have striven afresh to come up with ways to prevent tax escaping.

President Obama has called these firms “corporate deserters” who had “renounced their US citizenship.” The US Treasury warned firms they faced “possible administrative action”.

Walgreens has now said it will not move headquarters but will continue its move for Alliance Boots.

The effect has been to hammer healthcare stocks and those of Walgreens with investors seeing hoped for gains from inversion turning to dust.

Inversion is nothing new. US tax authorities have been battling the practice for two decades with a succession of more stringent rules.

But many are in favour of inversion. They say it evens up the rates US companies pay compared with foreign competitors.

They cite the very comparable detergent rivals Proctor & Gamble and Unilever. The former is based in Ohio, so the United States tries to collect taxes on its worldwide profits. But Unilever’s non-U.S earnings are taxed where they arise as it’s an Anglo-Dutch company. This gives Unilever, which makes Sure deodorant, an advantage just as Amazon has tax-based cost pluses over UK based stores such as John Lewis or Marks & Spencer.

One solution is to adopt the tax idea put forward by US based economists AlanViard and Eric Toder. They would repeal all corporation taxes, moving the burden onto investors by taxing dividends and capital gains as ordinary income, every year, not just when the stock is sold. This would also prevent the artificial advantages gained by financing with debt rather than shares.

But it raises as many questions as it solves. There would be a tax loss in the US even if adhered to. It does not offer an answer to companies without shareholders. And investors would find their own personal ways around this.

Ultimately, the answer is with equity holders. They should be happy if a firm pays more corporation tax as it means it is more successful – and they should be less than pleased with an executive suite that considers tax dodges to trump long term strategic thinking. That’s a charge that can be laid against managements both at Pfizer and Walgreens.

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