Inverted reality

The hot topic in politics right now is “corporate inversion.” That is the term for a U.S. company moving its official headquarters out of the United States in an effort to pay lower taxes. President Obama has called corporate inversions “unpatriotic” and “wrong,” and accused these companies of trying “to get out of paying their fair share of taxes”. Yet in the same speech, the President admitted the tax regime itself is a mess. If he had explained why, corporate inversions wouldn’t seem so nefarious - the United States government would.

For companies that operate internationally, the United States has the most burdensome tax regime in the developed world:

• Generally a 35% corporate income tax rate (plus, on average, an additional 4.1%  state corporate income tax rate)
• Global tax regime (companies pay the U.S. tax rate on all income, regardless of where it was earned, although with a Foreign Tax Credit for taxes paid abroad)
• Limit on the Foreign Tax Credit (beyond the limit, companies have to pay the full foreign tax, plus the full U.S. tax)

In short, when it comes to taxation, the United States is hostile to multi-national companies. Treasury Secretary Jack Lew has warned that American companies are performing inversions at “breakneck speed."  Given the way they are being treated in an already challenging economic environment, why wouldn't they leave? They are practically being forced to, and without any good reason.

Theoretically, the United States shouldn’t have the highest corporate tax rates. We’re supposed to have a business-friendly country with limited, low-cost government. We aren’t in the midst of special circumstances like a major war or a big push to pay our debts. Why would our tax rates be higher than socialist France and Sweden?

The United States also shouldn’t have a global tax regime. If a U.S. company conducts a transaction in another country, it is subject to their laws and their court systems. Practically speaking, the United States isn’t involved. Why would the United States have a right to tax a transaction it has nothing to do with?

It isn't difficult to see our corporate tax policies are unreasonable. Corporate inversions are a way for multi-national companies to vote with their feet. They are moving to more sensible jurisdictions. If we don’t want to continue driving them away, we need to reform our tax system.  The Obama administration halfway agrees.

Obama and Lew have suggested, “The best way to address this situation is through business tax reform that lowers the corporate tax rate, broadens the tax base, closes loopholes, and simplifies the tax system.”  That’s mostly right.  Eliminating loopholes is particularly important, because they both complicate the system and allow many companies to avoid paying taxes altogether.  However, there’s a reason Obama and Lew don’t mention the global tax regime. They want to keep that part.

It seems Obama and Lew are more interested in tax revenue than the businesses that generate it. They fear the way corporate inversions “function to hollow out the U.S. corporate income tax base.”  They have a point. If the United States were to stop double-taxing foreign earnings, the tax base would instantly shrink. But if that was part of a sweeping tax reform that made the United States more business-friendly, the result would quickly draw foreign businesses to the United States (not to mention encourage startup companies here). Obviously a business boom would greatly expand the tax base. So by refusing to discuss global taxation as part of the reform, the Obama administration is sending a message. It wants to maintain tax revenue more than it wants to eliminate bad policy.

In fact, the administration wants to double down on bad policy. It has asked Congress to “prevent companies from effectively renouncing their citizenship to get out of paying taxes.”  Aside from mischaracterizing the situation, that request seems short-sighted. While it might force a few companies to stay in the United States, it would further discourage multi-national business in our country. It isn’t a solution to the real problem, but another desperate bid to preserve the status quo.

President Obama is attempting to rally support for his lackluster argument by stirring up nationalist emotions. He has invented the vague term “economic patriotism” to further imply that companies leaving the United States deserve to be condemned by Americans. “Instead of doubling down on top-down economics, I want an economic patriotism that says we rise or fall together, as one nation, and as one people.”  Asking American companies to take an unnecessary hit to their competitiveness out of a sense of duty isn’t just misguided, it’s dangerous. Repeated a few times, this exercise would handicap our economy and spoil our spirit of patriotism.

An ideal tax regime is able to collect revenue without intruding on business decision-making. As a general rule, if companies are making expensive decisions based solely on tax concerns there is a serious tax policy problem. If the decisions include leaving the country there is an outright policy crisis. One way to respond is to demonize the victims and try to force them to stay. Our country would become even more inhospitable to multi-national businesses, but at least we might sink our claws into a few and prevent them from fleeing. Alternatively, we could undertake some long-overdue tax reform. Then our country would become much more inviting to multi-national businesses, and many of them would move their operations here. That would expand our tax base the right way – without unreasonable laws or insidious tactics.

Many multi-national companies would prefer to be based in the United States.  If we want the tax revenue they bring, the developed world's most oppressive tax regime isn't the way to do it.  We need to offer sensible rates without double-taxation. That’s just common sense. Patriotism has nothing to do with it.