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For undocumented reasons, our Congress, the legislative arm of our government struck a deal from hell with American corporations in 2004 to induce them to repatriate their foreign income. Can you imagine an IRS agent trying to induce you to pay your taxes? For this big tax-break deal, corporations willingly promised to create jobs in the US; they also promised not to purchase their own stock; or enrich their corporate officers; along with other promises. In the final analysis, intentionally or unintentionally, the corporations that repatriated earnings from foreign bank accounts lied; and no such benefits accrued to America. I wonder why, with such a powerful government, this deal was even necessary. Why did the government merely not call the income reporting due immediately, and then go about taxing it at the appropriate rate? All they needed to do was to send the IRS to collect the cash, and case closed!
Since repatriation and RRR will be used in this op-ed, before we continue, let me provide a very brief definition of foreign income deferral, repatriation, and RRR:
Foreign Income Deferral: Most countries have a territorial taxing system in which only the income earned in the country is taxed in that country. The US has a worldwide tax system. US citizens and corporations pay federal income taxes on all their income, wherever in the world they earn it. Years ago to help corporations compete worldwide, the tax system incorporated a notion called “deferral.” This permits U.S. multinational companies to delay paying U.S. taxes on overseas profits as long as they keep those profits offshore.
Repatriation: When companies bring their deferred income back to the US to pay dividends, etc., it is called repatriation. Capital flow from a foreign country to the country of origin. This usually refers to returning returns on a foreign investment in the case of a corporation, or transferring foreign earnings home in the case of an individual.
RRR: A unique comprehensive plan put forth by Brian Kelly for economic recovery and job creation. The plan, as introduced in a separate conservative action alerts email, can be accessed by typing the article title into your browser: An Introduction to RRR: A unique plan for economic recovery and job creation.
At 35% federal and about 40% when including the states factor, the US corporate tax rate is one of the highest in the world. For years tax deferrals of foreign profits have helped American firms win in international competition. In the past thirty years or so, however, corporations have been using the deferrals to finance the construction of the very facilities to which they then offshore formerly American jobs. Yet, there are still advocates of this system who suggest that deferrals and other clever notions, such as the foreign tax credit are still important. They see these corporate loopholes as necessary to prevent the very high U.S. corporate income tax from undermining the international competitiveness of American companies.
Despite the hard liners on the topic, there are liberals and conservatives that think the importance of the deferral in today’s world economy is overrated as far as its value to America. Nobody can blame corporations for wanting to keep all tax advantages and loopholes, and get rid of all types of what it perceives to be tax oppression. The bottom line should be that changes should be made to help the country and the people and, to the extent that corporations help America, they will then be the beneficiaries. Vice versa has been the rule for too long.
Unfortunately, every time a government bureaucrat figures out a complicated way to assure that the IRS gets its due, a smarter corporate tax accountant or tax lawyer does them one better. Today, offshore deferral actually encourages companies to use accounting techniques to record profits offshore, though a few white lies are most often necessary. Even when corporations keep actual investment and jobs in the United States, the white lies through offshore tax return tricks, permit them to steal from the US Treasury with no repercussions. Smart U.S. corporations therefore report their largest profits in low-tax countries like Luxembourg, or others, though clearly that is not where most real economic activity occurs. The bottom line is that when corporations think taxes are unfair, they will take whatever chances are necessary not to pay the taxes.
In this op-ed and others in the RRR program, I recommend that the deferral be ended completely along with reducing the domestic corporate tax rate to 8% or lower. Right now, the system is upside down as it makes it more expensive for American companies to bring back cash from overseas to invest at home. Consequently, there is a perverse incentive for companies to build facilities and ship jobs overseas. Surely this incentive does not help America and it does not help the American people.
For the US, this means that the IRS gets the cash years later or does not get it at all if invested in foreign countries. The implications of deferrals are that US parent corporations get to amass untaxed earnings from operations or investments in foreign countries, and they can keep them in foreign banks untaxed. To an extent it is like an IRA for American corporations that expires only when a foreign subsidiary corporation sends the cash back to the parent US Corporation. No taxes are paid until then.
This is officially called income deferral and of course it also is tax deferral. I find it ironic that as I was finalizing this piece, Democrats in Congress were discussing how to tax our 401K plans rather than stop their runaway spending. The irony comes since our esteemed politicians are not too anxious to tax corporations that have offshored their businesses and who are now enjoying 401k-like tax deferrals at our expense.
When companies choose, or they are forced to bring these earnings or returns on investments back to the US parent headquarters, the income is considered repatriated and only then is it taxed. US companies now have major accumulated earnings from years of overseas operations. Most estimates are that there are about two trillion dollars untaxed in foreign banks. Companies understandably are very, very reluctant to bring their income back home for the tax man to snag as much as 35% minus the taxes already pad to the foreign host country.
Yet, American companies that have stayed home and earned their dollars in America are being played the fool in this scam as they pay the 35% rate and get to defer nothing. Meanwhile, the companies that hurt the home country and offshore factories and jobs are rewarded. Companies that do not offshore consider their competitors that do offshore as receiving an incentive from the government, to help them destroy American jobs. They are right!
Congress and the Presidency have had buyers’ remorse over the years as to the permission granted to corporations for income deferrals. When the lobbyists wine and dine them with the finest wine and the finest steaks and lobster at the finest establishments, they are perfectly OK with tax deferrals. When there is nothing left of the perquisite and even its memory is past, Congress again looks at our empty treasury, and wants to fill it up however it can. When the dollars mount up in overseas bank accounts, the government wants to get its hands on the loot. Even though government has continued to have the power to end deferrals completely, instead, both the Democrats and the Republicans choose to play games, giving the upper hand to the corporations and the losing hand to the jobless in the US.
H.R. 4520 was one of these half-hearted tricks enacted in 2004 and christened with an even trickier misnomer, the American Jobs Creation Act of 2004. Congress chose not to deal with the real problem of slippery corporations that were making a double killing on offshoring profits. The name of this act is a euphemism to make Congress look good while still doing nothing to upset their corporate friends. No jobs were created. Yet, corporations that made lots of money overseas were rewarded with major tax forgiveness. Companies made out like bandits after pulling a big con-job on America. If corporations want to be viewed well by Americans in the future, they should stand tall and act like the American citizens, which they claim to be.
H.R. 4520’s major purpose was to accommodate deferred earnings repatriation. Overall, this is an innocuous term used to encourage American companies to bring back their cash sooner rather than later from their overseas bank accounts. This would immediately subject their foreign profits to taxation. Considering that government can eliminate the deferral completely, one wonders why this slippery method was chosen. This act provided a onetime 85% incentive to bring the cash back. Do you remember the people ever getting an 85% tax break? Congress simply could have ordered it but instead corporations got a big windfall. In other words, instead of paying the going 35% tax rate, corporations paid a paltry 5.25% tax rate to bring their money back to the treasury of the parent corporation.
Not only was this bill bad in theory but it was bad in practice as corporations chose to ignore all of the non-binding stipulations to which they had agreed in order to be worthy of the government payoff. In other words, the 2004 repatriation accomplished none of its stated goals. Jobs went down; corporations purchased their own stock with the windfall; and CEOs got big bonuses. These were the exact things corporations promised not to do. Meanwhile the government was out $3.5 billion in tax revenue.
I still wonder why Uncle Sam had not rigged the game in our favor instead of giving corporations unneeded tax benefits. Then again, we the people are not permitted to form groups and hire lobbyists to protect our interests. Our representatives in Congress are supposed to protect us and make the right decisions for us simply because we pay them about $179,000 per year per representative, and we theoretically elect them because on their own they show honesty and integrity. HR 4520 was not an honest moment as our representatives chose to be politicians, and nobody was representing the people.
Clearly, there were other forces at work. Whether I know the forces or not, I would hazard a guess that Congress is simply beholden to corporate lobbyists who shower them with perquisites. Clearly, Congress is not fearful of not getting votes from their constituents or they would behave better. Our Congress made intentional mistakes in my humble opinion by permitting corporations to get away with a US Treasury raid that the Congress knew about ahead of time. Congressional outrage on this is a bit disingenuous. They caused it.
The less the people know about how the knaves in government conduct business, the more the government can hoodwink the best of us. The worst thing an American can do nowadays is trust the government to do the right thing.
Corporate Foreign Tax Credits & Offshore Deferrals
How is it that the people permitted corporations to withhold foreign income from taxation in the first place? The United States generally taxes U.S. companies on their worldwide incomes. However, there are a lot of tax evaders in this country and some of them get help when Congress rewrites the laws.
Suppose US Company X, registered in PA as a corporation, also does a lot of business in the US and in Corporatovia, Asia. In fact, they have been building plants and shifting work to Corporatovia for many years now. If the Corporatovia earnings are direct to Company X, the taxes are immediately due to the US treasury and there is no deferral. Yet, the foreign deferrals are a big part of American tax law.
Consequently, US companies are extremely motivated to take advantage of this tax advantage but they have to use tricks and gimmicks to get the benefits. They must form legal subsidiary corporations such as US Company X of Corporatovia. Such foreign subsidiaries can be wholly owned companies or the US parent can own a little as 10% and still get the deferral benefits. I find it strange as do many Americans who are for Americans that our Congress is so very nice to the very corporations that have offshored many American factories and jobs to countries such as Corporatovia.
The foreign corporations are set up by American corporations for accounting purposes to assure that corporate taxes on foreign earnings can be withheld from taxation. According to the lobbyist written and supported tax laws, these subsidiaries are not considered U.S. corporations even if they are wholly owned by a U.S. parent. Thus their overseas profits aren’t subject to U.S. taxes. Don’t you want to ask yourself, “What incompetent person thought of that law?”
As you would expect, many business people, who are not happy paying huge personal income taxes, have tried to use this flaw in the tax code to set up subsidiary corporations to defer the income from their personal income tax. Remember the general rule is that income earned by any American or any American Corporation is taxable no matter where the income is earned. A citizen can theoretically avoid the tax only by giving up citizenship. Of course, corporations can give up their corporate charter, but they also have the deferral option.
As a general rule, a valid operating business conducted through a foreign corporation that does not carry on a business in the U.S. and does not have U.S.-source income will not be subject to U.S. taxes. So, theoretically, if you, as an individual, own or can set up such a business perfectly, you as a person can avoid paying taxes until you bring the money home. International accountants argue however, that very few Americans can pull this off though many may try. Ultimately those that try will fail and then have to pay the IRS for their gamble. For our purposes, let’s just say that individuals cannot defer taxes on income earned in foreign countries, as that is effectively the law. Accordingly, the best accountants say it is a bad deal for individuals. You might as well not try
Yet, somehow, our Congress has given preferential treatment to corporations that do not necessarily operate with the best intentions for the US and its citizens. Is it fair then that corporate citizens can defer income but individuals such as you or I cannot? Of course it is not fair. But, that is how it is.
At http://www.ips-dc.org, author Chuck Collins has done a lot of research on the corporate deferral con permitted by Congress and the US government. Here is just one paragraph to get your juices flowing about the magnitude of the scam:
“Nearly 19,000 global corporations have a mail drop at Ugland House, a single building in the Cayman Islands. Ugland House is the legal address of these overseas corporate subsidiaries, many set up for the purposes of avoiding taxes.”
Individuals simply cannot get the tax deals that corporations get, though they can try. Clearly everybody’s special deal must end.
A Tax Credit to Boot!
Since the US is not the only country trying to assess taxes on earnings, the tax code also gives corporations a generous credit for taxes paid to other countries. This is another weak area of the code and it is often abused with corporations taking all they can by charging domestic earnings to foreign subsidiaries.
No government can stop any other government from imposing a tax on income earned within their borders. So, theoretically, U. S. companies with foreign-source income originally faced a potential double taxation when they expanded their businesses to overseas. To help US businesses be the most powerful in the world, the Congress gave them a credit up to 35%. This was OK back in the early 20th century when it was true expansion and the companies still maintained their domestic operations. It is not OK at all now as American companies dismantle American operations to collect the gains.
Why should US taxpayers fund the dismantling of US operations?
In fact, Congress gave businesses a major financial incentive to offshore jobs whenever they gave up parts of their American operations. Try to find a representative who will admit that. They expect Americans to not be smart about fiscal matters and our Congress listens to the corporate chieftains a lot more than the lowly man on the street. Additionally, Congress permits tax deductions that help pay for the corporate offshore moves. If it were not so lucrative from a tax perspective, perhaps so-called American corporations would still be conducting business in America. Thanks to lobbyists and a complicit Congress, American jobs are gone or going.
When the income tax was first created, a provision in the code allowed taxpayers to deduct their foreign taxes when computing taxable income. In 1918, Congress passed the foreign tax credit provisions to provide greater relief in cases of double taxation. Reading the changes to the law over the years, one can readily conclude that it is the product of years of corruption and collusion between corporations and Congress. Shame on the Congress as its only purpose is to represent the people, not corporations.
There is a good solution – for both corporations and John Q. Public.
RRR, defined in the beginning of this piece, is a unique plan for economic recovery and job creation. One of its major tenets is tax reduction. Other RRR articles have been featured by Conservative Action Alerts and can be found simply by visiting their contributors page. Scroll down to my picture and select my op-eds, and you can see a number that have been written about taxes.
The RRR plan recommends a domestic corporate tax rate of 8% or lower and a foreign tax rate of 20% with no deferrals and no credit for taxes paid to other countries. This is a major tax reduction for corporations and should result in corporations making more money tax free. Those corporations operating in the US with US employees will benefit the most as the domestic rate is substantially lower than the foreign tax rate. Those operating overseas will see a major benefit as they bring factories and jobs back to the US.
To repeat, the corporate rate on all foreign income in the RRR plan is a flat 20% instead of what it is today – 35%. If a company can earn a lot of money and run its business in a high tax country, so be it. However, the rest of America should not have to help them pay their foreign tax bill or their tax bill to the US treasury. The major rationale for this plan is to have American companies that have offshored operations build facilities in America and employ American workers. Foreign corporations are also welcome to to the same thing at the same 8% (or lower) tax rate. American workers will pay a lot of taxes, more than making up the corporate tax revenue loss.
When the RRR plan is enacted, there will be some issues as to what to do with the 2 trillion dollars that corporations have tucked away in foreign accounts. I would suggest an incentive that would cause the dollars earned in prior years to come back to the US at the RRR rate of 20%. So, for a short period of say, one year after the bill is enacted, I would recommend that corporations repatriate and they can then pay the 20% rate for any already deferred income. There would be no credits or deductions permitted. If companies chose not to bring the funds back in two years, RRR would demand that they pay tax on all of their past unpaid income deferrals, which they have deferred at the prior 35% rate, due immediately with no foreign tax credits. All future foreign income would be taxed at 20% flat with no deferrals and no foreign tax credits.
U.S. corporations may not like this part of the RRR plan as it forces their hand for the good of America. However, let’s remember the future domestic tax rate, when RRR is enacted will be just 8% (and perhaps even less) v the current 35% domestic rate. This should help all loyal American businesses that are incorporated.
We can expect the old, stale arguments to be used again such as the claim that foreign investment is good for domestic job creation. With more and more jobs gone and more going overseas, Herman Cain would ask, “How’s that notion working out for you,”
Corporations have always claimed that American workers are needed to produce the goods and services that are sold in foreign markets but this has proven to be hogwash as unemployment is at its worst rate since the depression. They also claimed in the past that offshoring would upgrade all American jobs, yet the average American wage has been steamrolling downward in the last ten years. We cannot trust Congress, the government, or corporations. But, we can replace Congress and the President when they try to snooker us. It is time.
In the last 30 years; US multinationals have used an offshoring scheme in which they have reduced domestic employment while increasing foreign employment. While this was going on, Congress, through the federal government was helping finance their exodus from America. The RRR program solves this problem and a lot more.
Companies also have complained that if they invested the foreign income in the US, their foreign profits would be taxed. They should be taxed as this is the law. All of these companies that import their own products from overseas have been taking advantage of the US infrastructure and marketplace free of charge. From my perspective, this is as good of an argument as any to completely eliminate the foreign income deferral and the tax credit. Just like an individual’s income that is earned overseas is taxed immediately, corporate income earned overseas should be taxed as it is earned. The irony is that in this scenario, as recommended by RRR, any so-called “repatriation” would have no tax consequences for any corporation.
Taxing foreign and domestic investments differently distorts companies’ incentives and impacts economic growth and job creation in the United States. This is true and it results in corporations being motivated to take more and more jobs overseas. The RRR plan offers an 8% maximum domestic corporate tax rate, and a no-deferral, no tax credits, 20% overseas tax rate. This provides an incentive that is not a distortion. It is intentional. The incentive is for companies to earn their dollars in the US so that they get taxed at just 8% or lower, instead of 20%. Moreover, companies can avoid foreign taxes altogether simply by becoming loyal American companies, making their wares in the USA. The corporate tax reform included with RRR is an opportunity to remove all of the loopholes that hurt America and Americans.
Another distortion in the code today, for example is that companies can deduct expenses immediately against U.S. taxes that support their tax-deferred overseas profits. It is so illogical that this system permits writing-off expenses immediately but permits paying taxes on the resulting income later, if ever. The aftereffects of such a policy permits corporations to declare less American-earned income based on foreign expenses, and this adds to the incentive to move more and more operations overseas. Companies that do this, in my humble opinion, are really not American Corporations.
Overall, the foreign income deferral is a whopper. It provides a $42 billion annual subsidy for corporate overseas investment at a time when any subsidy should be to help domestic businesses operating in America, not China. RRR makes it all fair and it brings the advantage back to America. How can a corporation argue with an 8% or lower tax rate on domestic operations?
The reduction from 35% to 20% on the foreign tax rate and the elimination of the deferral tax credits is designed for American corporations to get the idea that real American corporations will be treated better than faux American corporations. Corporate greed that hurts America will be corrected by the RRR plan. Our all powerful government will then be directed to make sure that Americans are served first.
Additionally, foreign corporations that choose to benefit from the low domestic tax rate of 8% (or lower) will be providing Americans with jobs and boosting our economy. Quite frankly, as a regular American, I prefer foreign corporations that help America and Americans an awful lot more than I like faux American Corporations that operate overseas and are happy to hurt America by cutting American jobs to make an extra dime. From the way American Corporations have been behaving in the last 30 years or more, I see no reason to give them any break at all that would not directly help the country and the people. I think a lot of other regular Americans feel the same as I. If foreign corporations are interested in stepping up to the plate to take their place, I welcome them, and I hope you do also! America and Americans, first! All others; including corporations, the government, and unions, second!
Brian Kelly is a business owner and former assistant professor at Marywood University; he and his wife live in Northeastern Pennsylvania. Kelly is running for Senate in his state and believes limited government brings liberty and freedom.
About Brian Kelly
Brian Kelly is a business owner and former assistant professor at Marywood University; he and his wife, Pat live in Northeastern Pennsylvania. Kelly ran for COngress and for the US Senate in his state and he believes limited government brings liberty and freedom. Brian's 48th book is titled, Saving America, The How-To Book. It is available at www.checkoutking.com and www.itjungle.com.