If firms are helping themselves align their taxes with what they see as international norms, it is primarily because U.S. efforts to do the same have largely failed, argues attorney Jones. Take the controversy over the foreign sales corporation (FSC) law, which gave companies an exemption from U.S. tax for a portion of the income earned from export transactions conducted through foreign subsidiaries. In February 2000, the WTO, which oversees trade between nations, declared the exemptions to be illegal subsidies. The United States responded by repealing the FSC and passing the Extraterritorial Income Exclusion Act of 2000 (ETI), which the WTO also declared illegal.
Essentially, says Jones, the WTO “told us we had made our bed–a worldwide taxation system–and we have to lie in it.” Ironically, those export incentives were intended to bring the tax burden of U.S. companies in line with that of their European competitors. “ETI tried to mimic territoriality with a little carveout in our system, but unfortunately, the WTO said that’s a sham,” says Jones. The European Union, angered by the Bush Administration’s decision to raise steel tariffs, has since used the decision to threaten the United States with retaliatory excise duties amounting to more than $4 billion.
The WTO’s action, coupled with the inversion trend, has forced Congress to once again tackle international tax rules. “The WTO’s most recent decision and the resulting sanctions facing our businesses are another wake-up call for reform,” noted Rep. Jim Ramstad (R-Minn.) in February.
Republicans are already voicing plans for dramatic change, from moving to a territorial system to pie-in-the-sky rhapsodies about eliminating corporate taxes. But any major international tax reform will take years, notes Jones. In the meantime, some immediate action on inversions seems likely. “Whether it’s a Band-Aid or not,” he says, “it’s high priority.”
Grassley, for example, along with Finance Committee chairman Max Baucus (D-Mont.), is author of the Reversing the Expatriation of Profits Offshore (REPO) Act, introduced in April, which would tax inverted U.S. companies as if they were still incorporated in the States. Between March and May, five similar bills were introduced in Congress, with such names as the Corporate Patriot Enforcement Act and the Uncle Sam Wants You Act (which would impose a moratorium on expatriations dating retroactively to September 11).
While none of these bills constitute a major tax overhaul, whatever is passed will affect more than those businesses that have inverted. “It is clear there will be a bright red line drawn against using inversion to reduce U.S. tax on U.S. income,” says Jones. That is likely to have an impact on all companies with foreign parents. It could also have a chilling effect on future cross-border mergers or acquisitions of U.S. companies. Combinations such as DaimlerChrysler do not carry the same upfront tax penalties as inversion, and their potential to reduce U.S. tax revenues appears to worry the U.S. Treasury more than inversions.