Have It Your Way, Eh? (Robert Coon On Politics)

by Robert Coon  on Wednesday, Sep. 3, 2014 2:52 pm  

Robert Coon

(Editor's Note: This is an opinion column.)

“BKC [Burger King] will continue to pay all of our federal, state and local U.S. taxes…The WHOPPER isn’t going anywhere.” – Burger King Corp. Facebook page, Aug. 26

The recent announcement by Burger King Corp. that it would merge with Canadian doughnut and coffee chain Tim Hortons and “domicile” the combined company in Canada has reignited the debate over corporate tax inversions. 

In general, a tax inversion is when an American corporation acquires or merges with a foreign company, then moves its home office from the U.S. to the acquired company’s country to take advantage of the lower tax rate. 

It’s a growing trend.

According to data compiled by the Congressional Research Service and published by Democrats on the U.S. House Ways & Means Committee, “Forty-seven U.S. corporations have reincorporated overseas through corporate inversions in the last 10 years, far more than during the previous 20 years combined.”

Companies that have completed this tax saving move – and a few that have merely considered it – have been publicly shamed and attacked by activists, politicians and even President Obama. In fact, Obama recently asserted that these companies are “technically renouncing their US citizenship” and echoed charges that they are “corporate deserters.” 

But the controversy has resulted in more than just tough talk. There have been renewed calls by a number of Congressional Democrats to pass legislation tightening the conditions that must be met for companies to invert. There’s also an effort afoot to deny federal contracts to companies that have undergone inversions. 

At first glance, these efforts look like good policy; after all, inversions are nothing more than a loophole exploited by ill-intentioned corporations for the sole purpose of dodging taxes…right?

Wrong.

Loophole Hysteria

The word “loophole” is one that connotes an injustice and engenders a feeling of resentment in us – one that can only be satisfied by action to right a wrong. Then it should come as no surprise that critics of corporate tax inversions habitually use the word loophole when describing the practice. 

But doing so ignores that both Congress and the Obama administration have both previously addressed the tax inversion “loophole,” with the result being intentionally crafted regulations that reduce inversion abuse but continue to allow market forces to drive actual business growth.

The Congressional Research Service recently released a report that highlighted the steps that Congress and regulators have taken over the years to combat tax inversion abuse. 

First, there was the American Jobs Creation Act of 2004, “which denied the tax benefits of an inversion if the original U.S. stockholders owned 80 percent or more of the new firm.” It also allowed a firm to invert only if it could demonstrate it had “substantial business operations” in the country of relocation. Essentially, this act ended the practice of shifting corporate entities to tax havens like the Bahamas and the Caymen Islands, which served no business purpose other than tax avoidance.[1]  

Second, the U.S. Treasury imposed regulations in 2012 that increased the business activity threshold (in the country where the new entity was to be located) to a level of 25 percent for companies to take advantage of tax savings. By doing so, the Treasury further ensured that corporations pursuing inversion had a substantial business reason do to so — one that went beyond the financial benefit of tax savings alone. 

While the American Jobs Creation Act and the 2012 Treasury department regulations wisely closed genuine loopholes by making corporate inversion more difficult and restrictive, neither stopped the practice of inversion, and for good reason.

Global Markets, Global Companies

When it comes to mega mergers between market-leading corporations, inversion often gets the headline when it mostly it should be the footnote. The proposed merger between Burger King and Tim Hortons is a perfect example. While regulators and politicians have decried inversion as the underlying culprit in this blockbuster deal, they’ve missed the bigger picture.

There’s no question that Burger King and Tim Hortons will likely benefit from inversion tax savings. But that’s only one facet of a multibillion-dollar business deal expected to benefit both companies as they aim to compete with McDonald’s and YUM Brands [2]. In fact, post-merger the combined company will boast more than 18,000 stores – narrowing the gap between itself and McDonald’s, which has more than 35,000 locations globally. Other synergies between the companies are apparent as well – both have deep market penetration in their respective countries and see international expansion among their chief growth opportunities. Additionally, Burger King has lagged far behind McDonald’s in the breakfast category, where the Golden Arches have about 31 percent market share to The King’s 3 to 4 percent. [3] The merger with Tim Hortons is expected to have a major impact on Burger King’s breakfast performance, giving it a product line and sales boost in a critical industry category.

Given the tremendous upside that both companies stand to realize, the much maligned and publicized inversion tax savings may prove to be the icing on the proverbial donut.

Looking at the Competition

Of course the irony in the debate over inversion tax savings is that, in many cases, the most zealous critics of the practice [4] refuse to acknowledge and address the root causes of why companies are willing to undertake such dramatic changes to their business structure and endure the obvious public and political backlash that comes with it.

The first is our federal corporate tax rate, which stands at 35 percent. When you factor in the average state corporate tax rate, American companies are looking at a combined 39.1 percent rate – far higher than the majority of our peers. According to data compiled by The Tax Foundation, “Corporations headquartered in the 33 other industrialized countries that make up the Organization for Economic Cooperation and Development (OECD), however, face an average rate of 25 percent.”

Secondly, the United States is only one of five OECD countries – and the only G-8 country - that taxes worldwide earnings, meaning that when profits earned by the foreign subsidiaries of American companies are brought back to the U.S., we make sure we get our cut by taxing them again, even though they’ve been taxed already in the country of origin. [5] Alternatively, countries like the United Kingdom, Canada, Switzerland and Ireland – all of which have corporate tax rates at or below 25 percent – have adopted territorial tax systems, meaning that they don’t tax income earned outside their borders. [6] Not only do their tax structures make them, as the Congressional Research Services says, an “attractive destination” for companies looking to invert, but they also become more likely to become a target for additional business investment as capital will naturally flow their direction.  

It doesn’t take a Nobel prize winning economist to see that our tax structure – outdated and uncompetitive – is driving businesses elsewhere.   Businesses, like people, vote with their feet. Similar to how states like New York, Arizona and Texas are courting companies in California to relocate based on the promise of a more favorable business tax climate, our international peers are working the same recruiting trail. 

Ultimately, the question is whether we’ll continue to try and treat our symptoms by implementing more temporary fixes and demonizing companies following the law, or look at the bigger picture and make an effort to fix the root cause of what ails us.

__________

[1] You want a loophole? That was a loophole. Good riddance.

[2] KFC, Taco Bell and Pizza Hut

[3] A notable weakness given that breakfast is the fastest growing segment, according to market researcher Technomic, averaging a 5 percent increase per year from 2007–2012.

[4] Which I feel compelled to once again note is legal under current law as long as certain conditions are met.

[5] Of course, there is a credit issued for the initial tax payment. We only hit them for the marginal difference between our rate and theirs. We aren’t that heartless…

[6] Worth noting here that Burger King will not be able to “dodge” taxes on income earned in the United States, as some have alleged. The difference is that post-inversion they won’t pay U.S. tax rates on income earned overseas, which explains the lawyerly (but technically accurate) wording from their Facebook page statement.

(Robert Coon is a partner at Impact Management Group, a public relations, public opinion and public affairs firm in Little Rock and Baton Rouge, Louisiana. You can follow him on Twitter at RobertWCoon. His opinion column appears every other Wednesday in the weekly Government & Politics e-newsletter. You can subscribe for free here.)

 

 

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