United States: Senate Hearing On Profit Shifting
On April 1, the Senate Permanent Subcommittee on Investigations held another hearing on multinational corporations that actively reduce their worldwide tax burdens by shifting profits out of the U.S. Senators and witnesses disagreed as to whether the specific transactions that U.S. corporate taxpayers use to move income to entities outside the U.S. (to other entities in their worldwide group) should be subject to scrutiny or praised. Some senators even questioned the propriety of the hearing itself.
Unlike prior similar hearings that focused on IT companies, this hearing focused on domestic manufacturing companies. In the typical transactions, companies restructured their foreign operations so that non-U.S. subsidiaries organized in low-tax jurisdictions would pay the domestic operating subsidiaries a small markup in exchange for providing all of the services and support required to perform certain foreign sales, resulting in a significant amount of the profits being reported abroad as opposed to the U.S. Although the location of the profit-making activities did not change, in one cited case, this activity netted $2.4 billion in U.S. tax savings over a 12-year period. While a few senators and witnesses argued that these type of arrangements were unsupported by the tax law and should have been challenged by the IRS, many others argued that these arrangements complied with all relevant statutes, regulations, and case law, and in fact represented activities that reasonable businessmen and businesswomen should engage in as fiduciaries of the company.
While the subcommittee members argued that the real problem was a broken tax code, many suggested that different flaws were to blame. Republican members argued that the high corporate tax rate causes U.S. multinationals to move their activities offshore, and that the U.S. corporate rate needs to be reduced in order to maintain worldwide competitiveness. Democratic members argued that the rules regarding interparty and cross-border transactions need to be fixed so as to prevent income from domestic activities from being reported abroad. Due to disagreements about the appropriateness of subjecting any specific taxpayer to this type of public scrutiny and the egregiousness of the transaction at issue, the Republican members refused to sign onto the subcommittee’s scrutiny of these taxpayers.
This type of congressional action seems to be the precursor to a meaningful debate that could result in a significant reduction in the U.S. corporate tax rate, or a change in the rules that would make is difficult for U.S. multinationals to move their operations, and hence profits, to non-U.S. group members located in jurisdictions that offer more competitive corporate tax rates. It is unlikely that any changes will occur before the 2014 mid-term elections in November, but depending on the outcome of those elections, the landscape upon which U.S. multinational do business could change significantly.