Globalization offers companies many ways to boost profits at the public expense. A case in point: they can use differences in national tax laws to slash their taxes.
Google, Apple, and Microsoft are among the most skilled at this, although they are far from alone.
For example, a recent report on Google’s tax strategy, which takes advantage of differences between U.S. and Irish tax regimes, highlights what is at stake:
The Financial Times reports that … Google Netherlands Holdings … received €8.6bn in royalties from Google Ireland Ltd and €232.8m in royalties from Google’s Singapore operation. All but €10.4m of this was paid out to Google Ireland Holdings, a company that is incorporated in Ireland but technically controlled in Bermuda, where there is no corporation tax.
The FT says that differences between the Irish and US tax codes mean that this dual-resident company is viewed as Irish for US tax purposes but Bermudan for Irish purposes. It acquired much of Google’s intellectual property in 2003, which it licensed to Google Ireland Ltd, a Dublin-based business that is at the heart of its global operation. The business, which employed 2,199 people last year, paid €17m in Irish corporation tax, having reported pre-tax profits of €153.9 on turnover of €15.5bn. . . .
Google’s provision of €17m in corporate tax in 2012 to Ireland on the foreign net income of $8.1bn it booked in Ireland, gave an effective tax rate of 0.21%.
Google’s foreign-paid tax rate in 2012 was 4.4%.
Pretty complex stuff—but that isn’t surprising. A lot of money is at stake and the companies can afford to hire the best legal and financial help.
What is critical to understand is that governments are well aware of these corporate maneuvers and have done nothing to end them while simultaneously demanding cuts in public services because of a lack of tax revenue.
These maneuvers are so widely employed that the IMF decided to provide the following explanation of one of the most popular–the “Double Irish Dutch Sandwich” tax avoidance strategy–in its October 2013 Fiscal Monitor:
- Here’s how it works (Figure 5.1 above): Multinational Firm X, headquartered in the United States, has an opportunity to make profit in (say) the United Kingdom from a product that it can for the most part deliver remotely. But the tax rate in the United Kingdom is fairly high. So . . .
- It sells the product directly from Ireland through Firm B, with a United Kingdom firm Y providing services to customers and being reimbursed on a cost basis by B. This leaves little taxable profit in the United Kingdom.
Now the multinational’s problem is to get taxable profit out of Ireland and into a still-lower-tax jurisdiction.
- For this, the first step is to transfer the patent from which the value of the service is derived to Firm H in (say) Bermuda, where the tax rate is zero. This transfer of intellectual property is made at an early stage in development, when its value is very low (so that no taxable gain arises in the United States).
- Two problems must be overcome in getting the money from B to H. First, the United States might use its CFC rules to bring H immediately into tax*.
- To avoid this, another company, A, is created in Ireland, managed by H, and headquarters “checks the box” on A and B for U.S. tax purposes. This means that, if properly arranged, the United States will treat A and B as a single Irish company, not subject to CFC (controlled foreign corporation) rules, while Ireland will treat A as resident in Bermuda, so that it will pay no corporation tax. The next problem is to get the money from B to H, while avoiding paying cross-border withholding taxes. This is fixed by setting up a conduit company S in the Netherlands: payments from B to S and from S to A benefit from the absence of withholding on nonportfolio payments between EU companies, and those from A to H benefit from the absence of withholding under domestic Dutch law.
This clever arrangement combines several of the tricks of the trade: direct sales, contract production, treaty shopping, hybrid mismatch, and transfer pricing rules.
*The United States will charge tax when the money is paid as dividends to the parent—but that can be delayed by simply not paying any such dividends. At present, one estimate (cited in Kleinbard, 2013) is that nearly US$2tn is left overseas by US companies.
In considering the financial significance of these types of tax maneuvers, Finfacts Ireland notes:
The IMF says that assessing how much revenue is at stake is hard. For the United States (where the issue has been most closely studied), an upper estimate of the loss from tax planning by multinationals is about US$60 billion each year – - about one-quarter of all revenue from the corporate income tax (Gravelle, 2013). In some cases, the revenue at stake is very substantial: IMF technical assistance has come across cases in developing countries in which revenue lost through such devices is about 20% of all tax revenue.
In short, globalization dynamics tend to boost profits at the public expense. We need to be resisting rather than strengthening them.