Glock Glockler
Member
The Wall Street Journal
As if U.S. workers didn't have enough going against them. Turns out there really are provisions in the tax code that seem to encourage sending jobs offshore.
I have to admit not believing the claim when I first heard Democratic presidential candidate John Kerry shout about it. So I thought either Mr. Kerry has trumped this thing up -- in which case there's a good story -- or there's one very wacky part to the tax code -- in which case, there's a better story.
Turns out Mr. Kerry is right. Even more compellingly, a couple of conservative economists I called agree with him. "The U.S. tax code definitely provides a strong incentive for sending jobs overseas," says Kevin Hassett, an economist at the conservative American Enterprise Institute.
Don't go looking in the tax code for a chapter titled "Tax Break for Hiring Foreign Workers." It doesn't exist. The way it works is more complicated. One of the most important is through the ability to defer and often never pay taxes on foreign-earned profits. The result: foreign profits of U.S. companies end up taxed at a lower rate than their U.S. income, creating an incentive to invest overseas in factories. The jobs are where the factories are.
"How can this be?" you ask, when you know that the policy of the U.S. government is to tax American corporations on their world-wide income.
Now we get to the fun part.
The tax code is written in a way that allows companies not to pay the full 35% U.S. corporate tax rate on foreign income when that money remains invested overseas.
Backing up a step, here's how it works before the loophole: A company earns $100 million abroad in Lowtaxistan where the corporate tax rate is 20%. The foreign subsidiary pays that money to the U.S. parent. The parent then pays $35 million to the U.S. government and takes a credit for the 20% (or $20 million) payment to the Lowtaxistan government. So the net to the U.S. Internal Revenue Service is $15 million.
But here's how it works with the loophole: The U.S. subsidiary simply keeps the money offshore and certifies to its accountants that the money is invested overseas. It never remits the money to the parent and so never pays the $15 million extra to Uncle Sam.
Do the math yourself. Which is better?
• a) A factory in Lowell, Mass., that will generate $100 million in pre-tax profit that nets $65 million, or
• b) A factory in Lowtaxistan that will generate $100 million in pretax profit that nets $80 million.
ECONOMIC FORECASTING SURVEY
Dig into and download the March economic forecasting survey. See individual forecasts from the economists for GDP, inflation, unemployment, and interest rates. Plus, read answers to questions about "outsourcing" and Social Security. See prior survey installments and more at WSJ.com/Economists.
All things being equal, most people would pick "b." (And they aren't equal because Lowtaxistan has 750 gazillion people who will work for two gonzolees a day -- and the gonzolee is fixed to the U.S. dollar at a rate of 8.65.)
These are called "unrepatriated earnings" and they are increasingly commonplace. Just go into Free Edgar (www.freeedgar.com) or some other SEC search engine (I like 10K Wizard) and plug in the term "unremitted earnings" or "undistributed earnings" and search 10-K forms to see how many annual statements come up.
What you'll find is something like this from Pfizer.
"As of December 31, 2003, we have not made a U.S. tax provision on approximately $38 billion of unremitted earnings of our international subsidiaries. These earnings are expected, for the most part, to be reinvested overseas. It is not practical to compute the estimated deferred tax liability on these earnings."
Pfizer says it added 15,000 U.S. workers through its recent purchase of Pharmacia. Still, only 37% of its work force is in the U.S.
Note that the $38 billion total of unremitted earnings is cumulative over the years. In 2002, Pfizer had $29 billion, so the increase was $9 billion in the past year, helping the company substantially shave its tax bill.
"Outrageous," you say. "Another example of the corporate-kowtowing Bush administration helping its boardroom buddies."
WHEN U.S. JOBS GO ABROAD
Amid a "jobless recovery" and presidential-year politics, outsourcing is drawing strong reactions. See complete coverage, and check out our overview and online roundtable for perspectives.
Good sound bite, as we say in TV-land. But it's just not true, because the Bush administration didn't put this on the books.
"Then it must have been those care-to-the-wind free-trading Clintonites!" I hear you cry.
Nope.
And don't waste your breath with Bush I, or Reagan. As far as I can tell, what is called "active foreign income" has never been taxed at the U.S. rate since the enactment of the corporate tax in the early 1900s.
And yet, who back then could have imagined that outsourcing, or sending jobs overseas, would be a major problem? More importantly, perhaps not even a decade ago, no one could have imagined the places where American companies could now invest or the ways in which technology makes it so easy to set up and operate foreign facilities.
What we know is that the amount of unrepatriated foreign earnings is growing substantially. The non-partisan Congressional Research Service in a report last year said it had increased to $639 billion in 2002 from $403 billion in 1999.
(I probably should mention that my full-time employer, General Electric, is among the leaders with $21 billion of unrepatriated earnings. That helped the company achieve an overall corporate tax rate of 21.7%.)
Companies say this money is growing because they are pushing into foreign markets and locating their facilities near their new markets. They add that the system helps keep them competitive with foreign rivals, who often enjoy lower tax rates. An IBM spokesman told me that "Our decisions on the location of research centers are based on access to locally based talent, far more than local labor or tax rates."
Some companies say this helps create jobs in the U.S. with the export of high-value U.S. goods and services to the foreign subsidiaries.
Still, writes the Congressional Research Service, the ability to defer taxes on this income "poses an incentive for U.S. firms to invest abroad in countries with low tax rates over investment in the United States.''
"So fix it,'' you say.
Ahhh, but that's easier said than done. When two things are of different heights there are two ways to level them. You can cut the higher one down, or raise the lower one up.
In this case, you can end the ability to defer these taxes, effectively raising overall corporate taxes. Or, you could lower U.S. corporate taxes to a more globally competitive level.
"Brilliant," you say, "a U.S. corporate tax cut will end the incentive to go abroad."
Not so fast. As the biggest and best economy in the world, the U.S. is a price maker. We set the standard. A U.S. tax cut might only ignite an international game of tax chicken where all the Lowtaxistans cut their rates below our new, lower rate.
Of course, the revenue will have to be made up elsewhere, which would mean higher individual taxes.
"Hmm, I'm not liking that fix so much. How about ending the loophole? That's the one I really liked in the first place."
You're a hypocrite, and not a very good economist. That would be a great incentive to send corporate headquarters offshore where we couldn't get any taxes from U.S. corporations. It would also hurt our companies who are competing with international competitors. Money will find the lowest tax rate, so if there are incentives to go offshore we must end them, and if ending those incentives means lowering the U.S. corporate tax rate, we must also find a way to pay for that.
As if U.S. workers didn't have enough going against them. Turns out there really are provisions in the tax code that seem to encourage sending jobs offshore.
I have to admit not believing the claim when I first heard Democratic presidential candidate John Kerry shout about it. So I thought either Mr. Kerry has trumped this thing up -- in which case there's a good story -- or there's one very wacky part to the tax code -- in which case, there's a better story.
Turns out Mr. Kerry is right. Even more compellingly, a couple of conservative economists I called agree with him. "The U.S. tax code definitely provides a strong incentive for sending jobs overseas," says Kevin Hassett, an economist at the conservative American Enterprise Institute.
Don't go looking in the tax code for a chapter titled "Tax Break for Hiring Foreign Workers." It doesn't exist. The way it works is more complicated. One of the most important is through the ability to defer and often never pay taxes on foreign-earned profits. The result: foreign profits of U.S. companies end up taxed at a lower rate than their U.S. income, creating an incentive to invest overseas in factories. The jobs are where the factories are.
"How can this be?" you ask, when you know that the policy of the U.S. government is to tax American corporations on their world-wide income.
Now we get to the fun part.
The tax code is written in a way that allows companies not to pay the full 35% U.S. corporate tax rate on foreign income when that money remains invested overseas.
Backing up a step, here's how it works before the loophole: A company earns $100 million abroad in Lowtaxistan where the corporate tax rate is 20%. The foreign subsidiary pays that money to the U.S. parent. The parent then pays $35 million to the U.S. government and takes a credit for the 20% (or $20 million) payment to the Lowtaxistan government. So the net to the U.S. Internal Revenue Service is $15 million.
But here's how it works with the loophole: The U.S. subsidiary simply keeps the money offshore and certifies to its accountants that the money is invested overseas. It never remits the money to the parent and so never pays the $15 million extra to Uncle Sam.
Do the math yourself. Which is better?
• a) A factory in Lowell, Mass., that will generate $100 million in pre-tax profit that nets $65 million, or
• b) A factory in Lowtaxistan that will generate $100 million in pretax profit that nets $80 million.
ECONOMIC FORECASTING SURVEY
Dig into and download the March economic forecasting survey. See individual forecasts from the economists for GDP, inflation, unemployment, and interest rates. Plus, read answers to questions about "outsourcing" and Social Security. See prior survey installments and more at WSJ.com/Economists.
All things being equal, most people would pick "b." (And they aren't equal because Lowtaxistan has 750 gazillion people who will work for two gonzolees a day -- and the gonzolee is fixed to the U.S. dollar at a rate of 8.65.)
These are called "unrepatriated earnings" and they are increasingly commonplace. Just go into Free Edgar (www.freeedgar.com) or some other SEC search engine (I like 10K Wizard) and plug in the term "unremitted earnings" or "undistributed earnings" and search 10-K forms to see how many annual statements come up.
What you'll find is something like this from Pfizer.
"As of December 31, 2003, we have not made a U.S. tax provision on approximately $38 billion of unremitted earnings of our international subsidiaries. These earnings are expected, for the most part, to be reinvested overseas. It is not practical to compute the estimated deferred tax liability on these earnings."
Pfizer says it added 15,000 U.S. workers through its recent purchase of Pharmacia. Still, only 37% of its work force is in the U.S.
Note that the $38 billion total of unremitted earnings is cumulative over the years. In 2002, Pfizer had $29 billion, so the increase was $9 billion in the past year, helping the company substantially shave its tax bill.
"Outrageous," you say. "Another example of the corporate-kowtowing Bush administration helping its boardroom buddies."
WHEN U.S. JOBS GO ABROAD
Amid a "jobless recovery" and presidential-year politics, outsourcing is drawing strong reactions. See complete coverage, and check out our overview and online roundtable for perspectives.
Good sound bite, as we say in TV-land. But it's just not true, because the Bush administration didn't put this on the books.
"Then it must have been those care-to-the-wind free-trading Clintonites!" I hear you cry.
Nope.
And don't waste your breath with Bush I, or Reagan. As far as I can tell, what is called "active foreign income" has never been taxed at the U.S. rate since the enactment of the corporate tax in the early 1900s.
And yet, who back then could have imagined that outsourcing, or sending jobs overseas, would be a major problem? More importantly, perhaps not even a decade ago, no one could have imagined the places where American companies could now invest or the ways in which technology makes it so easy to set up and operate foreign facilities.
What we know is that the amount of unrepatriated foreign earnings is growing substantially. The non-partisan Congressional Research Service in a report last year said it had increased to $639 billion in 2002 from $403 billion in 1999.
(I probably should mention that my full-time employer, General Electric, is among the leaders with $21 billion of unrepatriated earnings. That helped the company achieve an overall corporate tax rate of 21.7%.)
Companies say this money is growing because they are pushing into foreign markets and locating their facilities near their new markets. They add that the system helps keep them competitive with foreign rivals, who often enjoy lower tax rates. An IBM spokesman told me that "Our decisions on the location of research centers are based on access to locally based talent, far more than local labor or tax rates."
Some companies say this helps create jobs in the U.S. with the export of high-value U.S. goods and services to the foreign subsidiaries.
Still, writes the Congressional Research Service, the ability to defer taxes on this income "poses an incentive for U.S. firms to invest abroad in countries with low tax rates over investment in the United States.''
"So fix it,'' you say.
Ahhh, but that's easier said than done. When two things are of different heights there are two ways to level them. You can cut the higher one down, or raise the lower one up.
In this case, you can end the ability to defer these taxes, effectively raising overall corporate taxes. Or, you could lower U.S. corporate taxes to a more globally competitive level.
"Brilliant," you say, "a U.S. corporate tax cut will end the incentive to go abroad."
Not so fast. As the biggest and best economy in the world, the U.S. is a price maker. We set the standard. A U.S. tax cut might only ignite an international game of tax chicken where all the Lowtaxistans cut their rates below our new, lower rate.
Of course, the revenue will have to be made up elsewhere, which would mean higher individual taxes.
"Hmm, I'm not liking that fix so much. How about ending the loophole? That's the one I really liked in the first place."
You're a hypocrite, and not a very good economist. That would be a great incentive to send corporate headquarters offshore where we couldn't get any taxes from U.S. corporations. It would also hurt our companies who are competing with international competitors. Money will find the lowest tax rate, so if there are incentives to go offshore we must end them, and if ending those incentives means lowering the U.S. corporate tax rate, we must also find a way to pay for that.
