CAMBRIDGE – An increasing number of American companies are making plans to shift their headquarters to Europe. These so-called “inversions” would reduce these companies’ total tax bill by allowing them to escape from the United States’ uniquely unfavorable corporate tax rules. So what should US policymakers do?
President Barack Obama’s administration is seeking to block corporate inversion through administrative measures that may not hold up in US courts. It would be far better to develop a bipartisan legislative plan aimed at removing the temptation to shift corporate headquarters in the first place. Such a plan, if attractive to US multinational corporations, could result in a shift in employment and production to the US and higher tax revenue.
Under current law, US corporate profits are taxed at a rate of 35% – the highest rate among OECD countries, where the average is 25%. That tax is paid on profits earned in the US and on repatriated profits earned by US companies’ foreign subsidiaries.
For example, the subsidiary of a US firm that operates in Ireland pays the Irish corporate tax of 12.5% on the profits earned in that country. If it repatriates the after-tax profits, it pays a 22.5% tax (the difference between the 35% US rate and the 12.5% tax that it already paid to the Irish government). But if it reinvests the profits in Ireland – or in any other country – no further tax must be paid.