The President's Proposals to Tax Corporate Income Earned Abroad Are Bad for US Jobs and Exports

May 5, 2009 10:15 AM

Team Obama has announced a range of tax proposals designed to wring around $200 billion from US-based multinational corporations over the next decade. The political backdrop is the abuse oozing from Wall Street over the past year, huge bonuses, low tax rates on "carried interest," money stashed in the Cayman Islands, coupled with a widespread distrust of globalization. But the proposals go much further than putting an end to tax shenanigans. If enacted, they would badly weaken the ability of US firms to compete in world markets. Here are two prominent ingredients:

  • The administration wants to end US deductions for certain expenses attributed to foreign income not repatriated to the United States. (Such income is also known as "deferred" income, and is not taxed by the United States until it is repatriated.) What are those expenses? Prominent are outlays for headquarters staff: managers, lawyers, accountants, and the rest. The problem with this proposal is that it would bar deductions for the salaries of people holding skilled jobs at high wages, in other words, valuable employees. A move by Congress to rescind the tax deduction for them would likely encourage US firms to shift positions to London, Sydney, or Hong Kong. The proposal in its original form was so off-the-wall that Team Obama ended up excluding R&D outlays from the basket of deductions to be denied.
     
  • Another proposal would end the ability of US multinationals to reduce the taxes they pay to foreign countries through the use of "hybrid" entities: firms that look like corporations in the legal eyes of one country, but resemble unincorporated branches in the legal eyes of another country. Hybrid entities do have a tax gimmick flavor about them. But other home-base countries, such as Germany and Canada, have even more favorable systems for taxing their multinationals. If the United States closes this tax loophole, US multinationals will be disadvantaged abroadcompared to their peers. 

As these and related tax proposals are debated in Congress, four points deserve to be emphasized:

  • The United States is a high tax country for large firms that compete in world markets. The statutory US corporate tax rate, combining federal and state taxes, is about 40 percent, compared to 30 percent in Britain, 34 percent in France, and 17 percent in China.
     
  • US multinationals create the channel for about half of US exports; without their operations abroad these export sales would drop.
     
  • Instead of raising taxes on corporations, the Congress should be thinking about ways to cut the corporate tax rate. Like nearly all other countries, Congress should exclude active business income earned abroad from the US tax net.
     
  • The central question is whether Congress wants the United States to remain the premier headquarters location for world-class firms and to regain its prominence as an exporting country. Enacting the Obama proposals would undercut both goals.