Everything you need to know about Obama’s offshore tax plan

Corporations are people, too, my friends— people with dramatically low tax rates.
Corporations are people, too, my friends— people with dramatically low tax rates.
Image: Reuters/Jo Yong-Hak
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A To discourage US companies from stockpiling billions of dollars in overseas shell corporations, the White House has come up with a plan that cuts taxes on US multinationals—but because Washington is Washington and tax policy is crazy, many of the corporations that would see a lower tax rate will likely oppose it.

Why is there so much money offshore?

Some $2 trillion is being reinvested overseas to avoid US taxes. Technically, American companies operating overseas have to pay the 35% tax rate on corporate income, minus credits for taxes they paid in the foreign jurisdiction.

The US has one of the world’s highest corporate tax rates, but a wealth of loopholes and breaks make it easy for companies, particularly multinationals, to keep money overseas and avoid those high rates, and pay far less than required: Some profitable companies have famously paid nothing at all (paywall), while others pay single-digit rates. Some of those breaks create opportunities for clever firms to shift their intellectual property—and the profits that go with it—offshore. (Apple was accused of doing this by Senate investigators.)

Nobody thinks this is a good situation: The government loses out on revenue, and companies need to spend lots of money on lawyers, accountants and insane corporate structures to keep it that way. None of it is particularly efficient.

So why not close the loopholes?

Two powerful forces oppose efforts to end special tax exemptions for foreign income. One is the ideological commitment to low taxes of the Republican party. The other is the lobbying of corporations themselves.

Nearly every year, lawmakers try to close these loopholes, but they typically slip through as “tax extenders.” Corporate leaders tend to talk up schemes for tax reform that would close those loopholes while lowering rates, but they and their lobbyists know that once the tax code gets opened up, it will be a knock-down, drag-out battle between sectors and companies to preserve lucrative tax treatment.

For the companies that win under the current system, the outcomes of reform are far more uncertain than keeping the loopholes they know, and that’s the choice they back in practice.

What is Obama proposing?

Let’s make a deal, says the lame-duck president: In a one-time charge, all foreign earnings of US corporations will be taxed at just 14%, with the money going toward a $478-billion program for infrastructure investments around the country (a trade-off some Republican leaders have supported, at least rhetorically). After that, foreign earnings will be taxed at a 19% rate, a 45% tax cut from the current statutory rate.

Republicans typically want a 0% rate on the income of US companies earned abroad, but some economists fear such a policy would lead to more profits being shifted overseas, while Democrats worry about making up for the lost tax revenue.

However, conservatives have shown support for short-term breaks like the one Obama is proposing before: During George W. Bush’s presidency, a “repatriation holiday” that lowered taxes on foreign profits to 5.25% returned some $360 billion to the US, but analysts struggled to find any evidence of the job-creating investment promised by the holiday’s backers. Tax fairness groups say the holiday helped give companies an incentive to keep money overseas until the next temporary break, creating the conditions for today’s massive offshore cash hoards.

Is it a good idea?

That depends on what you think of current tax reform proposals and their likelihood of becoming a reality. The kind of compromise Obama has offered here is disappointing to both coalitions who fervently care about corporate taxes: The companies who have to pay, and the people who want the companies to pay more.

Obama and other Democrats have offered versions of this deal before, with little interest from Republicans. Now that conservatives have control of both chambers of Congress, they’ll want to present their own tax reform proposals.

Since agreement on a comprehensive overhaul is so unlikely, a pragmatic deal could be forged if corporations and their antagonists alike decide that cutting taxes to make firms pay more is better in the short term than waiting until the 2016 elections. But in Washington, it never hurts to bet on inertia.