Global Shell Games - tax evasion by multinational corporations - Statistical Data Included

by Byron L. Dorgan

How corporations operate tax free

REMEMBER THE PENTAGON'S $600 toilet seats and $426 hammers? Now there's a new list to think about: Ball point pens purchased from Trinidad for $8,500. Disposable plastic gloves from Japan at $46.22 a piece. Wrist watch batteries from China at $8,252 each. Apple juice from Israel at $2,052 a liter.

It's a shopping spree a defense contractor might love. But this time the Pentagon is not involved; nor any other part of the government, for that matter. Instead the strange prices are the work of multinational corporations, and one of the biggest tax avoidance scams this country has ever seen. The ideological Right makes a big deal over what it calls "Tax Freedom Day"--the day on which Americans supposedly have fulfilled their tax burden for the year. They neglect to mention that every day is tax freedom day for these multinationals. More than two-thirds of foreign-based multinationals doing business here--and only a slightly smaller fraction of U.S.-based multinational firms--pay no federal income tax at all. Many of the rest are paying a relative pittance. As a result, U.S. taxpayers are losing over $40 billion a year by one estimate, which is enough to pay for a prescription drug benefit in Medicare. Considering that corporate profits have soared in recent years something here does not compute. The manipulation of prices at the border is a big part of this screwy equation.

It points to one of the great contradictions in the push for globalization. From its proponents we hear no end of rhapsodizing over the new "world without borders" that is going to bring peace and prosperity without end. Yet when the discussion turns to the rules of trade, as opposed to the theology of it, then the advocates often sing a different tune. They suddenly become dogged defenders of the very same national borders they deride as obsolete. They want to wipe out national boundaries when it means lowering standards for such things as workplace safety, the integrity of the food supply, and the like. But they want to maintain a balkanized world when national boundaries serve to protect them against higher standards.

Tax policy is an example. It is not a coincidence that as global trade has expanded, the tax burden has shifted increasingly onto working people. In the U.S., corporations are contributing a paltry 10 percent of the federal income tax burden, about one-half the level they paid in the 1960s, with further declines projected in coming years. It is a symptom of a set of ground rules that let corporations reap the greatest benefits of trade and make workers bear the primary burdens. It is what happens when the trade debate wafts off into the slogans of the global economy and doesn't attend to the details--details that may leave ordinary Americans with the short end of the stick.

Moving Out

If there is one provision in the U.S. tax laws that demonstrates the hypocrisy of some free-traders, it is the subsidy for corporations that move their plants abroad. Globalization is supposed to give us a market free of preferences and subsidies, in which nations compete according to their "natural advantage." Yet the same people who preach about this idealized world market support a tax system that violates it in the most fundamental way. The U.S. tax code actually rewards companies that move their factories, know-how, or financial operations abroad. Close shop in the U.S., shift your assets to Singapore, China, or Bermuda, and the U.S. Treasury rewards you for your trouble. Under a practice called "deferral," runaway plants pay no tax at all on their earnings abroad until they bring that income back into the U.S., which may be never.

This may strain belief. Corporations already have no shortage of enticements to abandon the U.S. in favor of such locales--sweat-shop wages, weak environmental standards, sometimes even slave labor. The last thing the federal government should do is create a tax bribe on top of all that--or so one would think. Yet that's exactly what Congress has done. This reward system for runaway plants, and other assets, costs federal taxpayers some $3.4 billion a year and rising. It is part of why the U.S. has lost well over 3 million well-paying manufacturing jobs since 1979.

Why does such a thing exist? Deferral illustrates a basic principle of tax boondoggles: "Once in, never out" There is no provision in the tax code called "deferral." It is the result of other provisions drafted for other purposes. It was tolerable in the beginning because multinationals were not that large a part of commerce. In the aftermath of World War II, when Europe was devastated and America had productive capacity to spare, it seemed justifiable. As Europe and Asia became commercial rivals, however, deferral became an indiscriminate subsidy the U.S. could not afford.

But by this time it had a big corporate constituency that had latched onto deferral as a way to multiply the benefits of tax havens around the world. Try to change it, and you will be accused of trying to dismantle the free enterprise system, and of turning America into the next Haiti. I speak from experience on this.

Nowadays the subsidy lobby argues that deferral is necessary for U.S. companies to compete in foreign markets. But I cannot understand why the U.S. government should be so solicitous of U.S.-based firms if they aren't going to invest in the U.S. in the first place. Why should American taxpayers pay for the services of a military defense that benefits these companies--including trade negotiations and defense--while they scramble around the globe looking for ways to avoid their fair share of the bill?

Lobbyists also say that the deferral bonus is only temporary, until the earnings come back into the U.S. Yet in practice those profits tend to pile up abroad where they can be used for currency speculation or new overseas investment. "There are huge sums out there--trillions of dollars," says Michael McIntyre, a law professor at Wayne State University. Moreover, tax lawyers have created a minor industry out of devising ways to bring those profits back into the U.S. without the tax collectors noticing. The 1986 tax reform act tightened up this area somewhat. But where there's a tax lawyer, there's a way. "I suspect there are people who do it regularly and are hoping not to be audited," says McIntyre, who used to devise such strategies himself.

But let's give them the benefit of the doubt. Let's grant, for the sake of argument, that corporations need deferral to compete in foreign markets. That still doesn't explain why they need it when they move plants abroad and then sell the products back into the U.S. In that case, the provision is a direct subsidy for putting U.S. factory workers out of work. It is a slap in the face to the company that strives to keep its jobs here at home.

The answer to the deferral problem is simple. I have been proposing it in Congress for several years. At the very least we ought to eliminate this practice when U.S. firms set up factories in foreign tax havens and then sell those products back into the U.S. This would provide a measure of justice for the company struggling to keep its workforce in the U.S., and it would move us a step closer to a global marketplace that functions the way its advocates say it should.

Shady Transfers

Moving plants and other assets abroad is one way multinationals avoid their fair share of the tax burden. Another is the use of accounting shell games to shift their income to outside the United States. This second scam is called "transfer pricing."

Multinationals can take advantage of transfer pricing because the face they present to tax administrators and other legal authorities is very different from the face they present to the public. To the public, Sony Corporation--to take a random example--is simply Sony. Whether people are shopping in New York or Topeka, Oslo or Gdansk, the company appears the same. And as a general rule when the company reports its earnings to shareholders, it does so as a unified world-wide business. To tax agencies, however, the multinational presents itself as a complicated network of affiliates legally organized hither and yon. There might be a Sony U.S., a Sony Brazil, a Sony in tax havens such as Singapore and Bermuda, ad infinitum. Sometimes there are valid reasons for such arrangements. But in practice, corporations can use their complex intra-corporate webs to play all sorts of games, and taxes are high on the list.