Global corporations’ schemes to avoid taxes

For several years now, multinational corporations – including the biggest in the United States – have resorted to various schemes to avoid paying the right taxes. They thus defraud the governments, and the peoples too, in their home countries and the nations hosting them.

Two such schemes were recently made public in the international media. The exposes have impelled the European Commission and the US government to take steps to curb the shenanigans. But doubts are being raised about the adequacy of the measures so far adopted and proposed.

In November 2013, an investigation by more than 80 journalists from 26 countries disclosed how some 340 companies from around the world had entered into an arrangement with state authorities in Luxembourg (a tiny member-state of the European Union), that enabled them to avoid paying billions of euros in taxes. The agreements were described as “specially designed corporate structures” or “secret sweetheart tax deals” – all deemed to be perfectly legal.

Despite that claim to legality, the expose sparked widespread public outrage. In July 2014, President Jean-Claude Juncker of the European Commission (who was Luxembourg’s prime minister from 1992 to 2013) promised to “try to put some morality, some ethics into the European tax landscape” while insisting that his country wasn’t a tax haven. 

In collaboration with the International Consortium of Investigative Journalists, the 80 newsmen spent six months scrutinizing 28,000 pages of tax agreements and other leaked documents pertaining to over 1,000 businesses. Their investigation shows, the Guardian reports, how Luxembourg “quietly rubber-stamped tax avoidance on an industrial scale.”

Their findings also suggest that America’s three top-earning digital corporations – Apple, Google, and Amazon – “are at the vanguard of cross-border tax avoidance.”

Other big multinational firms identified are Pepsi-Cola, Ikea, Accenture, Burberry, Procter & Gamble, Heinz, Abbott Laboratories, Federal Express, and the giant banks JP Morgan (US), Deutsche Bank (Germany),and Macquarie (Australian financing group).

Based on an impact assessment, bureaucrats have recommended and got the EC’s endorsement of legislation (for submission to the European Parliament in April), that would oblige multinationals to reveal their profits and the taxes they pay in every state in which they operate within the European Union.

The EC reportedly reached a consensus on public disclosure because absent such legislation, large companies are more likely to make secretive deals with governments about where and how they declare their profits. It remains to be seen whether such legislation can be passed, as it might require the agreement of all the 28 EU member states.

The other tax-avoidance scheme, called “corporate inverting,” refers to deals that allow US firms to relocate their headquarters in another country to lower their tax bills. Since 2008, when the so-called Great Recession began in the US, about 36 American firms have resorted to this scheme.

Denouncing the practice, the International New York Times said, in a recent editorial: “What’s galling about this and similar maneuvers is that Congress has done nothing to stop them.”

It cites as an example an industrial and auto parts supplier, Johnson Controls, that announced it had sold itself to a firm in Ireland. The deal will reduce the firm’s taxes in the US by at least $150 million a year, the editorial says, pointing out that the company “would not exist as it is today but for American taxpayers, who paid $80 billion in 2008 to bail out the auto industry.”

While lowering their tax bills, “inverted” firms retain their previous headquarters in the US as “subsidiaries” and “keep the protection on securities and patents provided by American laws, as well as their contracts and connections with the federal government and its research agencies.” Business as usual!

That’s not all there is to corporate inverting. The real gains come from an adjunct scheme called “earnings stripping.” Another article in the INYT details how inverting reduces as much taxes as possible. Here’s how Wall Street pulls off the magic trick:

The inverted company arranges for its US “subsidiary” to borrow large amounts of money from the (now-foreign) “parent firm.” The indebted American “subsidiary” will pay interest on that debt to the “parent” in Ireland or elsewhere. That interest payment can be used, under the US tax code, to offset the American-operations earnings… and: “Voila! What used to be a significant tax bill disappears.”

To what extent has this been done? The article points to a 2004 study of 12 cases of corporate inverting that involves earnings stripping. Four of the 12 firms, the study notes, “had engaged in almost 100 percent earnings stripping, costing the US Treasury roughly $700 million over two years.”

In short, not only do inverted companies lower their taxes, they also wipe out large chunks of US taxes they previously owed.

To remedy the losses, the US Internal Revenue Service has repeatedly adopted rules and regulations to make it hard for companies to resort to inverting and earnings stripping. But these regulations, the INYT article observes, “do not address earnings stripping head on and they are not going to stop inversions. There is too much money at stake.”

For instance, Pfizer is trying to seal a $152-billion inversion deal with Allergan, producer of Botox based in Dublin, Ireland. Huge firms like Pfizer, the article emphasizes, will continue to find a way to flee from US taxation as long as the American tax system provides incentives to go abroad: “Only if Congress acts to update the modern corporate tax system will the incentives be eliminated.”

For now, the article concludes, “the corporate runaways are winning… taking easy money out of the pockets of United States taxpayers.” Here’s just one ugly facet of capitalism in the 21st century.

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