Troubling Money Matters: Understanding tax inversions
Aug. 19, 2014 at 1 p.m.
When some politicians speak of corporate tax-inversions, they do so with words such as "tax evasion," "criminal act" and "dishonesty."
Verbiage like this is usually reserved for people or corporations breaking the law by not paying taxes legally owed.
Although this makes for a good sound bite, it is not the case.
Assume you're the founder of Big Tex Soda Corp. Although your headquarters is in Texas, 80 percent of the revenues come from outside the United States.
In every foreign location sales are made, Big Tex must pay taxes to that foreign government. Likewise, all sales occurring in the U.S. are taxed by the IRS.
Big Tex has its official mailing address in the United States. Given this, if the company brings these foreign profits back to the U.S., our government will assess another 35 percent tax on top of the foreign tax already paid. This 35 percent corporate tax rate is among the highest in the world.
As the founder of Big Tex, you are dismayed by losing 35 percent of profits just because you move them to a local bank account - a process called repatriation.
As you read the tax code, you recognize that if you simply leave the profits in foreign bank accounts, you avoid the extra tax. This gives a strong incentive to reinvest profits into factories and jobs in other nations.
Avoiding this tax allows you to give better pay raises and benefits to your staff. It is also better for your shareholders.
Although you like being headquartered in the USA, the 35 percent tax is significant. Additionally, if all foreign profits are reinvested outside the U.S., it can become difficult to expand U.S. operations.
Then one day, an opportunity to purchase Little Swiss Soda presents itself. Although Little Swiss Soda is a small acquisition, it is attractive. Furthermore, it is located in Switzerland - where corporate tax rates are only 10 percent. You immediately recognize that if you consolidate the companies and move the headquarters to Switzerland, you save a ton in taxes.
This concept is known as a tax inversion. It is perfectly legal.
As founder and CEO of Big Tex, what would you do?
Although a fictitious example, it is not far from reality.
Recognizing these matters, it is important to understand key points about taxes, tax inversions and our tax code.
Our tax code is a Frankenstein patchwork of "one-offs" with numerous exceptions, credits and caveats.
As an American, I am furious our elected leaders are too stubborn or politically motivated to fix this problem.
Other nations gladly welcome companies domiciled in the U.S. in exchange for significantly lower corporate tax rates. Some nations have zero corporate taxes. In comparison, our 35 percent tax puts foreign companies at a distinct advantage over U.S.-based companies.
If we tax at much higher rates than competing nations, then any company will logically assess where it is most efficient to set up shop.
Weatherford, a company created and grown in Houston, now calls Switzerland home for this very reason.
Sadly, pushing companies away from the U.S. reduces manufacturing, construction and employment opportunities for all Americans.
In a free society, companies are owned by shareholders, not governments. Our government appears to struggle with this concept. We cannot randomly assess tax rates that are double, triple or quadruple the rate assessed by other nations and expect companies to stick around.
Companies have a legal obligation to maximize shareholder wealth. Otherwise, why would shareholders risk investing hard-earned savings in a company? They legally deserve the best return possible.
This is not a Republican versus Democrat argument. It is a discussion that affects all Americans.
In the end, capital flows where it is most efficiently used. If the United States does not get its act together and reform its tax code, we will continue to encourage companies to leave our shores. This will continue to push the reinvestment of profits outside our wonderful country, making everyone else stronger in the process.
If our tax code is not reformed in a manner that embraces and fosters entrepreneurship, investment and reinvestment, then the only winners in the tax inversion sweepstakes will be the cadre of tax attorneys who will always be several steps ahead of ill-informed politicians.
Dave Sather is a Victoria certified financial planner and owner of Sather Financial Group. His column, Money Matters, publishes every other Wednesday.