There have been in the last few months a plethora of U.S. companies that have announced plans to engage in an inversion transaction. Probably the most famous one involved Pfizer Inc.'s attempt to acquire AstraZeneca PLC with the merged parent company to be incorporated outside the U.S. While AstraZeneca rebuffed Pfizer, other transactions are being undertaken or being actively considered.

On July 18, AbbVie Inc. announced it had agreed to buy Irish pharmaceutical company Shire PLC in a $54 billion deal that would result in the parent company incorporated in the U.K. dependency of Jersey, a small island and tax haven in the English Channel. The combined company would be one of the 50 largest companies in the world. Medtronic Inc., a $60 billion medical device company, announced last month its plan to relocate its place of incorporation outside the United States in conjunction with its acquisition of Coviden PLC. Walgreen Co., the giant U.S. drug retailer, is also reported to be considering an inversion in conjunction with exercising its option to acquire the 55 percent of a Swiss entity Alliance Boots GmbH that it doesn't currently own.

An inversion transaction involves a U.S. incorporated company becoming a foreign incorporated company that is generally continued to be managed in the United States. It's undertaken to address a provision in the Internal Revenue Code that determines whether a company will be considered to be domestic by virtue of the entity's place of incorporation.

U.S. incorporated companies are subject to tax on income earned anywhere in the world although active non-U.S. earnings of foreign subsidiaries are generally not taxed until repatriated back to the U.S. parent company. If the parent company is considered foreign for U.S. income tax purposes, it will still pay U.S. income tax on earnings from its U.S. activities but will be able to avoid tax on foreign earnings. Furthermore, the inverted companies will also have available techniques to reduce tax on its U.S. operations by, e.g., paying interest and royalties to its new foreign parent company or other low taxed foreign group members. These techniques are presently available to traditional foreign companies with U.S. operations.

Internal Revenue Code section 7874 currently provides that in general if at least 80 percent of the stock of a former U.S. company is owned by the former shareholders of the inverted company, the company is treated as a U.S. corporation for U.S. income tax purposes. To avoid this provision, inversion transactions are currently being structured so that shareholders of the foreign target company hold more than 20 percent of the merged company.

Inversion transactions are legal, and CEOs have a primary responsibility to act in the best interest of their shareholders. Since inversion transactions can be structured legally under current law and may substantially increase after-tax earnings, they need to be considered by corporate management.

Some members of Congress, especially Republicans, have argued that the answer to inversion transactions is to undertake as part of fundamental tax reform, territorial taxation pursuant to which active foreign earnings become exempt from U.S. taxation. Some refer to inversions as self-help territorial taxation. While adopting territorial taxation would do away with the need to undertake the transaction, it could also lead to further increased migration of good jobs, facilities and taxable income from the U.S.

In a July 15, 2014 letter to House Ways and Means Committee Chairman David Camp (R.-Mich.), Secretary of Treasury Jacob Lew urged Congress to immediately enact anti-inversion legislation. Senator Ron WydenRonald (Ron) Lee WydenCongress faces growing health care crisis in Puerto Rico Photos of the Week: Nov. 13-17 Senate panel approves GOP tax plan MORE (D-Ore.), chairman of the Senate Finance Committee responded to Secretary Lew's request by stating that "[t]his inversion loophole must be plugged."  Democratic members in both houses of Congress have proposed legislation to halt inversion activity with a retroactive effective date.

Under the proposals, the 80 percent threshold under current law would drop to 50 percent and regardless of the degree of legacy shareholder continuity, the company would be treated as domestic if both management and control of the group remains in the U.S. and the company has significant business activities in the U.S. The legislation is a sensible response to a real problem that can exacerbate the nation's budget deficit unless addressed.

There are legitimate problems with the current U.S. corporate tax system. The statutory corporate tax rate is the highest in the world. Foreign earnings are trapped overseas, known as the lockout effect, because U.S. companies don't want to pay tax on these earnings. Our corporate tax base needs to be broadened. These should be addressed in the near term, but they shouldn't serve as an excuse for members of Congress doing nothing about inversions. 

While the CEO's chief responsibility is to his shareholders, Congress' obligation is to the best interests of the American people. Inaction or flawed legislation may be welcome by many U.S. multinational companies, but it is the duty of Congress to balance the legitimate needs of U.S. multinationals to compete with foreign rivals headquartered in countries utilizing territorial taxation, with other objectives of our tax system including expanding businesses in the U.S. and meeting the need for tax revenue. While the goals for our tax system by U.S. multinationals and those that are in the best interest of the American people may in many instances overlap, they are not concurrent.

Cohen is a tax professor at Pace University Lubin School of Business and a retired vice president-Tax and General Tax Counsel at Unilever United States Inc. The views expressed are entirely his own and may not represent those of organizations to which he is currently or has been affiliated.