The jokes about Warren Buffett’s whopper of an inversion deal write themselves. What is not so funny is how Washington has allowed America’s tax system – with a rate 10 percentage points higher than the global average – to go neglected for decades while we continue to lose ground in the global race for investment and jobs.
The recent spate of so-called corporate “inversions” – where an American company relocates its global headquarters to another country through a purchase of a foreign company – is the latest political diversion from policies that will make America more economically competitive. Ostensibly, these inversion deals are undertaken to lower a company’s tax burden. However, Washington’s response to-date will not only have little impact on such transactions, it threatens to make matters worse by hampering our ability to attract global businesses that insource in America.
Specifically, historic foreign-headquartered companies – those firms that originally started their businesses in foreign countries - now find themselves in Washington’s inversion fix crosshairs. Through their U.S. subsidiaries, these insourcing companies directly employ 5.6 million Americans and add $736 billion in value to the U.S. economy.
Accounting for less than one percent of all U.S. private-sector businesses, insourcing companies have an outsized impact on the economy, producing more than 20 percent of America’s exports, 17 percent of our manufacturing workforce, and paying 34 percent higher wages than the economy-wide average. They also pay 16 percent of U.S. corporate taxes. These undisputable factors explain why the Obama Administration has said attracting more foreign direct investment should be a “comprehensive, all-hands-on-deck effort.”
In fairness, policymakers have a difficult task. Given the complexities of today’s global companies, it is nearly impossible to develop changes to our tax code that would narrowly impact the so-called invertors. Moreover, the term “inversion” itself is a moving target, evolving to the point where some politicians define it to mean anytime a U.S. company merges with a foreign firm. It seems that, any country with a lower tax rate than the United States – which has the highest of any nation in the industrialized world – can be considered a tax haven.
One of the most troublesome proposals intended to discourage inversions would raise a company’s tax burden by severely limiting its ability to deduct interest paid on debt to finance its American operations.
Companies depend on debt for growth, allowing firms to cover expenses and modernize equipment. Financing makes major expansions – like the groundbreaking ceremonies that politicians like to attend – possible. Companies across America, large and small, deduct the interest they pay on their debt as a normal cost of doing business. Interest expense has been fully deductible since before the Great Depression. If a business can no longer deduct the interest it pays on its loans, the cost of capital rises, and for foreign companies deciding where to invest, America becomes even less attractive.
Over the past decade, America has drastically lost its share of global investment. In 2000, 37 percent of all global investment came to the United States, in 2012 we claimed only 17 percent. The United States will not attract more foreign investment if it enacts discriminatory tax policy.
A second approach being considered by Congress presumes that if a foreign firm is managed from the United States, it must be an invertor. In reality, many historic foreign firms have created high-paying management functions in the United States, particularly in the manufacturing sector. This “management & control” litmus test will discourage traditional foreign companies from keeping global decision-makers in America and could ultimately lead them to decrease their investment in the United States. Only in Washington would the prospect of high-paying management jobs leaving America be hailed as a “success.”
The best way to prevent corporate inversions is to address the underlying problem - America’s uncompetitive tax code. In 1999, the average corporate tax rate across the industrialized world – including the United States – was 35 percent. Today, that global average rate is just 24 percent. Canada’s corporate tax rate fell from 29 percent to 15 percent. Germany’s went from 42 percent to 16 percent. Ireland’s fell from 24 percent to 12.5 percent. America’s rate remains more than 10 percentage points higher than the global average.
By embracing policy changes that reflect the realities of the global economy, rather than penalizing companies that want to compete in it, Congress can help America regain its winning advantage.
McLernon is the president and CEO of the Organization for International Investment, which represents the U.S. operations of many of the world’s leading global companies that in-source millions of American jobs.