Senate report: Apple using shell companies to dodge taxes

Apple has funneled money through three offshore companies to dodge billions in taxes, according to a Senate report released on Monday.

The report from the Senate Permanent Subcommittee on Investigations found Apple's three subsidiaries had no official tax residence, meaning they paid little or no taxes to any government.

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“Apple sought the Holy Grail of tax avoidance,” Sen. Carl Levin (D-Mich.), the panel’s chairman, said. "It created offshore entities holding tens of billions of dollars, while claiming that it was a tax resident nowhere.”

Sen. John McCain (R-Ariz.), the subcommittee's ranking member, accused Apple of being “among America's largest tax avoiders.”

“A company that found remarkable success by harnessing American ingenuity and the opportunities afforded by the U.S. economy should not be shifting its profits overseas to avoid the payment of U.S. tax, purposefully depriving the American people of revenue,” he said.

The company did not respond to a request for comment, but Apple CEO Tim Cook and two other top company executives are scheduled to testify Tuesday before the committee.

In the company's prepared testimony, it denies that it is improperly hiding its assets overseas or that it is using “tax gimmicks.”

Apple notes that it employs tens of thousands of people in the United States and claims that it is likely the largest corporate income tax payer in the U.S. Apple paid nearly $6 billion to the U.S. Treasury last year and expects to pay $7 billion this year, in addition to state sales taxes.

“As a result of its international success, Apple has accumulated significant amounts of cash outside the U.S.,” the company says in the written testimony. “Apple carefully manages this foreign, post-tax income to support its foreign operations through a corporate structure that protects and promotes the interests of its shareholders. Current U.S. corporate income tax law severely discourages the use of these funds in the U.S. by imposing a 35 percent tax on repatriation.”

The senators did not accuse Apple of violating any laws, but they said the company's business practices highlight flaws in the U.S. tax system. Senate aides emphasized that Apple cooperated with their investigation.

The company’s primary offshore entity is Apple Operations International, which was founded in 1980. The firm has no employees and three directors, two of whom are Apple employees, according to the report.

The firm is formally based in Ireland, but conducts most of its business in the U.S., the Senate investigators found.

Although Apple Operations International made up 30 percent of Apple's total worldwide net income from 2009 to 2011, it did not pay any corporate income tax to any government during that time period, the investigators said

According to the report, Apple exploited a difference between Irish and U.S. tax rules. Ireland taxes companies based on whether they are managed or controlled in the country, whereas the U.S. bases residency on the entity’s place of formation.

“Apple explained that, although AOI is incorporated in Ireland, it is not [a] tax resident in Ireland because AOI is neither managed nor controlled in Ireland,” the investigators wrote. “Apple also maintained that, because AOI was not incorporated in the United States, AOI is not a U.S. tax resident under U.S. tax law either.”

Apple also used the distinction in Irish and U.S. tax laws to minimize its taxes through two other subsidiaries: Apple Operations Europe and Apple Sales International. In 2011 for example, Apple Sales International paid just $10 million in global taxes on $22 billion in income.

The company also used cost-sharing agreements to shift billions of dollars in economic intellectual property rights to its offshore subsidiaries. But the legal rights to its intellectual property remained in the U.S., allowing the company to take advantage of strong U.S. legal protections, the investigators said.

The report concluded that transferring the economic rights to the intellectual property to Ireland had “no apparent commercial benefit apart from its tax effects.”

The investigators recommended a series of changes to U.S. tax law that would tighten rules about offshoring income and would, they said, discourage the type of behavior that Apple allegedly engaged in.

Legislation introduced by Levin earlier this year, the Cut Loopholes Act, would address many of the report’s recommendations. The bill is co-sponsored by Sen. Sheldon Whitehouse (D-R.I.), and McCain said he is working with Levin and expects to sign on as a co-sponsor.

Tuesday’s hearing will be the first time that Cook has testified before Congress. He will be joined by Chief Financial Officer Peter Oppenheimer and Phillip Bullock, who heads the company's tax operations.

The executives are expected to call on lawmakers to cut corporate income tax rates to encourage companies to bring their profits to the U.S.

U.S. companies currently hold more than $1.7 trillion overseas, according to the subcommittee's report.

"Apple agrees with those in Congress who believe the current US corporate tax system must be reformed to reflect both the digital age and the globalization of commerce," Apple says in its testimony. "The Company believes the current system, which applies industrial era concepts to a digital economy, actually undermines US competitiveness."

The hearing will be one of the few times that Apple has stepped into the Washington spotlight. Unlike competitors like Microsoft and Google, Apple has a kept a relatively low profile in the capital.

Despite its massive size, Apple spent less than $2 million last year lobbying U.S. policymakers, according to disclosure forms, much less than many other tech companies.

But in a sign that the company may be beginning to pay closer attention to Washington politics, Apple began ramping up its lobbying spending in the first quarter of this year.

The senators grilled executives from Microsoft and Hewlett-Packard about their tax practices at a hearing last September. Those companies used similar strategies, such as moving intellectual property rights to Ireland and other countries, to avoid billions of dollars in U.S. taxes.

This story was updated at 5:50 p.m.

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