When two fertilizer companies, CF Industries Holdings of Deerfield, Ill., and its Dutch rival OCI, called off a planned merger on May 23, they became the latest victims of a Treasury Department decision in April on who can merge with whom.

That decision was only the latest in a series of unilateral changes in tax rules. These changes – and the abrupt manner in which they came about – not merely harm companies that want to merge but also seriously undermine confidence in the rule of law in the United States.

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For businesses, rule of law denotes a predictable legal framework in which to operate, to hire, to make investments. Firms are highly reluctant to take the risk of deploying capital in places that arbitrarily change the rules to suit the politics of the moment.

The U.S. was once a stronghold of the rule of law, among the handful of most reliable places to do business in the world. No longer. Investors and business executives can’t make smart strategic decisions when rules change at whim, and that is what’s happening today. This new, significant business risk is increasing pressure on both U.S. and foreign firms to reduce their American footprint, which means reducing capital expenditures and jobs in the United States.

The specific rules change that scuttled the CF-OCI deal involved inversions –the process by which a larger U.S. firm merges with a smaller foreign firm, and the newly merged company adopts the foreign firm’s tax residence. Inversions have become more popular as the U.S. corporate tax code has risen out of sync with the rest of the developed world.

Meanwhile, deals where a larger foreign company buys a smaller U.S. firm are setting records. Most countries tax only income earned on their soil. The United States taxes the global earnings of U.S. businesses, with a credit for taxes paid abroad. High U.S. tax rates, coupled with this global U.S. tax reach, are one reason for the boom in buyouts. But another reason is simply that U.S. regulations have become so unpredictable.

The change in the Treasury’s inversion rules in April was the third since September 2014. It was clearly targeted at mergers like CF-OCI, which were in the process of completion. The two companies had originally planned to register the merged firm in the United Kingdom, whose corporate tax rate is 20%, compared with a federal rate of 35% in the U.S.

With British residency, the merged company’s non-U.S. earnings would be subject to lower foreign tax rates in the countries where that income was earned (on average, about 25% in the other 33 major developed nations of the OECD); only its U.S. earnings would face our 35% federal rate (plus state taxes). With U.S. residency, all of the firm’s earnings would face the higher U.S. rate. In December, because of new inversion rules put in place by the Treasury the month before, the two companies agreed to a tax residency in the Netherlands, OCI’s current home.

But then, in April, Treasury changed the regulations again – a unilateral decision with the blessing of President Obama, who the day before called inversions one of the most “insidious tax loopholes out there.” The companies dropped their deal. At the time the merger was announced, it fit the regulations, but then the rules changed, retroactively.

In their book From Poverty to Prosperity, Arnold Kling and Nick Shulz, argue that the great assets of today’s successful nations aren’t physical, like copper or farmland; they are intangible, like technical knowledge and reliable governance. It’s why Singapore is richer than the Central African Republic. The U.S. economy has benefited enormously from a strong rule of law. Investors and business leaders could have confidence that their multi-billion-dollar decisions were based on a stable laws and regulations. The recent Treasury actions, however, are discouraging investment by raising doubts about how stable those laws and regulations are.

A troubling confirmation of these doubts can be found in the World Justice Project’s “Rule of Law Index,” which measures a wide array of factors, including criminal justice and transparency. In the category “Regulatory Enforcement,” which measures “the extent to which regulations are effectively implemented without improper influence by public officials” and “whether the government respects the property rights of people and corporations.” The United States ranks an embarrassing tie for 19th with Uruguay, just ahead of such countries as the United Arab Emirates in 21st place and Botswana in 22nd.

This uncertainty is currently arising from a desperate attempt by the administration to prevent businesses from reacting reasonably in response to a corporate tax code that puts U.S. businesses at a disadvantage to foreign competitors. But that’s merely the issue du jour. The Treasury has set a dangerous precedent that other government agencies, with other political agendas to advance, will have an incentive to follow.


James K. Glassman, a visiting fellow at the American Enterprise Institute, was under secretary of State for public diplomacy and public affairs under President George W. Bush. Stephen Entin, a senior fellow at the Tax Foundation, served as deputy assistant secretary of the Treasury under President Reagan.