The Consequences of Anti-Inversion Laws

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The United States is struggling to compete internationally, as its tax code encourages companies to domicile themselves overseas rather than locating their headquarters in the United States. Other countries have steadily reduced their corporate tax rates, explains Gordon Gray of the American Action Forum, but the United States has left its rate in place. As a result, American companies face the highest corporate tax rate among developed countries.

Lately, tax policy talk has focused on “inversion,” the process by which American companies re-domicile themselves abroad (establishing a foreign residency for tax purposes). There are already provisions in the U.S. tax code intended to curb this practice, explains Gray. When a number of American companies moved overseas in response to high taxes in the 1990s and 2000s, Congress passed the American Job Creation Act of 2004 (AJCA). AJCA included several measures intended to limit inversion:

– Companies could not be considered “foreign” for tax purposes if their original American shareholders own 80 percent or more of the foreign entity.
– If the original shareholders own between 60 and 80 percent of the foreign entity, they are considered foreign but lose certain tax benefits.
– Companies are required to have a “substantial business presence” in the foreign nation, which regulations define as 25 percent of a company’s employees, assets and income.

Those measures are still in place, but recent proposals to move abroad by companies such as Burger King have sparked additional legislative efforts to address inversion. Rather than fix the broken tax code, lawmakers in Washington are seeking new anti-inversion rules:

– At present, original shareholders can own up to 80 percent of the foreign entity. These new proposals would reduce that figure to 50 percent.
– Other measures would continue to treat a company as American for tax purposes if the company retains significant management and control in the United States.

Gray contends that with the current tax code in place, anti-inversion laws that institute “management and control” tests to determine a company’s tax domicile will only further push companies to headquarter abroad.

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