Tax Avoidance, Trickery
I think every economist in [the tax] debate admits, if some reluctantly, that corporations pay no taxes.
American politicians are thinking about changing how they tax businesses. There are good reasons to reform the existing system, but unfortunately the proposals under consideration miss the mark.
An elegant solution, first seriously advocated by Dean Baker, should get more attention. Instead of trying to collect regular payments from businesses based on reported profits, the government should just capitalise its expected tax take up front by demanding nonvoting equity stakes.
People form businesses to make money. Unsurprisingly, governments want to tax these people.
The question is how. Taxing income paid to workers is pretty straightforward. Taxing explicit payments to investors — dividends and interest — should also be easy to do. Same for capital gains when stocks and bonds are sold at a profit.
But a lot of the value created by businesses never is paid out in these ways. Companies might reinvest in growth, or retain earnings by accumulating financial assets, or boost their net worth by paying down their debt. The traditional answer is for governments to tax corporate profits as a complement to other taxes on individuals.
This worked reasonably well in the past, but the share of total tax paid by corporations has steadily dropped in America. [..]
One big reason is tax avoidance via “globalisation”. Just create a subsidiary in a favourable jurisdiction, put your “intellectual property” in the subsidiary, and have the subsidiary charge high licensing fees to the rest of the company. Presto! All the profits end up untaxed. (For much more on this, including the impact on the balance of payments, you should read Brad Setser.)
Baker’s insight is that every stream of payments can be turned into an asset. The government’s legal claim on corporate profits should therefore be equivalent to some proportion of common stock. Shareholders and managers ought to be indifferent between today’s world, and a world where they are diluted by a new share class gifted to the government in exchange for no longer having to pay tax.
There would be other benefits from this reform both to companies and to the economy as a whole. As Baker puts it:
“There is no way for a corporation to escape its liability. A portion of whatever profit it makes will automatically go to the government. It also eliminates the enormous cost and waste associated with complying with or avoiding the corporate income tax (there would be some start-up and monitoring costs, of course, but nothing like what current enforcement requires). And federal revenues will go up, because companies will have incentive to do what is most profitable, not what minimizes their tax liability”
The Road to Ruin, J. Rickards, Solution
The solution in the works for G7 nations is world taxation. This starts with a centralized tax information database shared by developed nations. [..] The new world tax system being planned is quite sophisticated. The problem tax authorities have today is they can see the side of a transaction conducted in their country, yet cannot see the other side because the counterparty is in another country. Tax authorities can submit information-sharing requests to other jurisdictions. Still, case-by-case inquiries are cumbersome and slow. The new world tax system is designed to decrease opacity and ease processing. World taxation is an automated digital auditor.
Each taxpayer and its affiliates are assigned a unique identification number. Each transaction type—royalties, interest, dividends, et cetera—is assigned an identifier. The counterparty to each transaction is identified using its unique code.
All corporate transactions are tagged with these digital identifiers and submitted to a shared database. This is like a tag-and-release marine mission aimed at great white sharks. The shark may look fearsome after release, yet authorities always know where to find it.
The world tax database will be available to all participants in the system including the G20 nations. The database would be housed on high-capacity computers using sophisticated algorithms and predictive analytics. Like the shark, companies could run, but no longer hide.
The Road to Ruin, J. Rickards, The Double-Dip
For a decade at the start of my career, I was international tax counsel to Citibank, then the world’s most powerful private bank. Citibank had branches in more countries than the U.S. Foreign Service had embassies. The bank, under the direction of legendary CEO Walter Wriston, was a bigger platform than the Department of State.
In the early 1980s, my colleagues and I prepared a U.S. income tax return that showed zero liability at a time when Citibank was highly profitable. Wriston objected. He said it was unseemly for the largest bank in the United States to pay no U.S. tax. He instructed us to pay a small amount. “You don’t need to pay a lot; just two or three percent. It looks bad if we pay nothing.”
We mastered the art of paying no taxes, but paying some tax was a challenge. There were many levers at our disposal. We used foreign tax credits, investment tax credits, or depreciation on Boeing 747s and the Alaska pipeline, which we legally owned and leased to users. We also used tax-free municipal bonds and discretionary loan loss reserves to dial down tax liability. [..] The Cayman Islands and Netherlands Antilles also came in handy.
Our challenge was that Citibank’s tax return was a finely tuned machine. Once you moved one lever, another lever might move on its own due to the complex interaction of credits, deductions, and elections in the Internal Revenue Code. We spent an entire year tuning the machine; now we needed to dismantle one small part without ruining the works. We had time and talent to pay the tax. Yet the lesson was not lost on me. For large, complex companies, paying taxes is not a requirement; it’s optional [..]
Tax leasing is [..also ..] an effective tool. Countries have different rules for deciding when a financing transaction is a loan or a lease. Equipment deals can be structured as a loan in one country (to deduct interest) and a lease in another country (to deduct depreciation). The parties double-dip on deductions with one piece of equipment.
The loan-lease double-dip is combined with tax treaty back-to-back structures to obliterate taxes in multiple jurisdictions. As tax counsel to Citibank, I saw triple-dip leases, where a single Boeing 747 was written off in South Africa, the United Kingdom, and Australia at the same time.