What is Tax Inversion?
Tax inversion involves re-incorporating a company in an overseas country. This is done in an effort to decrease a company’s tax liability on income earned abroad. It is especially beneficial to corporations that have a significant amount of foreign income, since overseas earnings are taxed both in their country of origin as well as in their country of incorporation. As such, re-incorporating a company can save a business a considerable amount of money on future earnings.
How it’s Done
There are actually many different methods used to re-incorporate a company; however, the most common one involves having a foreign business purchase its current operations. When this occurs, the foreign company then takes ownership of the corporation, and the company’s previous incorporation is then voided. This often results in relocating corporate headquarters overseas to a “host nation” where tax rates are significantly lower than they are in the United States.
Predominant in Tech Industries
Tax inversion is predominant in a number of technology-related corporations, who primarily hold cash earned from international business units in order to avoid tax liability. They do this by creating overseas subsidiaries in other countries. It is estimated that the leading U.S. technology firms currently hold around $430 billion in income outside the United States, which amounts to around $150 billion in taxes being deferred. This has resulted in Apple paying a tax rate of around 10%, Xerox paying around 7%, and Amazon paying a mere 3.5%.
When faced with the prospect of corporate inversion, a question many executives have is whether or not this practice is actually legal. The fact is that tax inversion is indeed legal, and is not considered to be tax evasion under ordinary circumstances. Some exceptions would be whenever a company misrepresents information on a tax return or participates in illegal activities such as money laundering in an attempt to disguise profit margins.
Reasons for Considering
The reason why so many companies consider tax inversion in the first place is because of the relatively high tax rate here in the United States. The corporate tax rate here is 35%, which is among the highest anywhere in the world. Although most corporations pay far less than this amount due to deductions, the average tax rate is still somewhere around 18.5%. The high tax rate has left a number of corporations considering re-incorporating in countries such as Bermuda, where liabilities are much lower.
Fairly Recent Trend
Moving corporate headquarters to overseas locations is a fairly recent trend that first became popular during the 1990s, and has continued to increase in intensity since then. Economic experts claim the trend has not yet peaked, as a number of U.S. corporations are expected to flee American soil by the end of 2015. The number of companies leaving in search of better tax rates could eventually lead to the American economy being defined by “growing capital flight.”
Effect on the Economy
Economic experts also claim that the growing number of corporations that are performing corporate inversion will have a negative effect on the U.S. economy. Relocating a company overseas will result in the loss of all jobs associated with the headquarters, in addition to reducing the amount of money that’s funneled into the American economy. Since the trend toward fleeing the United States is becoming so predominant, many fear that efforts must be taken to reduce corporate tax burdens in order to entice more companies to stay.
Corporations have always been savvy when it comes to reducing their tax burdens, and one of the most common ways they are currently doing this is through tax inversion. While this might be good for business owners, it is not necessarily good for the American economy. More needs to be done in order to create a win-win situation for corporations, their employees, and the American public in general.