When the Obama administration announced new rules last month aimed at making so-called “corporate inversions” less profitable, it was far from clear just how successful they would be at discouraging use of the tactic, in which a U.S. company purchases another firm in a low-tax country and transfers its headquarters there in order to benefit from lower taxes.
Critics pointed out that the rules left one of the other drivers of inversions, a practice known as “earnings stripping” untouched, and others said the language of the Treasury Department’s rulemaking virtually guaranteed legal challenges.
At the time, in an interview with The Fiscal Times, Urban-Brookings Tax Policy Center senior fellow Steven M. Rosenthal warned that the rules “did not tackle the full range of benefits” companies get from inversion deals. He pointed out that after an inversion, there was nothing in the rules stopping an inverted company from loading up its U.S. operations with debt incurred by overseas affiliates and rendering them technically unprofitable (and therefore largely untaxable) under U.S. law.
Speaking to the Wall Street Journal, tax advisor Robert Willens said that he believed the rule did not strike a “mortal blow” to the practice, and said that companies were likely to fight the rules in court. “There’s a very good chance that parts of this notice are imminently challengeable.”
However, the immediate consequences of the rule changes appear to be drastically altering the way companies look at inversions. Last week, U.S.-based fruit importer Chiquita Brands, of banana fame, called off its proposed merger with Irish firm Fyffes. The deal would have involved moving the headquarters of the combined companies to Ireland, which has a substantially lower corporate tax rate than the U.S.
While the company did not cite the new rules from Treasury as a cause of the decision — in fact, Chiquita was quite close-mouthed about its reversal — the business press largely reported it as an example of inversions falling out of favor. And Chiquita’s decision appears to make it liable for a substantial payment to Fyffes, suggesting that the deal that once looked like a winner to the U.S. firm recently became far less attractive.
A more obvious example of the Treasury policy’s bite was Chicago-based pharmaceutical firm Abbvie’s announcement earlier this month that it was abandoning its plan to merge with U.K.-based Shire Pharmaceuticals. Abbvie explicitly blamed the Obama administration’s new policy on inversions for the failure of the deal, which will cost Abbvie more than $1.5 billion in payments to Shire.
After the deal fell through, Abbvie CEO Richard A. Gonzalez went public with complaints about the new anti-inversion policies, pointing out that a huge part of the incentive to do these deals in the first place is the failure of the U.S. government to bring its corporate tax system into line with global norms.
“The unprecedented unilateral action by the U.S. Department of Treasury may have destroyed the value in this transaction, but it does not resolve a critical issue facing American businesses today,” he said. “The U.S. tax code is outdated and is putting global U.S.- based companies at a disadvantage to foreign competitors in an area of critical importance, specifically investing in the United States. Comprehensive tax reform is essential to create competitiveness and to stimulate investment in the economy.”
Gonzalez’s complaint echoes one heard not just from CEOs themselves, but from members of Congress who are well aware that the U.S tax code hasn’t been overhauled for the better part of a generation, and has therefore fallen well behind the practices preferred by most industrialized countries.
While the Obama administration may have curtailed a short-term public relations crisis that had U.S. businesses fleeing the country for friendlier climates, the long term results of the Treasury Department’s move may be to make corporate tax reform a more pressing issue when the new Congress convenes in January.
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