The Anti-Doughnut Party

Worldwide System of Taxation – Is America Anti-Business?

Posted on February 10, 2012 by JL

Eye-catching title for this post, right?  After all, America is the land of opportunity where anyone can start a business and rise from the depths of poverty to the become part of, in the parlance of populists, the 1 percent.  But America also has one of the highest corporate tax rates in the world at 35%.  Add to that the tax penalty that American companies face because of America’s worldwide system of taxation and it becomes clear that American companies are at a disadvantage.

So what is a worldwide system of taxation?  The United States taxes businesses not only on income earned in the United States, but also on income earned in other countries.  Since income earned by American companies are already subject to the tax laws of the country in which the revenue was earned, this means that American businesses are, in fact, taxed twice.  Once by the country they are doing business in and once by the United States.  Ouch.  This hurts American businesses especially when you realize that the American corporate tax of 35% is already one of the highest corporate tax rates in the world.

Compare this to a territorial tax system that only imposes taxes on income earned within the country’s borders.  Under a territorial tax system, business income earned in a foreign country is only taxed once by the country in which the income was earned.

Forbes has an article giving an example of how a worldwide system of taxation compares to a territorial system of taxation in the real world.

Let’s say an American company is competing around the world against a Dutch company. Both companies have manufacturing divisions in Ireland, servicing divisions in Hong Kong and financing divisions in the Cayman Islands. And to keep our example simple, let’s assume each division generates $100 million of profit.

Now let’s add taxes to the equation. The Irish government imposes a 12.5% corporate tax on both companies. The Hong Kong government imposes a 16.5% tax on both companies. And the Cayman government imposes zero tax on both companies.

But the U.S. has a worldwide tax system, and the Netherlands has a territorial tax system. This means that the American company owes tax to the IRS on the $300 million earned in the three jurisdictions, but the Dutch company does not need to pay any additional tax on its $300 million. And even if the American company is allowed full credit for taxes paid to the three foreign governments, its total tax bill will be more than $100 million–more than three times higher than the tax bill for its Dutch competitor.

As you can see, the American company is a great disadvantage.  Especially when you consider that close to “90% of what American companies produce overseas is sold overseas“.  This policy of worldwide taxation of income keeps many companies from bringing money back to the United States.  Case in point, as of January, 2012, Apple has $82 billion in cash and short-term securities.  Of that giant cash stockpile, $54 billion sits in offshore accounts.  Apple cannot bring that cash back to the United States to use without paying a “repatriation tax” at the 35% corporate rate.  In other words, it would cost Apple $18.9 billion just to bring its own cash back to the United States.  Is it any wonder that Apple just leaves that cash in other countries?

How does having a worldwide system of taxation benefit the United States?  The answer: it doesn’t.  Sure, in the short term, the I.R.S. might collect a tiny more in tax revenue, but the long term consequences of this tax policy is that America becomes less and less competitive with the rest of the world as a place for companies to set up shop and do business.  With an increasingly global marketplace, more and more companies will behave like Apple and leave their profits and money overseas.  That’s money that could otherwise be used here in America for creating jobs, paying dividends, stock buybacks, and acquisitions; all of which would benefit the U.S. economy more than leaving the money in another country.