John  Browne

One of the most secure means for a U.S. company to shift earnings overseas is a process known as "inversion," where a company buys or merges with a foreign rival. If the target company is of sufficient size, the U.S. company can claim it is headquartered overseas. This is the corporate equivalent of marrying for a green card.

Recently, U.S. drug maker Actavis Plc. bought Irish-based Warner Chilcott Plc. to transfer its tax residence to Ireland. It paid some 30 percent of its stock market value to buy Warner Chilcott. This figure surpassed the 25 percent threshold set by the IRS and allowed Actavis to transfer its tax residency to that of Warner Chilcott in Ireland. However, Actavis was permitted by the IRS rules to leave its U.S. executive offices and operations untouched.

Most recently, the huge U.S. pharmaceutical company Pfizer announced a bid of $105.6 billion for UK based AstraZeneca Plc. Barclays Plc. analyst Mark Purcell estimates that for every percentage point that Pfizer can reduce its tax rate, it will save some $200 million per year. He estimates that, over time, by paying the lower UK tax rate, Pfizer will save a potential $1.4 billion per year.

In the U.S., there is understandable and growing resistance to the corporate policies of inverting tax residence and of parking profits abroad. Robert McIntyre of Citizens for Tax Justice echoed a common frustration when he referred to inverted U.S. companies by saying, "They want all the joys of being American and none of the burdens."

Congressional anger is marked particularly among 'tax-the-rich' democrats such as Senator Ron Wyden, who seeks to prevent the "hollowing out" of the U.S. tax base. Recently, Senator Carl Levin from Michigan introduced a bill looking to put an end to corporate "inversions." Without realizing that the new tax 'host' countries provide many of the same advantages, Levin complained that tax inverted U.S. companies "benefit from the protections and services the federal government provides, including patent protection, research and development tax credits, national security and more."

Notwithstanding the easy political points that can be scored by bashing big business, U.S. politicians should realize that nations compete aggressively now by means of low tax rates. If U.S. politicians could pass a flat rate tax of say 25 percent, it likely would unleash a massive wave of enterprise and would allow for a repatriation of vast hoards of dollars. This would likely increase, not decrease, the total take of U.S. corporate taxes. But in our hyper-partisan environment, no change, no matter how sensible, has much of a prospect.

So instead, we will further drive corporations overseas by limiting the flexibility with which they can merge with companies overseas. This provides yet another reason for entrepreneurs and global capital to set up shop overseas.

For encouragement, U.S. politicians should remember how, by slashing tax rates, Prime Minister Margaret Thatcher encouraged the return of tax exiles and fostered a massive resurgence of enterprise and economic activity within Great Britain. By generating hugely increased profits, this resulted in a greater aggregate tax-take by the Government, albeit at lower rates.


John Browne

John Browne is the Senior Market Strategist for Euro Pacific Capital, Inc.