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Why Do We Need International Tax Reform?

August 13, 2015

Last week, we laid out what it means when we say the committee is exploring “international tax reform.” It’s an update of the rules under which we tax American companies selling goods and services across international borders. It’s one of the most important things we can do right now to keep jobs here at home and make America more attractive for investment. Our international tax system is in bad shape—and getting worse—and it needs modernization desperately. Here are a few reasons why:

Unlocking $2 Trillion of Economic Juice

As we’ve said before, more than $2 trillion of American capital is now parked outside the United States. This is money that could be used to boost our economy and create American jobs. But instead, it’s locked out of the United States by our flawed tax code. The United States is virtually alone among industrialized nations with a so-called worldwide tax system, under which we impose the full (and high) U.S. corporate tax on profits of American companies regardless of where they make the money. Most nations levy taxes only on income earned within their borders. But because American companies are forced to make up the difference in U.S. tax when they bring that money back home, they simply choose not to, leaving $2 trillion out of our reach. Moving from a worldwide system to an exemption system could encourage that money to come back home, catch up with the rest of the world, make the U.S. more competitive, and create much-needed jobs. For more on how this works, see here.

Halting the Inversion Trend

You’ve no doubt seen them in the news: corporate inversions. At an alarming rate, American companies are inverting or being taken over by foreign competitors. American companies are revoking their status in the United States and incorporating in another country with a less burdensome tax code. The effect is an erosion of our corporate tax base and a shift in capital and jobs to other countries. Some have attacked the companies for these transactions, but they are the inevitable result of an antiquated U.S. tax system that the world is leaving behind. While other countries are competing to challenge our standing in the global economy, we have not updated our rules in years. Comprehensive tax reform that puts us ahead of the rest of the world is required to reverse this trend and bring companies to the United States, but a limited international tax reform could at least stem the tide of these corporate inversions.

OECD BEPS (No, Really)

The Base Erosion and Profit Shifting (BEPS) project under the Organization for Economic Cooperation and Development. This surely makes your eyes gloss over, but it matters—big time. This BEPS project is expected to roll out new guidelines for taxing international profits this fall. And even though they’re non-binding to the United States, many countries adopt the guidelines as their own rules, and that has an enormous impact on us. Here’s the bottom line: Many nations offer what is called a “patent box” or an “innovation box”—a lower tax rate on income tied to intellectual property (IP). And while they do most of their research and development in the United States, many American companies have taken advantage of these innovation boxes by placing their IP assets in one of these low-tax jurisdictions, like Ireland or the United Kingdom. Under the expected BEPS guidelines, however, to receive the benefit of an innovation box, a company must actually do its R&D in the country that is offering the lower rate. That means American companies are going to face enormous pressure to send their research facilities—and good jobs—overseas so they can keep their low rate. That’s why, as part of international tax reform, members of the Ways and Means Committee have proposed an innovation box for the United States.

An Eroding Corporate Tax Base

The ultimate goal for this committee is comprehensive tax reform that lowers rates for everyone and makes the system fairer and flatter. A big piece of that puzzle, along with reform for individuals and small businesses, is corporate tax reform. But, at this rate, there won’t be much of a corporate tax base left to reform. As companies invert or keep their profits abroad or shrink their footprint in the United States, revenue into the federal treasury shrinks. This not only increases our deficit, but it leaves less of a corporate tax base to contribute to pro-growth tax reform. Once again, a modernized international tax system can stem that bleeding.

One Word: Jobs

At the end of the day, this is all about one thing: jobs. The American tax system is leaving us falling behind and families are bearing the brunt of it. Whether it’s jobs relocating overseas or never coming here in the first place, this creates less opportunity for individuals and families to get ahead. We know that Americans can compete with workers anywhere, but we need a level playing field. By updating our international tax system, we can help accomplish that, create more jobs, and give Americans the sturdy ground they need to meet their potential.