Last week, Wisconsin-based Johnson Controls and Tyco International, based in Ireland, announced a plan to merge. The new company won’t be American. It will be Irish. The move will save the company $150 million in corporate taxes every year. This is hardly the first time this has happened. Almost 50 companies have chosen to “invert” over the last ten years. More than in the previous 20 years.
Commenting on this issue of inversion, CNBC asks whether corporate inversions are a reflection of greed or good business on the part of the company. The question is weird in my opinion since even if the decision was driven by greed, as long as the company is acting legally, it can do whatever it wants. Now, as it happens, this move is not only legal but there are very good reasons for companies to do this.
As I have explained before, for American businesses operating overseas, costs have become increasingly prohibitive. Most of you are by now probably aware that the U.S. corporate-tax rate is the highest among developed nations. Other countries, even those stereotypical high-tax European nations, have steadily reduced corporate rates in recent decades and left the U.S. behind. Europe now sports a corporate-tax rate below 24 percent, while the U.S. remains stubbornly high at 35 percent, or almost 40 percent when factoring in state taxes.
High taxes are bad for economic growth, but it’s the combination with America’s worldwide taxation system that leaves U.S.-based corporations so severely handicapped. Unlike almost every other nation, the U.S. taxes American companies no matter where their income is earned. Other countries, with a few exceptions, only tax income earned within their borders. So if a U.S.-based firm does business in Ireland they don’t simply pay the low 12.5 percent rate that everyone else pays, but also the difference between that and the U.S. rate.
That’s a sensible reason to do what Pfizer has done recently with its attempt to purchase the Irish-based Allergan and relocate its headquarters there. The move would allow them to compete on an even playing field with every other company not based in the U.S. Despite the impression given by critics, they’ll still pay the U.S. rate when doing business here.
Simply put, the current tax code is an albatross for U.S. companies looking to compete overseas. This has been known for quite some time, however, given half a chance most lawmakers will find a way to blame anyone other than themselves for the consequences of bad policy. Such is the case with corporate inversions, where politicians and their ideological sycophants in the media wish to cast the issue as a moral failure on the part of businesses instead of as the predictable response to a poorly constructed corporate-tax code. But while this might come as a surprise to the political class and its cheerleaders that see taxes only as a mechanism for funding big-government vote-buying schemes, businesses understand that they are a cost, and are to be avoided when possible just like any other.
President Obama, for example, has labeled deals like the recently announced Johnson Controls-Tyco International merger, or last year’s Pfizer-Allergan deal, as “unpatriotic.” The Johnson Controls deal has already been denounced by the New York Times as “tax dodging,” while the Pfizer news also sparked complaints from both Hillary Clinton and Donald Trump. The difference between Trump and Clinton, however, is that Trump understands that the corporate-tax system is the underlying reason for the inversions while Clinton wants to stop the companies from moving with an “exit tax.”
Clinton isn’t the first to propose such a silly plan. Lawmakers and Treasury officials have made numerous attempts to stop businesses from leaving for greener pastures and each time they have failed. Instead, they should reform the tax code so that businesses don’t want to leave.
Now, here is the good news. Every Republican running for president this election cycle has done just that. All of them have proposed plans to fundamentally reform the tax system including the corporate-tax code. It echoes a desire in Congress to finally do something about the problem and I can only hope that by the end of the decade we will finally get some real change on that front.