Continued from page one here.
For a printable PDF of this chartbook click here.
Just two industries—high-tech/information technology and pharmaceutical/health care—hold about half of offshore profits. Information technology firms hold 29 percent, while health care companies, primarily pharmaceutical firms, hold 20 percent. Companies that earn their profits from intellectual property, such as patents, are best able to shift their profits to tax havens.
Proponents of corporate tax breaks will often refer to offshore corporate profits as “trapped.” For instance, Apple CEO Tim Cook has stated that “almost nobody’s bringing back their money” (NPR 2015). However, in reality it is simply that large multinational corporations don’t want to pay the taxes they owe. A Credit Suisse report shows that in every year but one between 2006 and 2014, more U.S. offshore earnings were repatriated or were earmarked for future repatriation than were stashed offshore. This tells us that many American corporations are in fact bringing their money back home and paying the taxes they owe. Rather, as detailed in the next few charts, offshore tax avoidance is mainly about particular large multinational corporations that refuse to pay the taxes they owe.
By the end of 2015, Fortune 500 companies held $2.4 trillion in profits booked offshore. Just four corporations—Apple, Pfizer, Microsoft, and General Electric—had one-quarter of these untaxed profits offshore. Only 10 corporations hold nearly 40 percent of them, and 50 companies hold more than three-quarters of these untaxed offshore profits. (See Appendix Table A1 for the list of all 50 companies.) These corporations are the most adept at dodging taxes because of their ability to shift profits offshore.
The share of corporate income paid in taxes to foreign governments on offshore profits stands at between 6.4 percent and 10.0 percent, according to respected estimates. That means U.S. corporations will owe to the U.S. Treasury between 28.6 percent and 25 percent when their profits are repatriated, based on a 35 percent tax rate (less deductions for foreign taxes paid). Thus, corporations owe between $533 billion (based on $2.1 trillion in offshore profits in 2014) and $695 billion on those offshore profits (based on $2.4 trillion in offshore profits in 2015).
President Obama’s corporate tax reform plan proposes that a mandatory 14 percent tax be assessed on the offshore profits (less credits for foreign taxes paid). A 14 percent rate would raise $195 billion—a tax break of roughly $500 billion from the up to $695 billion that is owed. Republicans have proposed even lower rates that would lose even more revenue.
Some very large multinational corporations owe a substantial amount of U.S. taxes on their offshore profits because they have paid very little in foreign taxes, as many of these profits are booked in tax havens.
For example, Apple, which reported paying just 4.6 percent in taxes on its offshore profits (CTJ 2016a, 6), owes nearly $61 billion (based on the 35 percent tax rate Apple would owe if it brought its offshore profits home, less the foreign taxes already paid). Microsoft, which reported paying just 3.1 percent on its offshore profits, owes nearly $35 billion. Citigroup owes nearly $13 billion.
But these large multinational corporations would get huge tax breaks under President Obama’s proposal to apply a 14 percent tax rate to existing offshore profits. For example, Apple would owe about $24 billion—a tax break of about $37 billion from the 35 percent rate.
Corporations are able to accumulate offshore profits without paying U.S. taxes on them because of a loophole known as “deferral.” It lets corporations defer paying taxes on profits earned overseas indefinitely, as long as they claim it is permanently reinvested offshore. Using estimates from the Joint Committee on Taxation, we project the deferral loophole will cost the U.S. Treasury almost $1.3 trillion in tax revenues over 10 years—or $126 billion a year, on average. Ending deferral would also eliminate some incentives to ship jobs offshore, end incentives to shift profits offshore, and make the tax system more equitable so that multinational corporations no longer pay a much lower tax rate than domestic firms.
The driving forces behind offshore tax avoidance are the deferral loophole and the tax incentives that exist for multinational corporations to shift their U.S. profits to make them appear as offshore profits. That is, much of the offshore earnings that corporations can defer taxes on weren’t really earned offshore at all, and corporations have no intention of keeping them offshore. They are simply waiting for Congress to grant a new tax holiday to bring them home at a low tax rate. The resulting revenue loss to the U.S. government is growing substantially—and was $111 billion per year as of 2012. This is equal to roughly 0.7 percent of U.S. GDP.
Multinational corporations can create complicated arrangements through the varied array of bilateral tax agreements that exist between countries, and they can manipulate transfer pricing rules (rules that determine the prices at which multinational corporations exchange goods and services internally). The simplest example is assigning all profits earned from royalty payments on intellectual property assets (patents, for example) to the subsidiaries of U.S. corporations based in low-tax countries.
It is clear that U.S. corporations haven’t actually relocated production for the sake of “competitiveness”; they are simply dodging taxes. Of the top 10 profit locations for overseas affiliates, seven are tax havens with effective tax rates of less than 5 percent. Ninety-eight percent of the revenue loss results from profit shifting to countries with corporate tax rates of less than 15 percent. And 82 percent of revenue loss stems from profit shifting to just seven tax-haven countries. These seven tax havens are responsible for 50 percent of all foreign profits of U.S. multinational firms. And those seven tax havens account for only 5 percent of their foreign employment (Clausing 2016).
In recent years, corporate income shifting has increasingly eroded the U.S. corporate tax base. If not for income shifting, corporate income tax revenues as a share of GDP would have been almost 50 percent higher in 2012—2.2 percent rather than 1.5 percent.
The reduction of corporate income tax revenue in 2012 due to income shifting is estimated at $111 billion (Clausing 2016). This is roughly the size of sequestration cuts to federal spending that Congress made in the Budget Control Act (BCA) of 2011 (Kogan 2013). The BCA-driven cuts remain the single biggest reason why full recovery from the Great Recession has taken more than 7 years to arrive (Bivens 2016). In short, the budgetary effects are likely to have been roughly equivalent had Congress tackled corporate income shifting in 2012 rather than enforcing arbitrary spending cuts. And ending corporate income shifting would have provided much less of an economic drag than did the BCA spending cuts.
While the scale of offshore tax avoidance is enormous, it shouldn’t be overlooked that businesses likely avoid taxes about as much here in the United States. Increasingly, the business sector is reorganizing as various “pass-through” entities to avoid taxes. Pass-through entities are businesses whose incomes are not taxed at the corporate level, but instead “passed through” entirely to the business owners and then taxed at individual income-tax levels.
The most dramatic shift is the rise in partnership income. In 1980, partnerships (a relationship where two or more persons join to carry on a trade or business) accounted for 2.6 percent of business income. Today they account for 26 percent.
The rise of pass-through income has eroded the corporate income tax base. Standard C-corporations (which pay the corporate income tax) accounted for almost 80 percent of business income in 1980. By 2012, they accounted for only 47 percent.
Increasingly, evidence points to the rise of pass-through business income being due to tax avoidance. Cooper et al. (2015) note that their inability to unambiguously trace 30 percent of partnership income to an ultimate owner or originating partnership lends evidence to the belief that firms are organizing opaquely in partnership form to minimize their taxes.
As with the rise of offshore profits, the rise of reorganization is likely due to the available tax incentives. Pass-through entities can avoid the first layer of the corporate income tax (i.e., the 35 percent statutory rate), and further minimize taxes by organizing opaquely. The capital income generated by standard C-corporations faces an average total tax rate of 31.6 percent. This rate includes not just an estimated 22.7 percent rate on C-corporations, but also an effective 8.9 percent tax on dividends. On the other hand, by organizing as an S-corporation, a company can expect an average tax rate of 25 percent. And indeed, it appears businesses have responded to these tax incentives. S-corporations have grown as a share of business income from less than 1 percent in 1980 to about 16 percent today.
Even more lucrative are the tax avoidance strategies available to partnerships. Partnerships face an average tax rate of just 15.9 percent. And one of the largest tax incentives in partnership organization is the ability to organize opaquely. Cooper et al. (2015) find that collapsing all circular partnerships (where partnership income could not be uniquely linked to non-partnership owners) into one would imply they pay a rate of about 8.8 percent.
Like offshore tax avoidance, this costs the rest of us in the form of forgone tax revenue. If pass-through activity had remained at 1980s levels, Cooper et al. (2015) find that 2011 tax revenue would have been approximately $100 billion higher.
About the Authors:
Frank Clemente is executive director of Americans for Tax Fairness, which he helped to found in
2012. Previously he was campaign manager for the Strengthen Social Security Campaign, a coalition of
320 organizations. Prior to that he managed a health care campaign for the Communications Workers of
America in support of the Affordable Care Act. He was issue campaigns director at the Change to Win
Labor Federation and director of Public Citizen’s Congress Watch, a national consumer watchdog
organization. Frank also has been senior policy advisor to the U.S. House Committee on Government
Operations and issues director for Jesse Jackson’s 1988 presidential campaign. Frank edited Keep Hope
Alive: Jesse Jackson’s 1988 Presidential Campaign.
Hunter Blair joined EPI in 2016 as a budget analyst, in which capacity he researches tax, budget, and
infrastructure policy. He attended New York University, where he majored in math and economics. Blair
received his master’s in economics from Cornell University.
Nick Trokel is research associate at Americans for Tax Fairness (ATF), where he is responsible for
assisting the executive director in background research for ATF’s various reports and publications, as
well as assisting in the management of website content and ATF’s email program. Nick has previously
worked at the Securities and Exchange Commission and U.S. Treasury Department. Nick received his
bachelor of science in economics from The George Washington University.
Bivens, Josh. 2015. “The Data Show Little Need to Increase Our Coddling of Corporate Profits.” Working Economics (Economic Policy Institute blog), December 10.
Bivens, Josh. 2016. Why is Recovery Taking So Long—And Who’s to Blame? Economic Policy Institute report.
Bureau of Economic Analysis (BEA). 2016. “Corporate Profits After Tax (without IVA and CCAdj) [CP]/Gross Domestic Product [GDP].” Retrieved from FRED, Federal Reserve Bank of St. Louis.
Bureau of Economic Analysis (BEA) National Income and Product Accounts (NIPA). Various years. “Table 1.12: National Income by Type of Income.”
Citizens for Tax Justice (CTJ). 2016a. Fortune 500 Companies Hold a Record $2.4 Trillion Offshore.
Citizens for Tax Justice (CTJ). 2016b. Ten Corporations Would Save $97 Billion in Taxes Under “Transition Tax” on Offshore Profits.
Clausing, Kimberly A. 2016. The Effect of Profit Shifting on the Corporate Tax Base in the United States and Beyond. Reed College Department of Economics.
Congressional Budget Office (CBO). 2015a. Public Spending on Transportation and Water Infrastructure, 1956 to 2014.
Congressional Budget Office (CBO). 2015b. “An Update to the Budget and Economic Outlook: 2015 to 2025 [Tab 12].”
Cooper, Michael, John McClelland, James Pearce, Richard Prisinzano, Joseph Sullivan, Danny Yagan, Owen Zidar, and Eric Zwick. 2015. Business in the United States: Who Owns it and How Much Tax Do They Pay? National Bureau of Economic Research, Working Paper No. 21651.
Dharmapala, Dhammika, C. Fritz Foley, and Kristin J. Forbes. 2009. Watch What I Do, Not What I Say: The Unintended Consequences of the Homeland Investment Act. National Bureau of Economic Research.
Government Accountability Office (GAO). 2016. Corporate Income Tax: Most Large Profitable U.S. Corporations Paid Tax but Effective Tax Rates Differed Significantly from the Statutory Rate. GAO Publication 16-363.
Joint Committee on Taxation (JCT). 2015. Estimates of Federal Tax Expenditures for FY2015-2019.
Joint Committee on Taxation (JCT). 2016. Estimated Budget Effects of the Revenue Provisions Contained in the President’s Fiscal Year 2017 Budget Proposal.
Kogan, Richard. 2013. Sequestration by the Numbers. Center on Budget and Policy Priorities.
Marples, Donald J., and Jane G. Gravelle. 2011. Tax Cuts on Repatriation Earnings as Economic Stimulus: An Economic Analysis. Congressional Research Service.
McIntyre, Robert S., Matthew Gardner, and Richard Phillips. 2014. The Sorry State of Corporate Taxes. Citizens for Tax Justice.
NPR. 2015. “Apple CEO Tim Cook: ‘Privacy Is A Fundamental Human Right.’” October 1.
Office of Management and Budget (OMB). 2016a. “Historical Budget Tables, Table 2.3: Receipts by Source as Percentages of GDP.”
Office of Management and Budget (OMB). 2016b. “Table 2.2: Percentage Composition of Receipts by Source.”
U.S. Senate Permanent Subcommittee on Investigations. 2011. Offshore Funds Located Onshore. Majority Staff Report Addendum.
Zion, David, Ravi Gomatam, and Ron Graziano. 2015. Parking A-Lot Overseas. Credit Suisse.
Zucman, Gabriel. 2014. “Taxing Across Borders: Tracking Personal Wealth and Corporate Profits.” Journal of Economic Perspectives, vol. 28, no. 4.