How the American Jobs Creation Act of 2004 changed not just the rules but the US mindset for taxing international income is discussed. For the first time in more than forty years, major tax legislation encourages US companies to earn low-taxed income abroad. In the name of correcting abuses, the Act granted complete exemption to both past and future foreign earnings of domestic companies that expatriated before 2004. The procedure, known as corporate inversion, involves the domestic parent of a multinational corporation becoming the subsidiary of a tax- haven foreign parent with the same stockholders. The United States continues to tax all earnings of the domestic company, now a subsidiary, but earnings from foreign operations that can be shifted to or started by the tax-haven parent fall outside US corporate tax jurisdiction. The Act is a caper, but not a funny one. It completes a sad trilogy: the failure to cope with intercompany pricing, permitting the retention of unnecessary assets abroad for spurious reasons, and now, exempting past and some future profits from tax. People view tax as a contest between themselves and the government, but that confuses enforcement with policy. Policy is a contest among taxpayers, and what Intel or GE or Pfizer does not pay, other people or their children will. The government is an arbiter, and it has decided that competition requires encouraging low-taxed operations abroad.
The Great American Jobs Act Caper
"It's broccoli, dear.""I say it's spinach, and I say the hell with it."-Cartoon caption, The New Yorker**"Erst kommt das Fressen, dann kommt die Moral." - Bertolt Brecht, DreigroshenoperI. INTRODUCTIONThis Article discusses how the American Jobs Creation Act of 20041 changed not just the rules but the U.S. mindset for taxing international income. For the first time in more than forty years, major tax legislation encourages U.S. companies to earn low-taxed income abroad. This could not more repudiate the legacy of Stanley Surrey, whose 1961 tax thinking under President Kennedy became 1986 tax legislation under President Reagan.2Surrey, Treasury's top tax policy official during the Kennedy and Johnson era,3 believed that income earned abroad by foreign subsidiaries of U.S. parents should be taxed as if earned directly. The alternative, which postpones inclusion of the earnings until they are distributed to the parent as a dividend, is known as deferral. The ability to defer tax on income can have considerable value.4 Eliminating that value by ending deferral would remove any tax incentive to invest in low-tax foreign countries and hire their workers.The association of low-taxed earnings from U.S. investment abroad with loss of U.S. jobs has considerable resonance.5 To muffle that, the Jobs Act uses its title to appropriate the goal of the very tax policy it scuttles. That purpose, keeping business activity here, informs its approach to the related issues of deferral, credit for foreign tax, and the taxation of exports. In each of those contexts, the rejected mindset views the issue as whether U.S. companies manufacture here or export their capital and manufacture abroad.6 Since its intent is to take tax imbalance out of that competition, the view often is referred to as capital export neutrality.The opposing view, capital import neutrality, thinks the relevant competition takes place among different countries. To illustrate, Singapore might grant a tax exemption for capital imported into that country to manufacture slings. Any local Singapore company will not pay any tax on the profits. But if a U.S. parent would pay tax on them at some time, whereas a European parent would not, Europe can undercut the United States not only as to slings sold in Singapore but everywhere else, including the United States. Accordingly, capital import neutrality wants to help the United States compete worldwide by taxing foreign earnings as lightly as possible.The Act7 did not invent capital import neutrality, with which its adherents bedeviled Surrey; and it may well have more force now than in the 1960's. But this Article does not intend to evaluate economic theories.8 What it does intend to do first is to point out the obvious: that encouragement of earning low-taxed income abroad has been cast as the creation of U.S. jobs. Next, the Article tries to show how-with what complexity and subtlety-the Act has done this. In that attempt, it pictures the Act as completing a trilogy, the three-part unraveling of a forty-year run. That run started with the Revenue Act of 1962,9 and lasted until the Jobs Act undid the Tax Reform Act of 1986.10The title of the Jobs Act misleads in a second way, so vital and obvious that it provokes wonder at the audacity to give it that name. The Act's origin traces back to 2002, when the World Trade Organization (WTO) decided that a Code provision exempting export profits from tax gave American manufacturers an illegal advantage in competing abroad.11 The WTO decision that the United States had violated its trade agreement allowed EU countries to retaliate against U.S. exports by imposing discriminatory tariffs. That right continues so long as ETI remains in force. EU countries retaliated ingeniously, by ratcheting up tariffs against U.S. exports produced in states pivotal to the 2004 Presidential election-for example, oranges. Producers of retaliated-against goods protested, and this ultimately forced Congress to repeal most of ETI.12 The genesis and a central provision of the Act aimed at wncreating American jobs.Congress tried to staunch the competitive damage. Tweaking the export benefit and renaming it had failed twice,13 so as compensation it slightly reduced the corporate tax rate on all goods manufactured in the United States.14 This could not begin to compensate a national export trade asset like Boeing. A recent Supreme Court case that concerned only the amount of Boeing's airplane development expense allocable to ETI involved $419 million in tax.15 In addition, the Act purported to encourage U.S. competition by allowing both the future accumulation of low-taxed foreign earnings and virtual exemption from tax of those already accumulated. The House Ways and Means Committee report describes both as though they had the same effect:The Committee also believes that it is important to use the opportunity afforded by the repeal of the ETI regime to reform the U.S. tax system in a man...