Tuesday, October 23, 2012
Michael J. Graetz (Columbia) & Rachael Doud (J.D. 2012, Yale), Technological Innovation, International Competition, and the Challenges of International Income Taxation, 113 Colum. L. Rev. ___ (2013):
No one today doubts the fundamental importance of technological development to economic growth. And there is a consensus that research and development, which is crucial to ongoing technological advances, is underproduced in the absence of government support. Substantial government support of technological advances is ubiquitous. Technological innovation — the development of intellectual property (IP) — has become the key element in building national wealth.
Policymakers throughout the world have enacted tax benefits for both R&D and the gains from innovation. Designing cost-effective methods of supporting technological innovations has, however, become substantially more difficult as the world economy has become more interconnected. Labor and capital mobility, along with cross-border trade, complicate matters substantially: they allow the location where R&D is performed and the location where income is earned to change in response to the nature and level of government support. Adding to the mix, the flexibility of MNEs to shift across national borders the locations of production of their IP, the ownership of their IP, and the locations of the income from IP, along with their ability to establish new corporations resident in tax-favorable jurisdictions, renders designing cost-effective incentives even more difficult. Devising appropriate tax rules for the costs of developing IP and for IP income has become the central challenge for international income taxation.
Fashioning appropriate national policies to further technological innovation has become herculean for governments that support such advances primarily to increase the wellbeing of their own citizens and residents. It is hardly surprising, therefore, that the variety of public policies that have emerged from contests among nations to capture many or all of these benefits for its citizens and residents sometimes have beggar-thy-neighbor aspects and often are hard to fathom, much less defend. The difficulties in evaluating such public policies are compounded when, as here, any such effort is fraught with empirical uncertainties.
Tax policies have taken center stage in national policy efforts to stimulate and attract R&D and to capture a share of the income from technological innovations. Here we examine the three primary tax policies supporting innovation: (1) incentives for R&D, (2) so-called patent boxes, and (3) proposals for tax benefits for “advanced manufacturing.” We begin by describing the current smorgasbord of incentives and the economic evidence concerning their efficacy. We then briefly describe common techniques used by MNEs to lower the income taxes on income from IP. After that, we assess the soundness of the various incentives and offer our recommendations about how the United States might respond to the challenges it now faces in promoting technological innovation. Based on our extensive examination of the economic evidence, we conclude that, at most, only R&D incentives are justified.
We also summarize the current proposals for limiting opportunities for USMNEs to shift IP income to low or zero-tax jurisdictions. In that connection, we offer new proposals for change that emphasize imposing U.S. tax based on U.S. sales. These kinds of proposals merit serious consideration when the U.S. Congress takes up business reform.