March 17, 2013
The Economist: Tax Havens -- A Modest Proposal
The Economist: Tax Havens A Modest Proposal:
We see in the media almost daily items about the detrimental effects of tax havens in general and corporate profit-shifting in particular. Profit-shifting is the structuring by multinationals of their cross-border operations to minimise taxes imposed in both their home countries and the countries where they actually operate, and the movement of those profits through legal planning into subsidiaries in low-tax jurisdictions. The goal is to achieve “double non-taxation”: no tax in countries where operations and revenues occur and no tax in the company’s home country.
So successful has big business been at achieving this goal—and thus eroding the tax bases of both leading economic powers and developing countries—that the issue has shot up the agendas of the OECD, the G8 and the G20. All are looking for solutions.
Some solutions look like mere band-aids. Countries are urged, for instance, to tighten rules on “transfer pricing” of transactions between subsidiaries in different countries; or to strengthen their “general anti-avoidance rules”. Such rules might make profit-shifting a bit more difficult, but they won’t solve the problem. The same goes for country-by-country financial reporting, which would make profit-shifting easier to identify but wouldn’t eliminate the motivation to seek double non-taxation.
That motivation will only disappear if management knows that the group’s worldwide income will always be taxed, and that no amount of planning or developing complex schemes can avoid it. That is why the only real solution is to force current (ie, non-deferred) taxation on 100% of a multinational’s worldwide income, with no exceptions.
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This proposed solution is indeed correct, but principles of game theory suggest it can never be implemented. The incentive to 'cheat', that is for a jurisdiction, particularly a small nation (yes we're talking about you Ireland, or Bermuda, or Luxenburg) to lower the tax rate or eliminate it altogether is just to great.
For example, a beneficial reform in the United States would be for every state to agree on the same corporate tax system and same rates, so that there will be no battle over the allocation of income to various states. This would eliminate costly and unproductive tax battles, ensure that each state had corporate tax revenues and make a complex tax system much simpler.
But it will never happen. The principles of game theory are just too strong.
Posted by: David R. | Mar 17, 2013 11:22:39 AM
David, I understand that the "incentive to cheat" that you're referring to is the incentive for MNCs to "escape" from their home country and adopt as a new home country some tax haven or other low-tax jurisdiction. And you're correct that this incentive would be there. Just as a territorial system needs strong CFC, transfer pricing and other rules to prevent profit shifting (what I think of as band-aids), a full-inclusion system will need anti-inversion and other rules to prevent MNCs from escaping.
Some others have suggested a worldwide unitary approach. But I agree with your point that all countries will not implement the same system, and that will result in some double taxation and some double non-taxation. Under this full-inclusion approach, only the home countries of most major MNCs have to adopt it. And they don't need to adopt the same system or tax rates.
All the best,
Posted by: Jeff Kadet | Mar 18, 2013 12:45:37 PM