Thursday, November 15, 2018
Jordan Barry (San Diego) presents The Transition (Under-) Tax at Northwestern today as part of its Advanced Topics in Taxation Workshop Series hosted by Sarah Lawsky:
One of the most significant effects of the Tax Cuts and Jobs Act (“TCJA”) was shifting the United States from a worldwide tax system to a territorial one: Before the TCJA, U.S. corporations were subject to tax on all of the income they earned, regardless of where they earned it; after the TCJA, U.S. corporations generally will not have to pay U.S. federal income tax on profits earned outside of the United States. The TCJA coupled this permanent shift with a one-time transition tax (the “Transition Tax”). The Transition Tax taxes the trillions of dollars of income that U.S. corporations earned outside of the United States, but which had not yet been subjected to U.S. tax, at a rate of either 8% or 15.5%, depending on how the income was invested. There is much to criticize about the Transition Tax.
In particular, its rate is significantly lower rate than either the pre- or post-TJCA corporate tax rate (35% and 21%, respectively). This comparatively low rate creates several negative consequences: First, by applying a lower tax rate to sophisticated multinational enterprises than to wholly domestic U.S. companies, the Transition Tax raises serious equity concerns. Second, the Transition Tax raises both equity and efficiency concerns by varying the rate depending on how income was subsequently invested. It is a fundamental tenet of modern tax policy that the tax system should not “pick winners and losers,” yet the Transition Tax does exactly that. Finally, and most importantly, the Transition Tax rewards tax avoidance behavior, thereby encouraging more tax avoidance behavior in the future. Pre-TCJA, companies kept profits overseas to avoid paying U.S. tax. This behavior was not what Congress desired, intended, or contemplated, and it cost the United States fisc hundreds of billions of dollars. Tax law should not treat those taxpayers who frustrate and undermine the system better than those who do not, yet the Transition Tax does just that. Happily, there is a straightforward way to ameliorate all of these problems: raise the Transition Tax rate. Doing so could bring the net tax rate imposed on previously untaxed offshore profits to at least 21%, the post-TCJA corporate tax rate. In addition to correcting all of the problems described above, raising the Transition Tax rate would raise hundreds of billions or even trillions of dollars in revenue which could be used to provide services, reduce the deficit, or cut taxes elsewhere.