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March 25, 2021

Senate Finance holds international tax hearing

The Senate Finance Committee's March 25 international tax hearing largely focused on a brewing battle between the Biden Administration and some congressional Democrats on the one hand and Republicans and much of the business community on the other over dramatically changing the international tax provisions in the Tax Cuts & Jobs Act (TCJA), including raising revenue by changing the global intangible low-taxed income (GILTI) provisions, the base erosion and anti-abuse tax (BEAT), and the foreign derived intangible income rules. Democratic witnesses made the case for international tax changes to fund priorities like infrastructure and other proposals in the President's Build Back Better plan and made the argument that the TCJA created incentives for US companies to move tangible assets and jobs outside the United States. Other witnesses and Republican committee members suggested there's no need to change the provisions. Pam Olson, Former Assistant Secretary for Tax Policy, said she is unaware of any company that has moved operations to take advantage of GILTI. There was also a lot of discussion over whether increasing US taxes would reignite interest in inversions.

In an opening statement, Chairman Ron Wyden (D-OR) called the Joint Committee on Taxation (JCT) March 19 report, "jaw-dropping" for finding that the TCJA reduced the average US tax rate paid by the largest US corporations by more than half. Chairman Wyden said he will in coming days, joined by Senators Sherrod Brown (D-OH) and Mark Warner (D-VA), release a framework for international taxation that reverses TCJA provisions for US-based multinationals who "must pay a fair share," rewards companies that invest and create good-paying jobs in the US, and stops rewarding companies that ship jobs and factories overseas.

Ranking Member Mike Crapo (R-ID) warned against changing the system purely for purposes of bringing in revenue, which he said could incentivize inversions, and noted that international tax changes were sought on a bipartisan basis prior to the TCJA.

The hearing highlighted a fundamental disagreement over US international tax policy, as Chairman Wyden made clear in his closing remarks: he noted that he has always supported tax reform that would tax the foreign earnings of US companies at the full US rate, while the TCJA represents an effort to move to a more territorial system in which the US largely does not tax the active foreign earnings of US global companies. The hearing also focused on whether FDII is indeed an effective export incentive, and whether the BEAT is doing enough to prevent erosion of the US tax base.

Testimony in brief:

  • Kimberly Clausing, Ph.D., Treasury Deputy Assistant Secretary (Tax Analysis), said post-TCJA, "the use of tax havens to avoid tax continues unabated" and a "stronger minimum tax, stronger measures to tackle the profit shifting of foreign multinational companies, and close cooperation with our allies all have an important role to play." She said while under the GILTI minimum tax, the first 10% return on tangible assets is free of US tax and subsequent income is taxed with a 50% deduction, "our tax system would benefit from a much stronger minimum tax." Under questioning, she added that the BEAT should be revisited and that the Administration is studying what changes should be made, noting JCT estimates that the BEAT is not raising near the revenue originally estimated and that it creates a disincentive to invest in clean energy projects because of the interaction between the BEAT and tax credits.
  • Olson warned against proposals to eliminate the exception from GILTI of a 10% return on tangible assets a company uses in its foreign operations, which serves as a rough proxy for intangible income, saying the exception "allows US companies to compete on a level playing field with foreign companies with respect to investments in tangible assets that yield normal rates of return, by subjecting them to only the foreign tax rate in the country in which the tangible assets are located."
  • Chye-Ching Huang, New York University School of Law, said the 10% exception is an incentive for firms to shift or locate plants, equipment, and other physical assets offshore, because the more such assets a corporation has overseas, the more of that firm's offshore income will face a U.S. tax rate of zero percent rather than the domestic corporate tax rate of 21%; the aggregate versus jurisdictional nature of the calculation creates incentives for US MNCs to book profits elsewhere; and there is "room for tax-motivated profit and investment shifting in the space between 10.5% (or sometimes zero percent) and 21%, and the only way to curb much of that tax avoidance activity is to narrow the tax rate gap."
  • James R. Hines Jr., Ph.D., University of Michigan, said part of the motivation for international tax reform is concern over international tax avoidance, and, "It has long been clear that many of the estimates of income shifting by multinational firms greatly overstate the extent of the problem."

Below is a paraphrasing of select member questions and witness responses.


Wyden: Aren't we undercutting trying to get R&D in the US by having incentives to ship jobs and factories overseas?

Clausing: The Biden administration most definitely shares the goal that R&D and manufacturing prosper in the US, and the current system works against those goals to reward offshoring. She said GILTI gives a larger tax-free exemption the more tangible assets you have offshore. The FDII gives you a less generous deduction the more US assets you have. Together, a company moving offshore increases its ability to earn tax-free income offshore and increases its FDII deduction, encouraging offshoring. Studies have found that US companies with the largest GILTI benefits are those that are doing the greatest foreign investment.

Need for infrastructure

Wyden: How will the government meet the challenge of providing for priorities like infrastructure, with falling revenues?

Huang: The TCJA was a really big corporate tax cut. Investments in areas like infrastructure and a skilled workforce will benefit multinational companies as well, so reducing the tax subsidy for foreign profits is one sound revenue source.


Wyden: I believe we ought to find a way to be bipartisan in the tax system. The Republican claim that this is about competitiveness — their definition of that is big, mega-corporations don't have to pay real taxes. The TCJA cut taxes for those corporations. What policies address what we need to do regarding competitiveness?

Clausing: Make the incentives work so that the US is incentivized as the location to do business relative to opportunities offshore, and the larger business climate such as addressing priorities like infrastructure. Both of those types of competitiveness are often overlooked.

Tax increases

Crapo: What is your view of the Biden proposal to increase the corporate statutory tax rate and double the GILTI rate?

Olson: I don't think there has been a race to the bottom, there's been a race to the middle, which continues. If we add in an increase, we would be back to the top of the list of highest corporate tax rates.


Crapo: Is profit-shifting occurring near the levels suggested in some testimony?

Hines: There is profit-shifting, but it has been exaggerated. He cited Blouin and Robinson data, stating that the statistics are commonly misinterpreted, and that the magnitude of profit shifting is not nearly as extreme.


Crapo: I appreciate how Treasury and bipartisan leaders in Congress have spoken with one voice on the OECD BEPS 2.0 project.

Clausing: Treasury will keep coordinating and holding briefings with lawmakers regarding the negotiations, to share Treasury's thinking and hear thoughts from Congress.

Encouraging exports

Senator Maria Cantwell (D-WA): The Northwest is a very big export economy. With the opportunities created due to a growing middle class, we have a new market to sell to. What should we be doing to encourage exports?

Clausing: Avoid unnecessary distortions to the location of economic activity, and the system currently incentivizes offshore versus US activity. We want to incentivize producing products in the US and reforms we are discussing would be a helpful move in that direction.

Tax rates

John Thune (R-SD): Democrats like to describe the TCJA as a tax cut for corporations, but tax bills went down for most families and businesses, and it expanded the standard deduction. The corporate rate cut incentivized doing business in the US rather than overseas. It's important to point out that even with the 21% federal rate, the combined statutory rate is 25%-plus when taking into account state taxes.

Olson: We need to keep our rate somewhere along where other countries are; going back to the top of the pack would not be good.


Thune: Biden proposed a 10% offshoring surtax, which ignores the fact that some products just can't be produced in the US especially when they are to be sold abroad. For example, this would apply to COVID vaccine ingredients. Wouldn't a surtax penalize companies for being headquartered in the US?

Hines: Yes.


Pat Toomey (R-PA): Senator Wyden wanted to address inversions, then we fixed it, and changes we made to the global system brought a complete halt to inversions. "There have been no inversions since because we diminished the incentive … " he said. Is it a coincidence that inversions stopped after immediately after the TCJA?

Olson: The two are definitely related. The 21% rate made the US a more attractive place to be located; the anti-base erosion rules are considered quite onerous; and the "tightener" on 163(j) that drove inversions — these all came together to limit inversions.


Toomey: Is it fair to think of GILTI as similar to a global minimum tax? Isn't it true many other countries don't have minimum taxes?

Olson: The US is the only country with such a minimum tax.

Toomey: We do put our MNCs based in the US at a competitive disadvantage with respect to other countries, but it is not so onerous that we drive companies out — Is that fair? But is there a point, if the tax was raised, that the cost would be so high that the rational decision would be to locate somewhere other than the US?

Olson: What the high tax rate does is it puts a discount on the value of US assets in the hands of a US company and, over time, they tend to migrate other ways, whether it's through acquisition or sale of parts of a business.


Robert Menendez (D-NJ): What is more important, to lower the corporate rate or increasing R&D incentives?

Clausing: It is more important to think about investing in infrastructure and R&D rather than worrying about further reducing corporate taxes.

Tax rates

Bill Cassidy (R-LA): Democrats are reluctant to admit we need to get back to the pre-COVID economy for fear it would acknowledge how successful the TCJA has been. In another hearing on reshoring industries for PPE and medicine, one witness said raising corporate rates will be a disincentive.

Olson: The corporate tax rate is important to companies' decisions about where to locate, as is treatment of R&D. We need to fix some things with regard to R&D to have more of it done in the US.

Cassidy: If our rates are so much lower, it seems companies would move from other countries to take advantage. Has that happened? (He said the Democratic approach amounts to "Word games in order to advance an agenda.")

Olson: Not that I've seen.


Tom Carper (D-DE): There might be some consensus that the BEAT needs some reforms. Congress created credits for clean energy but the basic design of the BEAT disincentivizes the use of such credits, especially post-2025. (He is today introducing the Save America's Energy Jobs Act.) Where might there be consensus on reforming the BEAT, and how significant should those reforms be?

Clausing: BEAT was intended to target profit-shifting and income-shifting from foreign companies investing in the United States. The US was a top destination for foreign direct investment. BEAT was designed to keep those companies from moving money offshore, but the BEAT's revenues have been disappointing, indicating the BEAT hasn't prevented earnings stripping as much as intended. There is room for improvement, the Biden administration has not taken a position, but it is being studied.

Minimum tax on book income

Elizabeth Warren (D-MA): A good place to start for reform is to be clear about extent to which corporations are manipulating the tax code to avoid paying their fair share. She suggested specific companies pay low effective tax rates despite large profits.

Clausing: There are lots of reasons about why companies end up with low tax burdens, including international profit-shifting and the favorable provisions under the code, using losses from prior tax years, and stock compensation.

Warren: Is using loopholes unusual?

Clausing: It is widely agreed upon that profit-shifting is a very common and large problem.

Warren: Should we apply a 7% tax on profits reported to investors (i.e., her Real Corporate Profits Tax on profits above $100 million, which she will soon reintroduce)? Corporations will never stop exploiting loopholes, and a small tax on book profits would ensure that even the companies most skilled at gaming would pay their fair share, and Biden has a similar proposal.

Huang: The idea makes a great amount of sense.

Olson (on the same topic, later): There are items that reduce corporate tax receipts. When we look at a tax return and financial statements, "they are prepared for different purposes." Financial statements are prepared for investors, a tax return is prepared based on the IRC written by Congress and there are incentives built in that affect liability. They aren't reflected on financial statements except as a reduction in tax liability.


Brown: For decades, the corporate business model was one where companies would shut down in the US and collect tax breaks to move beyond our borders to import products back into the US.

Clausing: The tax code and the GILTI provisions provide incentivizes not only for operations in low-tax countries and havens but also moving tangible property and operations to high-tax countries because GILTI allows the blending of the income and taxes in the high-tax country and low-tax country. You can blend streams of income and get that 50% deduction relative to doing business in the US — an "America last" tax policy.

Huang: Because of the averaging feature, it makes America perhaps the least attractive place to hold a physical asset from a tax perspective.


Brown: In the TCJA that Democrats opposed, the GILTI proposal provided a 50% deduction for companies to move offshore. What is the incentive?

Clausing: The powerful incentive of having first the 10% of assets be tax-free offshore means that if you take some equipment from the US and move it abroad, you qualify for even more tax-free treatment abroad. The FDII turbocharges that because as you reduce your investments in the US, you get an even larger FDII deduction. With both hands you are encouraging movement offshore in plant and equipment through that tangible asset exclusion. With the blending issue, "like a master distiller," you can combine high-tax and low-tax income and get to an outcome that is better than operating in the US. For competition's sake, we need to think about making this a productive place to do business, using tax provisions plus policies like infrastructure, education, etc.

Tax incentives

Catherine Cortez Masto (D-NV): What is a way to ensure we have good paying jobs, especially in the hospitality industry?

Huang: Supporting workers and businesses, including making permanent an expanded EITC, would be better than the poor return we are getting from incentivizing companies to move offshore.


Cortez Masto: To Olson, you mentioned lack of congressional guidance on how the US should be negotiating relating to the current OECD project. Can you expand?

Olson: Something like Trade Promotion Authority could work well in this case to get congressional input before an agreement is completed, so that when agreement is reached in the OECD, it's going to make it more palatable for Congress to write legislation and ratify treaties relating to that agreement.


Warner: The 2017 bill did get it right, some Republicans thought, but GILTI and FDII availing companies with some of these blending techniques means they actually got it wrong. How can we stay competitive with low revenue levels?

Clausing: One important feature of the economy is having adequate funds for infrastructure, etc. We have low federal revenues, raising only about 16% in GDP. There is room for more tax revenue and corporate tax revenues are particularly low.

Rob Portman (R-OH): In the pre-TCJA 2015 partisan Senate Finance Committee international tax working group, we noted that workers are winners when we can compete. There is a lot of investment that has occurred, and a lot of IP is brought back to the US. The GILTI exemption for a return based on tangible assets is not a loophole but a recognition that earnings attributable to tangible property are not susceptible to profit shifting and for US companies to compete in foreign markets they need to be where the consumers are. The vast majority of foreign operations of US companies serve foreign markets — approximately 90% to foreign consumers. Is GILTI treatment appropriate or has it provided an incentive to move overseas?

Olson: "I do not think that the GILTI provisions have done anything to incentivize the movement of operations outside the US."


Portman: What are your views on FDII, and should we stop the scheduled move to section 174 R&D amortization?

Olson: FDII is an important provision and we should retain it, and Section 174 R&D amortization should be changed so we don't drive R&D other places. Other countries do a lot to attract that investment.

Corporate tax incidence

Crapo: Where does the burden of the corporate tax primarily fall?

Hines: There is a lot of controversy and we don't actually know. Land and labor should bare most of the burden of a business tax, but the evidence is mixed.

Todd Young (R-IN): According to CBO and JCT, 25% of corporate tax is borne by American workers in the form of fewer jobs and reduced wages. The President has pledged not to raise taxes on households earning less than $400,000/year. Won't corporate tax changes be borne by families making far less than that?

Hines: We can quibble about how much of the burden is borne by workers, but it is clearly large, probably larger than 25%. It is not just high-paid workers, but all workers because when you raise business tax rates, companies do less business investment and that reduces labor demand across the board. Worker demand is determined by productivity.

Tax havens

Wyden: Tax havens are driving too much of the US economy. The way the debate typically plays out is around rates, but that is not a growing concern because JCT suggested tax havens are getting more of the action. It seems increasingly there is a lot of competition between the United States and tax havens. Can you get into the question that the problem is between the US and tax havens?

Clausing: In the JCT report, you will see places where US MNCs invest, but the places where they put their profits are often tax havens. We are interested in working with other nations to lessen the pressures of tax competition. There is a mutual interest here.


Steve Daines (R-MT): We shouldn't increase the corporate tax rate or GILTI rate because that could reignite the trend of inversions. Should we not change US tax rates until an OECD agreement is reached?

Clausing: I believe what Sec. Yellen said is she is committed to working with other countries. In the last couple decades, OECD countries have dramatically cut their tax rates. It is important to remember we have excellent infrastructure and workers and want to build on those advantages. And doing so means that we don't always have to match exactly what other countries are doing and there is room for constructive engagement with other countries.


Ben Sasse (R-NE): What is your view on inversions pre- and post-2017? I think they stopped.

Clausing: I think there is evidence that late-Obama era regulations stopped large inversions. We don't want to engage in a race to the bottom in this area. Working with our partners abroad we should be able to tackle tax competition pressures while making sure we can make investments at home.


Sasse: Would you be comfortable going back to the pre-2017 tax system?

Clausing: Companies were successful before and after the TCJA, but no one is suggesting going back; rather, we should be making changes to current law that don't encourage offshoring or profit-shifting.

Hines: No one wants us to return to the pre-2017 tax system. When it comes to inversions, clearly the TCJA put the end to inversions. We also need to keep in mind invisible inversions that take place around the world, where if US companies are not competitive, we miss out on foreign business activity.


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