It’s been a year-and-a-half since the Tax Cuts and Jobs Act (TCJA) was signed by President Trump. Critics have sniped at it in the intervening time, and the House Ways and Means Committee is preparing to review the full legislation.
But now that the nonpartisan Congressional Research Service (CRS) has run the numbers, it’s clear that the TCJA needs some improvement.
According to the CRS analysis of the TCJA, the widely touted repatriation tax breaks for multinational companies did increase stock buybacks. But they didn’t significantly reshore much production to the U.S.
What this tells us is that, while the TCJA’s international provisions were an improvement on the previous tax system, companies that manufacture in the U.S. still aren’t reaping the hoped-for gains.
So, the TCJA needs to ensure that domestic U.S. businesses don’t continue to pay a higher tax rate than foreign companies and those with foreign subsidiaries.
Essentially, this comes down to fairness. In 2018, 60 Fortune 500 companies paid no taxes on a total of $79 billion in profits. That means multinational entities are still managing to avoid paying the taxes that domestic companies continue to shoulder.
Why is this happening? The new quasi-territorial tax system established under the TCJA allows large, transnational firms to make money from selling to U.S. consumers. But by using well-established tax tricks, they can make it appear that their profits occurred in tax-haven nations.
Tax experts call this “profit shifting.” And Americans are painfully aware of how it works. A corporation may earn millions of dollars in profits on its sales in the U.S.. But that tax obligation is “shifted” to subsidiary shell companies in the Bahamas or the Cayman Islands.
Realistically, these intermediary entities have no meaningful connection to the final sale in the U.S. But they accomplish their primary purpose — avoiding U.S. corporate tax obligations. And that leaves domestic companies paying the bill.
What’s particularly unfortunate is that domestic corporations employing U.S. workers can’t shop for a better tax rate in the same way. They don’t have the financial resources or sophistication to avoid tax obligations. And so they invariably pay disproportionately more taxes on the profits from their sales in the U.S.
The TCJA did attempt to address tax avoidance through complex provisions with wonky alphabetical descriptions like GILTI, BEAT and FDII. And these provisions were an effort to prevent some multinationals from stripping profits out of the U.S. — but only in extreme cases.
We now know that GILTI, BEAT and FDII are less effective than promised. GILTI offers a complicated sliding scale tax reduction on the corporate profits that foreign subsidiaries claim and is dependent on foreign tax credits.
FDII is an ineffective subsidy for intangible property. And the universally unpopular BEAT is a minimum tax on big corporations that allows an arbitrary amount of tax avoidance.
Overall, these provisions tightened penalties on “inversions,” a tactic where American companies move their headquarters overseas to a low-tax country. But they didn’t end the advantages that foreign companies enjoy compared to domestic American companies. And so, many multinational companies still manage to reach a 0-percent tax rate.
For years, America’s businesses have been promised a more equitable, straightforward tax system. To be truly fair, however, any corporate profits earned from sales in the U.S. market should be taxed at effectively the same rate for all.
Congress should adopt a system known as Sales Factor Apportionment (SFA). Any company that wishes to sell in the U.S. market would pay the profits earned on their final sales in the United States. It’s a very simple approach since it disregards the “residence” of the company and does not allow for profit-shifting to tax havens.
Now that Congress is revisiting the TCJA, it’s imperative that companies producing in America be treated fairly —without tax discrimination and the loss of competitiveness that goes with it.
Domestic U.S. businesses urgently need a Sales Factor Apportionment system to gain a more level footing against multinational competitors. And so, if Congress wants to fix the TCJA — and create jobs at home — this should be their first step.
David Morse is tax policy associate director at the Coalition for a Prosperous America (CPA).