Mr. President, I’d like to discuss one of the sources of revenue that the Chairman of the Budget
Committee claims will help offset the five-year $916 billion cost of extending existing tax policy:
shutting down offshore tax havens.
I have been aggressive in combating abusive tax shelters, offshore or otherwise. As Chairman of the
Finance Committee, I worked hard to shut down offshore tax evasion. The 2004 JOBS bill shut
down the tax benefits for companies that enter into corporate inversion transactions and abusive
domestic and cross-border leasing transactions. The JOBS bill also contained a package of 21 anti-
tax shelter provisions.
As Ranking Member of the Finance Committee, I saw to it that the minimum wage/small business
tax relief package also contained anti-tax loophole provisions, including shutting off tax benefits for
corporations that inverted after Senator Baucus and I issued a public warning that legislation would
stop these deals, shutting off tax benefits from abusive foreign leasing transactions that weren’t
caught by the JOBS bill, and doubling penalties and interest for offshore financial arrangements. But
the Democratic Chairman of the Ways and Means committee doesn’t appear to be supportive of
these provisions, even though he voted for many of them in the public JOBS conference in 2004.
So having studied these issues and legislated in this area, I consider my views on tax policy directed
at tax shelters and tax havens to be credible. From what I can tell, the Chairman of the Budget
committee views the problem of offshore tax havens in two categories: (1) the ability of U.S.
multinationals to shift income to these tax havens; and (2) tax evasion by U.S. individuals who hide
assets and income in tax havens.
We have seen Democratic senators, including the Chairman of the Budget Committee, hold up a
picture of the Ugland House, a law firm’s office building in the Cayman Islands, as home to 12,748
corporations. I’d like to give senators some background on where that picture comes from, and what
issue it is aimed at.
That picture comes from an article published in Bloomberg Markets in August 2004, titled “The
$150 Billion Shell Game". The article focused on the ability of U.S. multinationals to shift income to low-tax jurisdictions through transfer pricing. Transfer pricing is the term for how affiliated
corporations set the prices for transactions between them. Transfer pricing is important, because it
determines how much profit is subject to tax in the different jurisdictions involved in related party
transactions. The $150 billion figure is an academic’s estimate of the annual amount of profit that
corporations shift outside the U.S. with improper transfer pricing.
So this article is aimed at U.S. corporations who artificially shift their income to low tax
jurisdictions through improper transfer pricing practices. To illustrate this point, I’ve reproduced a
few quotes from the article. The first one says: “Under U.S. law, U.S. companies can use Cayman
subsidiaries and transfer pricing rules to shift sales and profits from other countries, thus reducing
their overall tax burden." The second one the author attributes to Senator Dorgan: “A practice called
transfer pricing may be the key to how U.S. corporations avoid taxes in the U.S. and other
countries."
One of the Democrats’ revenue raisers that is still on the shelf purports to target this transfer pricing
problem. But you wouldn’t know it by looking at the language of the proposal, because it doesn’t
make any changes to our transfer pricing rules. Instead, the proposal would eliminate deferral for
income of any US multinational’s foreign subsidiaries incorporated in certain black-listed
jurisdictions. It’s called the tax haven CFC proposal.
Part of our tax code since 1918, deferral means that US multinationals do not pay tax on the active
income of their foreign subsidiaries until that income is repatriated to the US. Passive income is
subject to tax on a current basis. Deferral only applies to active income.
I agree with the premise of this proposal that U.S. multinationals should pay their fair share of U.S.
taxes. U.S. multinationals that use improper transfer pricing do so to obtain the benefit of deferral
on profits that, economically, should be subject to tax in the U.S. on a current basis. Here is my
quote from this Bloomberg article: “We have to get on top of corporate accounting and manipulation
of corporate books for the sole purpose of reducing taxes."
So my view is that stronger transfer pricing rules and stronger enforcement of those rules is the right
way to target this problem in our current international tax system. The IRS is taking steps to tighten
our transfer pricing rules. In 2005, the IRS proposed regulations that would overhaul the rules for
so-called cost sharing arrangements. These are arrangements by which U.S. multinationals are able
to transfer intangible property to subsidiaries in low-tax jurisdictions. Based on the volume of
complaining I’ve seen lobbyists level at Treasury and the IRS, the proposed IRS regulations would
go a long way to prevent artificial income shifting. I hope to see these regulations finalized soon.
Others have a different view. They would eliminate deferral all together. Another quote in the
Bloomberg article succinctly states this view. This is a quote from Jason Furman, former aide to
Senator Kerry: “American companies should pay taxes on their profits in the same way whether they
earn them in Bangalore or Buffalo."
So that’s where these proposals to eliminate or curtail deferral on a piecemeal basis are headed - the
complete elimination of deferral for U.S. multinationals. Without a significant corporate tax rate
reduction, eliminating deferral would have the effect of exporting our high tax rates and putting US multinationals at a competitive disadvantage in the global marketplace. The Senate is on record as
wanting to protect the competitiveness of U.S. businesses in the global marketplace. The Senate
passed the American Jobs Creation Act in 2004, which contained several international simplification
provisions, with the vote of 69 Senators, including 24 Democrats. The Senate version of the JOBS
bill, which also contained these provisions, received the vote of 92 Senators, including 44
Democrats.
There has been a longstanding debate about whether our international tax system should be
fundamentally changed. Some advocate for taxing all foreign income on a current basis. Others
argue for completely exempting active foreign income under a territorial system, as many of our
trading partners do. If we want to have that debate, then it’s a fair debate to have. But piecemeal
cutbacks on deferral for active foreign income would do nothing but complicate the tax code and
create opportunities for tax planning around those cutbacks.
The other offshore issue identified by the Chairman of the Budget committee is U.S. tax evasion by
individual taxpayers who hide their assets and income in foreign bank accounts and foreign
corporations. Since 1913, our tax code has subjected U.S. citizens to tax on their worldwide income.
No matter what the internet purveyors of tax evasion say, this principle cannot be avoided by putting
passive assets and income into a foreign corporation. The tax code has rules to prevent this.
Taxpayers that willingly violate these rules are guilty of tax fraud, in many cases, criminal tax fraud.
So the problem of offshore tax evasion isn’t that our laws permit it. The problem is that there are
some taxpayers who are intent on cheating and hiding their income from the IRS. The IRS has been
successful in catching many of these tax cheats, but more can be done.
The IRS has difficulty detecting tax evasion and obtaining the information necessary to enforce our
laws. One important tool for the IRS is information exchange with other jurisdictions. Our double
tax treaties contain an article on information exchange designed to help the IRS obtain quality
information to enforce our tax laws. In addition, administrations past and present have entered into
over 20 tax information exchange agreements with jurisdictions that are often referred to as tax
havens. Sensible solutions to this problem should aim to improve on our tax information exchange
network, and not put it at risk.
Underreported income is the largest piece of the tax gap. We should keep in mind that hiding assets
and income from the IRS isn’t just an offshore tax haven problem. It may also be an on-shore
problem. A recent article in the USA Today noted that there is “a thriving mini-industry that has
capitalized on real or perceived gaps in domestic incorporation laws and virtually non-existent
government oversight to promote some U.S. states as secrecy rivals of offshore havens."
The picture of the Ugland House in the Cayman Islands makes for good grandstanding, but there are
also office buildings in some states that are listed as addresses for thousands of companies who are
incorporated in those states for similar reasons as those incorporated in the Caymans - secrecy of
ownership and a permissive regulatory environment. Whatever additional solutions the Finance
Committee comes up with to shine sunlight on tax evaders will need to consider both offshore and
onshore evasion.
To conclude, I want to empha that I’m all for shutting off inappropriate tax benefits from
offshore arrangements. The Chairman has said that he thinks we could get $100 billion a year from
this source. I haven’t seen any proposals scored by the Joint Committee on Taxation that come close
to bringing in this kind of money. The last score I’ve seen for the tax haven CFC proposal is $7.7
billion over 5 years. Senators Levin, Coleman, and Obama have recently introduced a bill that
contains several proposals aimed at offshore tax havens, but I haven’t seen a JCT score yet.
So once again, it will be the Finance Committee’s responsibility to come up with real, sensible,
effective proposals to combat offshore and onshore tax evasion, which I am glad to do. But the
likelihood that they will be scored by JCT to bring in the kind of money assumed in this budget
resolution is remote, at best.
