The whopper about global taxation

Jacob Levy, an American professor living in Montreal, made a point on Twitter last week that I wish more journalists would take to heart: If you’re writing about inversions, and you don’t prominently mention global taxation in the first few paragraphs, then your article is not serious and anyone with even a smidgen of actual interest in the issue should stop reading.

Let me explain. Or actually, in the case of Burger King’s planned acquisition of Tim Hortons, let my colleague Matt Levine explain, because he is smarter and funnier and a better writer than I am, and has already nicely summed things up:

“The purpose of an inversion has never been, and never could be, and never will be, ‘Ooh, Canada has a 15 percent tax rate, and the U.S. has a 35 percent tax rate, so we can save 20 points of taxes on all our income by moving.’ Instead the main purpose is always: ‘If we’re incorporated in the U.S., we’ll pay 35 percent taxes on our income in the U.S. and Canada and Mexico and Ireland and Bermuda and the Cayman Islands, but if we’re incorporated in Canada, we’ll pay 35 percent on our income in the U.S. but 15 percent in Canada and 30 percent in Mexico and 12.5 percent in Ireland and zero percent in Bermuda and zero percent in the Cayman Islands.”

What is he talking about? The United States, unlike most developed-world governments, insists on taxing the global income of its citizens and corporations that have U.S. headquarters. And because the U.S. has some of the highest tax rates in the world, especially on corporate income, this amounts to demanding that everyone who got their start here owes us taxes, forever, on anything they earn abroad.

This is a great deal for the U.S. government, which gets to collect income tax even though it’s not providing the companies sewers or roads or courts or no-knock raids on their abodes. On the other hand, it’s not a very good deal for said citizens and corporations, especially because our government has made increasingly obnoxious demands on foreign institutions to help them collect that tax. Both private citizens and corporations who have a lot of income abroad are deciding that they’d rather renounce their ties to the U.S. than deal with the expense and hassle of letting it tap into income that they have earned using some other country’s roads and sewers and police protection.

Practically speaking, global taxation is hard to enforce and loaded with bad incentives, which is why our fellow members of the Organization for Economic Cooperation and Development have moved away from global taxation of corporate income, and abandoned global taxation of personal income. If anything, the U.S. has gone in the other direction — by insisting, for instance, that foreign companies report various financial transactions with U.S. citizens to the Internal Revenue Service, and taxing foreign cost of living allowances, which makes it more expensive for companies to employ expats. On the corporate side, the Obama administration has repeatedly suggested tightening up on tax deferral of foreign income and other credits, which would make it even more expensive to be a corporation based in the U.S.

Logically, there’s also not much of an argument for global taxation. OK, yes, most people born and raised here were educated and provided various services by the government to get them to adulthood. But we’re overwhelmingly the largest net recipient of immigrants, and most of those people were educated and provided various services by their governments to get them to adulthood; we don’t seem to think there’s a problem with us free-riding on all those other nations. And surely there’s a statute of limitation on what you owe the government that raised you; 40 years later, should those expats still have to file insanely complicated returns to the IRS? Because that’s what we currently demand.

The argument is even weaker for corporate taxation; it boils down to “the police kept people from sacking your first headquarters, so therefore you owe us 35 percent of everything you make, forever.” Loan sharks and protection rackets offer more reasonable terms than this.

As my colleague Matt points out, most Americans — including a lot of journalists who write about this — seem to be under the misimpression that companies that invert, or people who renounce their citizenship, are doing so to get a lower tax rate on income they earn here. And in a few intellectual-property-based businesses, which can make aggressive use of transfer pricing strategies to declare most of their income in low- or no-tax countries, these complaints have some basis. In most cases, however, including Burger King, they’re doing it because the U.S. inexplicably insists on taking a big chunk off the top of all their foreign income, and making their lives miserable in the process.

If we’re worried about inversion, then the U.S. government should follow the lead of other developed countries, and move to territorial taxation. Otherwise, we should stop complaining when people and corporations decide that they’d rather be a citizen of some more sane system somewhere else.

Megan McArdle is a Bloomberg View columnist who writes on economics, business and public policy.

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