In the first hearing on tax reform since the “Big Six” released their framework last week, the Senate Finance Committee focused on international tax reform. The academics invited to testify criticized the framework proposal, which combines elements of a territorial system and a minimum tax, and took the opportunity to advocate their own proposals for international tax reform. While Chairman Hatch (R-UT) expressed support for a move to a territorial regime, Ranking Member Wyden (D-OR) characterized the framework as a “corporate wish list.”
Professor Itai Grinberg voiced a full-throated defense of a territorial system, arguing that the current U.S. system (and any worldwide system) favors foreign multinationals over U.S. multinationals and reduces economic opportunity in the United States. He also advocates reducing the corporate tax rate as much as possible and adopting a VAT as an alternative revenue source. Professor Bret Wells also supports adoption of a territorial regime, with base protection measures, on the grounds of competitiveness. Professor Kimberly Clausing (who advocates a carbon tax as an alternative revenue source) and Stephen Shay, however, do not endorse adoption of a territorial regime, and their testimony challenges the proposition that U.S. corporations are overtaxed or are non-competitive as a consequence of U.S. tax rules.
Earning Stripping. The witnesses were asked to comment on the type of measures needed to level the playing field between U.S. headed and foreign headed multinationals, as contemplated by the ‘Big Six” framework. Professor Wells’ testimony focuses on earning stripping as the policy problem, addressing the fact that foreign headed multinationals have access to earning stripping techniques not available to U.S. headed multinationals. Professor Wells advocates earning stripping rules that include a base protecting surtax, applied to the payor in earning stripping transactions. Professor Grinberg’s testimony addresses structural features of U.S. tax law that create relative tax advantages that benefit foreign multinationals, including the treatment of royalty and interest income under subpart F and generally opportunities for earning stripping available to foreign headed multinationals but not U.S. headed multinationals.
Minimum Tax. Professor Grinberg’s testimony criticizes the proposal to adopt a minimum tax as the focus of an anti-base erosion regime, especially if that will be subpart F-based, noting that such a system produces an incentive for the payment of foreign taxes relative to U.S. taxes, and would likely further encourage moves out of the United States. If a minimum tax were adopted, Professor Grinberg believes that the rate should be set as low as possible, provide for foreign tax credit haircuts, and be paired with an inbound corporate minimum tax. He also suggests that the incentive to pay foreign taxes could be further mitigated by adopting a form of corporate integration that passes the benefit of only U.S. taxes paid by U.S. multinationals through to taxable U.S. shareholders
Stephen Shay does not advocate a territorial approach, but if a territorial approach is adopted, he believes that it should be accompanied by a minimum tax regime that does not allow deferral, that is applied country-by-country and that is set at a rate that is no less than 60% and preferably 80% of the regular U.S. tax rate. He would also limit foreign tax credits and cross-crediting.
Retaining World-Wide Taxation. In his testimony, Stephen Shay advocates retaining world-wide taxation, ending deferral and strengthening U.S. source taxation rules, in particular through improved earning stripping rules. He expresses concerns that adoption of a territorial system with weak protections would leave the U.S. tax system worse off than under current law. As noted above, his testimony also offers ideas for the structure of a minimum tax to accompany a territorial approach. As to the particulars of a dividend exemption approach to territoriality, he would exempt only dividends paid out of foreign-source active business income that has borne a meaningful tax. His testimony also encourages the Committee to consider measures to strengthen the U.S. corporate residence rules, for example by defining as a U.S. tax resident any corporation that is 50% controlled by U.S. tax residents.
Professor Clausing likewise advocates retaining world-wide taxation, eliminating deferral and adopting other measures to protect the corporate tax base as a source of revenue. Her testimony also criticizes the proposal to apply a low rate of tax to deemed repatriation of profits as a transition to a new regime in light of the windfall effects of a low tax on deemed repatriation of profits that have already been earned, as well as the proposal to tax individuals, corporations and pass-throughs at different rates, citing as a tax policy ideal taxing all income at the same rate.
The pamphlet on international tax reform that the Joint Committee on Taxation released in advance of the hearing can be found here.