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Tax inversions- an unsurprising trend

Tax inversions- an unsurprising trend
26 Aug 2014

With a federal tax rate of 35% and an overall rate that can be close to 40% including state and local taxes, the US has the highest corporate tax rate among major world economies. On top of this, unlike many other jurisdictions, US corporations are also taxed on their worldwide income.

This scale of taxation is at odds with a number of other jurisdictions across the globe who are taking steps to make their tax environments more attractive to multinational companies, recognising the investment and employment benefits they bring. It is unsurprising then, that a number of businesses are exploring corporate tax inversions – a transaction whereby a foreign corporation acquires a US company so as to remove non-US business expansion from the reach of the US corporate tax system.

As a result, countries such as Ireland have become popular locations for corporate inversions, where companies benefit from a corporation tax rate of just 12.5% on trading profits and 25% on passive income. The rationale for inversions is not simply on a reduction in the overall corporate tax rate, but also to escape the burden of complex US tax rules that add to compliance costs, such as the controlled foreign corporation (CFC) legislation, and to satisfy longer term business objectives in relation to overseas expansion.

In practice, due to the US anti-inversion legislation, US groups can now only carry out an inversion where both the target and the US parent are acquired by, for example, an Irish holding company. By locating the holding company for the newly enlarged group in Ireland, it is possible for the group to avail of Ireland’s 12.5% corporate tax rate on certain incomes together with numerous other business-friendly legal and taxation measures.

The publicity associated with the US government’s aversion to inversions could be compounding the issue, as we are already seeing evidence that media coverage has sufficiently raised alarms at start-ups, so much so that they are avoiding establishing their parent companies in the US.

The approach of the US on this issue is yet another example of antiquated tax policy which fails to create a pro-business environment. Combined with its approach towards offshore cash, the country is creating an uneven playing field and is losing out to those jurisdictions who recognise the benefits of a forward looking tax policy. If the current policy continues we should expect to see numerous more companies looking to sever ties with the US. Regardless of what happens legislatively, the flare-up around inversions only highlights the impending tax storm which is likely to surround the issue of transfer pricing for intangible assets.

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