By Berkeley Research Group
Eric Drabkin, Ken Serwin and Laura Tyson of the Berkeley Research Group (BRG) have released a report that examines the likely effects of a change in the US corporate tax system from the current worldwide system to a new hybrid system similar to the territorial systems used by other developed countries. The study concludes that such a change will increase the repatriation of foreign earnings by US multinational companies, will enhance the global competitiveness of many of these companies, will increase corporate tax revenues at least in the short run, and will generate economic growth and jobs in the United States.
Key Findings:
- The change to a hybrid territorial system will reduce the “lock-out” effect of the current worldwide system on the active foreign source earnings of US multinational companies and will increase the repatriation of these earnings to the United States. The increase in repatriated earnings that would otherwise be held abroad in the current system will boost economic activity and job creation in the US.
- The foreign subsidiaries of US multinationals currently report about $2 trillion of accumulated foreign earnings as indefinitely reinvested abroad. The study assumes that the change to a hybrid territorial system would be accompanied by a transition plan comparable to that proposed by Representative David Camp. Based on this assumption, the study predicts that US companies will repatriate about $1 trillion of these earnings that would otherwise be deferred and held abroad indefinitely. This increase in repatriations, in turn, will increase investment spending directly by some repatriating firms and will increase consumption spending by shareholders. Together these increases in spending will increase US GDP by at least $208 billion and will create at least 1.46 million jobs.
- The change to a hybrid territorial system will increase repatriation of future foreign earnings by an estimated $114 billion per year, and the resulting increase in spending will increase US GDP by $22 billion annually and create 154,000 new jobs on a sustained basis.
- The change to a hybrid territorial system would enhance the global competitiveness of many US multinational companies. The effects will vary among companies depending on their ability to defer repatriation of foreign income and their ability to use excess foreign tax credits to shield foreign royalty income in the current system. The change will enhance the competitiveness of companies that have limited access to capital markets and cannot indefinitely defer their foreign earnings abroad in the current system. Companies that have ready access to capital markets would we be able to adopt a more efficient capital structure; however, the loss of foreign tax credits may offset the efficiency gains for some of these companies.
- The change to a hybrid territorial system will increase corporate tax revenues in the short run. The size of the increase will depend on the tax imposed on the current stock of accumulated foreign earnings held abroad by US companies. Assuming a transition tax plan for these earnings comparable to the one proposed by Representative David Camp, the study finds that the transition plan will result in a short-term increase in corporate tax revenues of $80 billion. Additionally, $17 billion in new taxes are expected in the first year following the implementation of the new tax system from additional repatriation flows and on royalty income flows that are shielded from tax in the current system through excess foreign tax credits.
- Under the current system, many US companies have an incentive to shift taxable income from their US operations to lower-tax foreign locations, and this incentive has become stronger over time as foreign corporate tax rates have declined. On balance, a change to a hybrid territorial system will increase the incentive for some companies to shift taxable income abroad to lower-tax jurisdictions, and this is likely to reduce corporate tax revenues over time. The study concludes that the magnitude of the additional income shifting in a hybrid territorial system is not likely to reduce corporate tax revenues significantly over time.
- The study challenges the belief that a change to a hybrid territorial system will cause US companies to move additional jobs offshore for tax reasons. The study distinguishes between income shifting by US companies to lower tax foreign jurisdictions through transfer pricing and the relocation of intellectual property assets—referred to as “IP shifting”– and income shifting through the movement of real productive activities—referred to as “job shifting.” Both IP shifting and job shifting are sensitive to differences between US and foreign corporate tax rates. But while the gap between the US corporate tax rate and foreign corporate tax rates is the primary reason for IP shifting, non-tax factors including the access to foreign customers and the availability of lower-cost inputs are the primary reasons for job shifting. A change to a hybrid territorial system will not affect these factors. The study finds that while such a change is likely to encourage additional IP shifting over time, it is not likely to result in a material increase in job shifting compared to the current worldwide system.
- Many countries with both worldwide and territorial systems have policies to discourage income shifting. A change to a territorial tax system in the US may be accompanied by additional anti-base erosion measures, such as proposed by Chairman Camp.
The full report can be found here.