Stimulus of $1 Trillion Adds Nothing to Deficit: Frank Aquila
Imagine if American companies could add more than $1 trillion to their domestic coffers in an instant without selling a subsidiary, issuing a single share or incurring a penny of debt.
While every company would no doubt use this cash differently, the windfall could fund a return of capital to shareholders through increased dividends and share buybacks. Or it could be used to repay debt, fund capital expenditures or make strategic acquisitions.
How the companies would deploy the money doesn’t matter. The important thing is that the cash would be put to work. So why hasn’t this already happened?
The answer is clear: U.S. tax policies penalize the repatriation of so-called foreign-source income, essentially the profits earned by foreign subsidiaries of American corporations. This cash pile isn’t being hoarded or held on the sidelines, as many pundits have suggested; rather, it is being kept offshore by our own tax structure.
Unlike most countries, the U.S. taxes the profits earned overseas by its corporations. The federal tax code then defers the tax on the non-domestic profits until the corporation brings those profits into the U.S. Since repatriating these profits means incurring a tax of as much as 35 percent, most overseas profits remain offshore.
Given the weak economy and the debate over the need for additional stimulus and further quantitative easing by the Federal Reserve, bringing home hundreds of billions, possibly trillions, of dollars should be a priority. Although most companies would retain some overseas cash for their non-U.S. operations, clearly most companies have far more cash abroad than is needed.
Repatriation on such a scale would in effect be the largest economic stimulus ever. Not only would the cash go right where it is needed the most -- the private sector -- but it wouldn’t add a single dollar to the federal budget deficit. Actually, the economic growth created through the use of this cash would generate billions in additional tax revenue.
Most successful U.S. multinational companies face the dilemma: Keep the cash overseas or bring the profits home and pay the tax bill.
This isn’t a merely theoretical debate about tax policy. Last month Microsoft Corp. said it would sell as much as $6 billion in debt to fund dividend payments even though it has about $37 billion in cash and short-term investments on its books. Since most of its cash is overseas, borrowing makes better economic sense because the cost of borrowing is far lower than the tax.
Cash on Sidelines
Microsoft isn’t alone. Cisco Systems Inc., whose Chief Executive Officer John Chambers is a vocal critic of U.S. tax policy, has an estimated $30 billion in cash outside the U.S. Dell Inc., HewlettPackard Co., International Business Machines Corp. and Intel Corp. are other leading tech companies with significant cash overseas. Pharmaceutical giants Johnson & Johnson, Merck & Co., and Pfizer Inc. also have billions in un- repatriated foreign profits.
A tax holiday on returning overseas cash isn’t without precedent. In 2004, the Homeland Investment Act reduced the tax rate on these profits to 5.25 percent from 35 percent. Granted a lower tax rate, U.S. corporations responded by shipping back an estimated $315 billion in 2004.
Critics of any reduction in taxes on repatriated overseas profits, even a temporary one, argue that to do so would be rewarding companies for outsourcing U.S. jobs. Not surprisingly, labor unions and their allies are the leading opponents of a tax holiday. In their view, overseas profits should be subject to U.S. tax even if those profits are never repatriated.
President Barack Obama supports that position. The current tax provisions provide a loophole that “has actually given billions of dollars in tax breaks that encourage companies to create jobs and profits in other countries,” according to the president. Key members of Congress agree with the president.
This rhetoric is fueled by a broad mischaracterization of the purpose and effect of international growth and investment by U.S. companies. Unions and their allies in Congress see all such moves as simply outsourcing American jobs.
While that may be the case in a small percentage of situations, the reality is different. Rather than weaken the economy, successful multinational companies have been engines of growth. As Harvard Business School professor Mihir Desai has noted, when U.S. businesses “expand abroad they expand at home.”
Companies that prosper internationally expand their research, development, management, human resources, information technology, marketing and financial teams, and most of those new jobs wind up right here in the U.S.
In fairness, not all labor leaders oppose lower taxes on repatriation of overseas profits. Andy Stern, president emeritus of the Service Employees International Union, has proposed cutting the tax on repatriated overseas profits to 5.25 percent. There’s a big string attached: The tax revenue raised would fund programs designed to create jobs in the U.S.
Others who oppose a tax holiday point to a study by the National Bureau of Economic Research that showed a large percentage of the funds repatriated in 2004 were used for dividends and share buybacks.
While those findings are probably accurate, this misses the point. Pumping new cash into the economy will have a positive impact. Even if companies simply return the capital to their shareholders, that is a positive outcome since investors will either spend the cash or reinvest it.
Former Clinton Undersecretary of Commerce Robert J. Shapiro agrees, concluding that “the repatriation of overseas profits would certainly be in the economy’s interest.”
Amid a stagnant economy, high unemployment, and ballooning federal and state budget deficits, Congress and the president need to eliminate or sharply reduce the taxes on the repatriation of profits earned around the world.
With an era of slow growth here and rapid expansion in China, India and Brazil, our tax policy needs to recognize that an increasing share of corporate profits will be earned outside the country. U.S. tax policy should create incentives for companies to seek growth and expansion around the world, wherever and whenever those opportunities arise -- the sooner, the better.
(Frank Aquila is a partner at the law firm Sullivan & Cromwell. A version of this column appears on BusinessWeek.com. The opinions expressed are his own.)
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