Inversion Watch

Clinton Targets 'Earnings Stripping' by Corporate Tax Avoiders

Clinton Vows Executive Action to Stop Earnings Stripping

Democratic presidential candidate Hillary Clinton on Wednesday urged Congress to take action against companies that avoid taxes by shifting their debt to American soil while moving profit overseas, a technique known as earnings stripping, and said that if they don’t, the Treasury Department should crack down with new rules.

Clinton’s call for action on earnings stripping is part of her broader plan, unveiled Wednesday in Iowa, to stop corporate inversions—the practice of moving a company's tax address by merging with a foreign company—and other corporate strategies for shifting profits overseas to avoid U.S. corporate income taxes.

She is also urging lawmakers to pass an “exit tax” aimed at penalizing U.S. companies that move their tax addresses offshore. Clinton has also called for Congress to raise the threshold of shares that a U.S. company must sell to foreign shareholders in order to shift its tax address overseas from 20 percent to 50 percent.

Inversion, Clinton said at a town hall in Waterloo, is a "technical term for a trick" and earnings stripping is also "a trick."

Clinton’s proposals seize on the widespread attention generated last month when New York-based Pfizer Inc. announced plans to merge with Allergan Plc in a $160 billion deal that would move its tax address to Ireland. Companies that use inversion and other maneuvers "to game the system and leave everybody else holding the bag are just offensive to me," she said.

"Fundamentally, this is not only about fairness. This is about patriotism," Clinton added. "You should pay for what you owe just like everybody else."

The Pfizer-Allergan announcement prompted condemnations from both parties; Republican candidate Donald Trump called the move “disgusting” and said politicians should be “ashamed” for allowing it.

The issue has broad resonance, said Neera Tanden, a close outside policy adviser to Clinton and president of the Center for American Progress. “This is a toxic brew,” she said. “People feel like the game is rigged. Donald Trump and Elizabeth Warren as well as many of politicians in between them tap into that, and it’s hard to think of a better example than a company” shifting its profits overseas.

A Pfizer spokesman didn't immediately respond to a request for comment.

It’s unclear whether the company formed by the Pfizer-Allergan merger would take advantage of earnings stripping, which is one of the main strategies companies use to reduce taxes after an inversion. Here's one way it works: The U.S. subsidiary takes a loan from its new offshore parent. The interest payments back to the parent are deductible in the U.S., where the top corporate is 35 percent. They're income in the foreign country, where the tax rate is lower. (Ireland's is 12.5 percent, for example.)

The Clinton campaign estimates that a crackdown on earnings stripping could bring in about $60 billion in tax revenue over 10 years. That money, the campaign said, would go toward incentivizing companies to bring jobs back to the U.S. and toward supporting small businesses, manufacturing, and research.

The exit tax proposal, meanwhile, would go after the offshore profits that companies have accumulated—if they decide to move their tax address offshore. Under current law, companies pay no U.S. income tax on that profit, provided that they keep it offshore. As of the end of 2014, Pfizer had about $74 billion in such “unremitted earnings of our international subsidiaries.” The Clinton campaign has not yet settled on what the rate of taxation would be.

The ideas that Clinton supports are not new. In September 2014, Democratic Senators Sherrod Brown and Dick Durbin—both of whom have endorsed Clinton—proposed the exit tax concept for companies that decide to invert. Another Senate Democrat, Chuck Schumer, offered up a bill that same month targeting earnings stripping, and the Obama administration has made a similar legislative proposal in its recent budgets.

Republican leaders in Congress have said that corporate taxation issues should be addressed in the larger context of tax reform, in legislation that would include lowering tax rates.

Tackling inversions is “not something that [Clinton] is going to put on hold” until there is broader tax reform, Gene Sperling, an outside economic adviser to Clinton who served in the Bill Clinton and Obama White Houses, said Tuesday on a campaign conference call. “What she is making very clear is she’s not waiting.”

After a rash of inversions, the Treasury Department has announced new rules restricting them twice since September 2014. So far, the rules haven't addressed earnings stripping, which many lawyers say is critical to limiting the tax benefits of inversions, but administration officials indicated as recently as Tuesday that they are still considering taking action on the issue.

Treasury Department officials will “continue to look at ways to make inversion transactions less attractive, and potential earnings-stripping guidance is one of the options,” John Merrick, special counsel to the Internal Revenue Service associate chief counsel, said at a D.C. Bar Association Tax Section forum on Tuesday, Bloomberg BNA reported. Treasury special adviser Brenda Zent said at the same event that if the department were to take action, it could be effective back to Sept. 22, 2014, the day when Treasury and the IRS issued some initial guidance on inversions.

Clinton's exit-tax proposal takes “a pretty hard run at the corporate inversion problem and links it to keeping jobs” in the U.S., said Jared Bernstein, the former top economic adviser to Vice President Joe Biden. “People have criticized the exit tax for not being more than a speed bump,” he said. “Looks to me like it’s a pretty steep speed bump. And what’s wrong with speed bump?”

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