By Ted Howard
International Treasurer’s coverage of corporate taxes 20 years ago shows IRS challenges are an ongoing issue.
The challenges of creating and maintaining a sound corporate tax policy have been with corporate finance for years; and International Treasurer has been covering it since its early days. Back in 1998 International Treasurer asked the question: “What is legitimate tax planning and what is abusive?” It’s a question many are still asking in 2014, as a number of US multinationals are taking what some would consider drastic measures to save on taxes and that while legal, might also be considered abusive.
One of those companies is Pfizer. In late April 2014, the big US pharma announced a bid for the UK’s AstraZeneca which, while potentially boosting Pfizer’s drug pipeline, would also offer the opportunity to save hundreds of millions in taxes. In its statement, Pfizer said the combination would create operational and financial synergies, notably in taxes:
“Pfizer believes that synergies would be achieved through the combination of the two companies’ operations and that the combination would enable greater capital efficiency and a more efficient tax structure. In particular, the currently contemplated structure under a new U.K.-incorporated holding company would not subject AstraZeneca’s non-U.S. profits to U.S. tax, which would be in the best interests of the combined company’s shareholders.”
Pfizer looks to be following the “inversion transaction” route, whereby a US company buys a foreign company then redomiciles in the takeover company’s (lower-tax) country or another popular, tax-friendly destination like Ireland. These kinds of deals have been getting lots of attention in Congress; however, as it doesn’t look like it will act anytime soon, it might be the IRS that comes up with a way to block them.
That’s what the IRS did in the late 1990s when it tried to crack down on two issues: foreign tax credits and hybrid branch structures. The IRS at the time felt that companies were taking advantage of legitimate rules to avoid taxes.
“Treasury and the Internal Revenue Service understand that certain U.S. taxpayers … have entered into or may be considering a variety of abusive tax motivated transactions with a purpose of acquiring or generating foreign tax credits that can be used to shelter low-taxed foreign-source income from residual U.S. tax,” the IRS wrote in its 98-5 proposal.
“The IRS has been taking issue with structures that are technically legal but in practice violate the spirit of the law,” we wrote in “Two Notices, One Chilling Effect” (February 16, 1998). The IRS’s 98-5 was eventually withdrawn, while the IRS and the US Treasury are still trying to crack down on hybrid entities today. At the crux of the latter is something that’s as true today as it was back then: the bulk of company profits are made internationally and a tax-hungry Uncle Sam wants a piece of it.
“US companies are earning more of their money overseas,” we wrote in 1998, “hence the IRS is looking to ensure it does not lose its share of the global ‘now you see it, now you don’t’ corporate tax base. The IRS is also cooperating with foreign authorities in developed nations, all of which have realized that with investment tax breaks disappearing no one benefits from the old ‘beggar thy neighbor’ attitude.”
But these were just a couple of the IRS’s attempts to claim abuse and, in some cases, prevent tax revenue from slipping away. “There’s a Global Tax War Going On,” we headlined one story in July 24, 1995, in an article on transfer pricing enforcement. A cross-border leasing technique, hedging, and entity classification rules and legal entity structures all were targets.
Many of these were brought on by an event that piqued the interest of (read, “angered”) the IRS. Which all goes to show that when multinational corporations zig, tax authorities tend to zag; so expect a response of some kind to Pfizer’s latest move (along with similar moves by Chiquita, possibly Wallgreen’s/Boots, Valeant/Allergan and others).