Under current U.S. tax law, corporations are allowed to defer paying taxes on their overseas profits, resulting in lost revenue for the federal government of up to $10 billion per year. President Obama has proposed doing away with this policy, somewhat, by restricting the use of tax credits until corporations bring those overseas profits back to the U.S. and pay taxes on them.
However, a slew of corporations have, for years, been pushing for the U.S. to adopt what’s known as a “territorial” system for corporate taxation instead. Under such a system, U.S. corporations would never have to pay taxes on profits earned overseas. House Republicans have embraced the idea, as did Mitt Romney during his unsuccessful presidential campaign.
But the Congressional Budget Office is out with a new warning about adopting such a system:
Alternatively, the United States could move toward a territorial system — for example, by exempting some income earned abroad from U.S. taxation or by taxing domestic income only but using a formula that considered the location of a company’s activities to determine the sources of its income. Such policies could result in a less efficient allocation of resources among countries by increasing incentives to shift business operations and reported income to countries with lower tax rates.
While it, too, has its problems, “eliminating deferral entirely would boost U.S. tax revenues by more than $100 billion over a 10-year period.”
As the Center for American Progress’ Seth Hanlon noted, “Deferral provides tax incentives for overseas investments. In fact, it encourages U.S. companies to make job-creating investments off shore even if similar investments in the United States (absent tax considerations) would be more profitable.” Economist Martin Sullivan wrote that “U.S. tax law provides a large tax advantage for building and moving factories to low-tax countries.” And adopting the GOP’s desired shift to a territorial system would make the problem worse.