Repatriation Holiday Part II (update #2)

Last week, I blogged here and here about a proposed tax break that would encourage U.S. multinationals to repatriate cash to the United States.

Today, the New York Times jumped on the bandwagon, publishing an article by David Kocieniewski ("Companies Push for Tax Break on Foreign Cash"). (Note: the Kocieniewski article refers to calendar year 2005; although the underlying legislation was enacted in October 2004, most taxpayers brought cash home from their foreign subsidiaries during 2005.)

Although the Kocieniewski article echoes several of my observations, it contains additional color on the 2004 repatriation holiday:

- 800 corporations took advantage of the repatriation holiday

- According to this study by the NBER, they repatriated $312 billion

- An astonishing 92 percent of that money was returned to shareholders in the form of dividends and stock buybacks

- 60 percent of the benefits went to just 15 of the largest U.S. multinationals

- According to Kristin J. Forbes, a professor of economics at MIT’s Sloan School of Management (and a member of President Bush’s council of economic advisers), “[f]or every dollar that was brought back, there were zero cents used for additional capital expenditures, research and development, or hiring and employees wages”

As I mentioned in my original post, Big Pharma was a major beneficiary of the 2004 legislation. The Kocieniewski article explores certain actions by Merck, which used dividends from its foreign subsidiaries to support dividends and stock buybacks while cutting jobs in the United States. Members of Congress, please repeat after me: "cash is fungible ... cash is fungible ... cash is fungible."

I don't fault the large tech or pharmaceutical companies that lobbied for the 2004 legislation. Nor do I fault the U.S. multinationals that brought offshore cash back to the United States at a 5.25% rate. (Compliance with existing tax laws is not "corporate tax avoidance," a topic that I will discuss more extensively in future posts.)

I do assign fault to the Bush administration and the members of Congress (Republican and Democrat) that enacted the 2004 legislation. The 2004 repatriation holiday was bad tax policy. Perhaps it was motivated by "positive" wishful thinking, but it seems to have been motivated by "stick your head in the sand" wishful thinking. Or, more likely, well-timed political donations to grease the Congressional wheels. We don't need a sequel.

I'll conclude this post with by repeating the conclusion from my last post. Any repatriation incentives should be linked to comprehensive income tax reform, not enacted out of desperation to "do something."

Repatriation Holiday Part II (update #1)

Yesterday, I discussed H.R. 1834, the Freedom to Invest Act of 2011. See here for the text of the proposed legislation.

The proposal would "refresh" Section 965 of the Internal Revenue Code, enacted in 2004 to impose a 5.25% tax rate on earnings distributed by a controlled foreign corporation to its U.S. parent.

In today's edition, Tax Notes provides additional color on the wrangling behind the legislative scenes. Representatives Jared Polis (D-Colo.) (bill co-sponsor), Loretta Sanchez (D-Calif.) and Kay Hagan (D-N.C.) argued for the repatriation incentive. Sanchez and Hagan seemed to buy into the Stern theory, discussed yesterday ('we're desperate for government revenue and repatriation can't hurt').

Fortunately, it is not a done deal:

[L]egislators remain mixed on the tax break, with some worrying that the money will not be used to spur job growth. After Congress approved a repatriation holiday as part of the American Job Creation Act of 2004, several corporations brought back billions of dollars but later laid off thousands of workers. Pfizer Inc. repatriated around $37 billion and laid off about 3,500 employees. Ford Motor Co., which repatriated $850 million, let 10,000 people go.

Polis said to make repatriation politically palatable, lawmakers "want to be able to point to a direct, ironclad nexus of job creation." Polis said he supports that so long as it does not interfere with the overall goal of encouraging repatriation.

Is Congress capable of creating "an ironclad nexus of job creation"? Let's not hold our breath on that one.

Tax Notes reports that Dave Camp (R-Mich.), Ways and Means Committee Chair, does not support the proposal. I hope that Chairman Camp stays firm in his resistance to this bad idea for a sequel.

Earlier this year, Senators Ron Wyden (D-Ore.) and Dan Coates (R-Ind.) sponsored broader tax reform legislation (the Bipartisan Tax Fairness and Simplification Act of 2011, see here) which would include a repatriation incentive as a transition to a new tax system. Any repatriation incentives should be linked to comprehensive income tax reform, not enacted out of desperation to "do something."

Repatriation Holiday Part II: The Horror Continues

As the U.S. economy recovers from the Great Recession, U.S.-based multinationals continue to build large cash balances offshore. Some U.S. pundits and politicians view the offshore cash as a "holy grail" of economic stimulus. They propose a sequel to the "repatriation holiday" that Congress enacted in 2004. From a policy perspective, the original act was a bust. Let's hope that reason prevails, and Congress doesn't release the sequel.

(This will be a relatively short blog on a complicated topic that requires further elaboration.)

Tonight on CNBC, Larry Kudlow discussed a proposed repatriation holiday with Andy Stern, Former SEIU President, and Bob Lutz, Former Vice Chairman of General Motors. Interestingly, Stern -- a national Democratic figure -- argued in favor of a repatriation holiday, while Lutz -- a career industrialist -- argued against a repatriation holiday.

Stern's basic argument for a repatriation tax holiday is that 'it can't hurt to flow a trillion dollars back into the United States from offshore balance sheets.' He favors a holiday now because (i) it will probably create some U.S. jobs directly, (ii) it will help some multinationals shore up underfunded U.S. pension plans, and (iii) although much of the cash may be used for dividends and share buybacks, some of the dividends/buybacks will be taxable, increasing tax revenue to desperate federal, state and local governments.

Lutz argued that the 2004 holiday failed to stimulate the economy or create jobs. Moreover, Lutz noted that the 'trillion dollar' figure is an exaggeration. On that point, Lutz emphasized that the "strings attached" to a tax holiday would deter many corporate executives from repatriating cash. (A current proposal, H.R. 1834, would effectively penalize corporations that repatriate cash without maintaining existing U.S. employee headcounts.)

I'm on Lutz's side of this policy debate. The 2004 holiday was a total bust. Two points escaped policymakers in 2004:

First, cash is fungible. Although multinationals repatriated cash to the United States, they did not use the "offshore cash" to expand their U.S. business activities. They shored up pensions, and they increased dividends/buybacks, but those uses of cash did not have a stimulative impact on the overall economy. (Technically, a multinational that repatriated cash was required to implement a "domestic reinvestment plan" or "DRIP" to document use of the cash within the United States. Economic analysis suggests that the DRIPs were droops.)

Second, a huge amount of offshore cash was (and is) controlled by multinational tech and pharma companies (think Cisco, Microsoft, Pfizer). Although the tech and pharma industries are robust engines of growth, they have low external leverage ratios and are not cash constrained in the United States. If they want to build factories or hire employees, they have existing sources of financing to achieve those objectives.

Unlike the tech and pharma industries, America's small- and mid-size business managers are not sitting on buckets of offshore cash. Another repatriation holiday may have some indirect benefits for these businesses, but no direct benefits. It's simply not the "holy grail" that its advocates would suggest.

We need fundamental corporate income tax reform, including lower tax rates on all business income. A tax holiday would make reform more difficult, because repatriation is a significant lever in the overall policy debate. Let's hope Congress leaves the sequel to 2004 on the cutting room floor.