Matteo Arena has a decent column in the JS about taxing repatriated profits. He contends…
So, what would a shift toward exempting U.S. multinationals from a repatriation tax mean? In a study forthcoming in the Review of Financial Studies, my colleague and I investigated the repercussions of that switch by examining what happened in Japan and the U.K. after both countries passed similar reforms in 2009.
After looking at a sample of about 2,000 companies over six years, we found that as the repatriation tax was removed, U.K. and Japanese companies did repatriate more profits to their domestic headquarters, sometimes even by cutting foreign investments. However, we did not find any evidence of companies reinvesting this repatriated cash in new factories, facilities or machinery in their home countries. Rather, the profits have been used to increase dividend payments and to buy back more shares to spur the firms’ stock prices.
Our results, along with findings from other studies, suggest that a switch from the current system to one that would effectively eliminate a repatriation tax is likely to have a strong effect on the stock market. This would disproportionately benefit the more affluent segment of the population, which has a greater percentage of its wealth invested in financial assets. However, since such reform is not likely to increase domestic capital investments in property, plants and equipment, its impact on the working class would be minimal in the short term. Income inequality could increase.
A middle-ground solution: Implement a moderate tax on non-repatriated foreign profits while reducing the U.S. statutory tax to 30% or 25%. Combining these measures would reduce the tax burden on domestic firms that cannot park profits abroad and are subject to a punitively high corporate tax rate without negatively impacting tax revenue.
For those who aren’t aware, the issue here is that the United States’ punitive corporate tax burden leads corporations to leave their profits generated in other countries in those countries. This means trillions of dollars of corporate income that is never brought back to the U.S. and is instead used overseas.
Matteo’s research is interesting in that countries that have reformed their tax structure to encourage repatriation have seen companies indeed repatriate their foreign income, but that those profits were generally used for financial transactions designed to improve the companies’ stock value and not invested in hard assets. This, in turn, means that the main beneficiaries of the policy were those invested in those companies and not the common man. Therefore, Matteo advocates a mixed reform that may induce some companies to repatriate some of their foreign profits, but those profits will still be taxed.
What annoys me about Matteo’s logic is that it assumes that taxes are automatically used to benefit the “common man.” Let’s grant that he is correct that repatriated profits will primarily benefit the owners of those corporations. Let’s also grant that not much of that money will be used to buy factories, machinery, or whatever that benefits other sectors of the economy. Why do we assume, then, that taxing those repatriated profits would result in those investments in factories, machinery, or whatever to benefit the larger economy? Why do we assume that sending more taxes to Washington is an antidote to repatriation only “benefiting the rich?” If anything, we have seen that as the federal government has grown over the past few years, the gap between rich and poor has widened and the middle class has been shrinking. Why would sending more money to Washington have a different result?
The solution here is not to make repatriated profits non-taxable. That would encourage corporations to just move all of their profit centers to low-tax countries and then repatriate the profits for free. No, the solution is to lower the overall corporate tax burden. It is the high corporate tax itself that is driving this behavior. Lower it to a more reasonable 10%-15%, tax repatriated profits at the same rate, and watch overall corporate tax collections rise.