August 4, 2017
Senior Policy Analyst
August 4, 2017
During the presidential campaign, Donald Trump called out companies engaging in corporate inversions saying that one proposed inversion was “disgusting” and that “politicians should be ashamed” for allowing it to happen. Despite this rhetoric, the Trump Administration is considering rolling back critical anti-inversion rules as part of its broad regulatory review of recently issued Treasury Department regulations.
In April, President Trump issued Executive Order 13789, which called for a review of all tax regulations issued since the beginning of 2016. The executive order was followed by a notice in July listing eight regulations for review and possible elimination, including the recently finalized regulations under Section 385 targeting a key incentive for inversion.
In response to the notice, Alan Essig, executive director of the Institute on Taxation and Economic Policy, explained in a comment letter why eliminating the regulation would be a colossal mistake. The regulations target a tax avoidance practice called earnings stripping wherein foreign multinationals load their U.S. subsidiaries with excessive debt, which allows them to shift profits out of the United States into low- or zero-tax jurisdictions through interest payments on the loans. The Section 385 regulations curb this practice by treating certain sham debt transactions as equity, which means the cost of these loans would no longer be deductible for tax purposes.
Allowing earnings stripping by foreign multinationals to once again go unchecked will provide a huge incentive for U.S. companies to become foreign for tax purposes using the corporate inversion loophole. Rules in the tax code do not allow U.S. corporations to engage in this kind of tax avoidance. So to engage in earnings stripping like foreign corporations, many U.S. companies have attempted to invert, meaning they would merge with a smaller foreign company and claim that the resulting entity is a foreign one, even as they continued to be largely owned, operated, and managed inside the United States.
Reversing the Section 385 regulations risks a return to the trend of major companies taking advantage of the corporate inversion loophole. In fact, the Treasury Department estimated that the regulations would raise $7.4 billion in revenue in the coming decade, which means their reversal would lose as much revenue from additional tax avoidance.
Rather than reverse course on these regulations, policymakers should pass legislation further cracking down on corporate inversions. For example, Congress should pass Sen. Dick Durbin’s recently introduced Stop Corporate Inversions Act, a bill that would block corporations from recharacterizing themselves as foreign companies after a merger if the majority of their ownership is unchanged or they are managed and operated in the U.S. Similarly, Congress should pass the Corporate EXIT Fairness Act, which would require companies to pay the taxes they owe on offshore earnings before expatriating. Combined with the curb on earnings stripping, the passage of these pieces of legislation would put a final stop to the corporate inversions that Trump used to find so disgusting.