New data from the Internal Revenue Service suggests that American corporations controlled by foreigners are now responsible for a larger share of total U.S. corporate assets and earnings than ever before - despite a U.S. corporate tax rate that is among the highest in the world.The most recently released IRS Statistics of Income bulletin revealed that the total receipts of foreign-controlled domestic corporations in 2005 reached $3.5 trillion, which is $450 billion more than in 2004, twice the 1996 level and almost 90 times the level reported in 1971.
These FCDC receipts in 2005 represented 13.7 percent of all U.S. corporate receipts, also an all-time high. Just 10.7 percent of all corporate receipts came from FCDCs in 1996, and just 2.1 percent in 1971. IRS researchers define an FCDC as any domestic corporation in which over 50 percent of the stock is owned by a foreign individual, corporation, partnership, estate or trust.
The asset growth of these types of companies has been even more dramatic. FCDCs reported assets of over $9.2 trillion in 2005, up 15.7 percent from 2004 and more than three times the 1996 level. FCDC assets represented 13.9 percent of all U.S. corporate assets in 2005, another all-time high. FCDC assets made up just 10.6 percent of all corporate assets in 1996 and an even smaller 1.3 percent of total assets in 1971.
The explosion in foreign investment defies the deterrent effect of high U.S. corporate tax rates, which have become less and less competitive over the last two decades, according to Joseph Calianno, a partner in Grant Thornton LLP's National Tax Office and former special counsel to the IRS deputy associate chief counsel.
"Despite the high corporate tax rates, many foreign multinationals recognize the importance of the U.S. market from a global standpoint," he said. "They understand that the business and profit opportunities in the United States often outweigh the tax costs of doing business in the U.S."
Although the data reflect the asset growth in foreign-owned corporations, there is some evidence in the IRS data of a reluctance to enter the U.S. market, according to Calianno. The number of foreign-controlled domestic corporations operating and filing returns in the U.S. has remained largely stagnant for over 10 years, even as total assets and receipts have gone up. With total corporate filings continuing to increase every year, FCDCs now represent a smaller percentage of total domestic corporations than they did in 1996, he observed.
"A real, meaningful reduction in the U.S. corporate tax rate would likely stimulate even greater investment by foreign-based multinationals into U.S. corporations," Calianno said. "Several other countries in recent years have reduced corporate tax rates in an attempt to attract such investment and, for the most part, such measures have been successful."
"The years in the study predate the economic downturn and the change in control of Congress," noted George Pieler, former tax counsel to the Senate Finance Committee. "Given the years it covers, it's not that surprising. The U.S. was leading the global expansion in those years."
"Obviously, we're not competitive in corporate tax rates," he continued. "That said, it's one of many factors that make a country an attractive place to do business."
The U.S. corporate tax rate has changed little since the late 1980s, while countries all over the world have been cutting rates to compete for investment and spur economic growth. The U.S. now has an average combined state and federal corporate rate of almost 40 percent, the second highest, after Japan, among OECD countries.
A rate reduction would also help U.S.-based multinational groups, as long as there is not a corresponding tax cost that essentially wipes out the benefit. Many proposals to cut corporate tax rates impose other restrictions that limit the benefits of the proposed rate cut.
"U.S.-based multinational groups often feel they are at a disadvantage compared to certain foreign-based multinational groups because of high U.S. corporate tax rates, a U.S. tax system that taxes U.S. corporations on their worldwide income, and the application of certain anti-deferral regimes, such as the Subpart F regime," Calianno said.
WHO LOVES U.S.?
The Statistics of Income report shows that most FCDC receipts come from corporations with owners in just a few countries. FCDCs with foreign owners from the United Kingdom, Japan, Germany, the Netherlands, Canada and France were responsible for over three quarters of all FCDC receipts in 2005.
"The key point is that many countries have lower rates to attract investment into the country," said Calianno. "If tax rates are lower, there will be additional investment from those who were on the fence as to whether to invest. Additional investment stimulates the economy - it creates new jobs and more revenue."
"We still draw investment because we are still a dynamic economy where government makes investments secure," explained Dr. Merrill Matthews, resident scholar at the Lewisville, Texas-based Institute for Policy Innovation.
"But we do have nearly the highest corporate tax rate in the world," Matthews continued. "We will see a decline in foreign investment as the dollar continues to get stronger. If it moves back up, investments here become less attractive. The best way to offset that is to lower corporate tax rates."
SO WHY DO THEY COME?
"When people talk about the high U.S. corporate tax rates, they mean the nominal rate, which is 35 percent, not the effective rate, which is the tax paid divided by taxable income before deduction of tax," said Martin B. Tittle, an Ann Arbor, Mich.-based international tax attorney. "On an effective tax rate basis, the U.S. is not as uncompetitive as its nominal rate would suggest. And this could be one reason why foreign corporations might find it helpful to have domestic corporations in the U.S."
Selva Ozelli, a New York-based CPA and international tax attorney, agreed. "Very few corporations end up paying tax at the nominal rate," she said. "And very few portfolio investors end up paying the withholding tax rate of 30 percent on their U.S. portfolio investments, which are reduced by the U.S.'s tax treaties with various countries. The certainty and stability of the U.S.'s legal, accounting, business and political system on the one hand, and the focus on innovation and technological development on the other, render the U.S. attractive from a business and investment point of view."
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