A deal to dodge the tax man in America
14 May 2014
Posted by: Author: Andrew Ross Sorkin
Author: Andrew Ross Sorkin (Dealbook)
Pfizer’s chairman and chief executive, Ian C. Read, is in
London this week trying to sell a skeptical public there on his $106 billion
takeover plan for rival AstraZeneca. On Tuesday, he is scheduled to testify to
a parliamentary committee about a deal that has been described in the British
tabloids as "too dangerous” and has raised a bevy of nervous questions about
potential job losses.
The real question, however, is why Mr. Read is not being
called to testify in Washington to explain the real purpose of this megadeal: a
mega-tax-dodge. Pfizer’s pursuit of AstraZeneca raises a huge public policy red
flag. It plans to move its holding company to Britain from the United States so
it can achieve a much lower tax rate and use cash that it has held abroad to avoid
paying United States taxes.
The deal, if consummated, would most likely deprive the
United States government of billions of dollars in revenue over the next
decade. Pfizer isn’t hiding this fact. Mr. Read has repeatedly told his
investors about the tax-saving scheme. "It will liberate the balance sheet and
tax of the combined companies,” he said over the weekend.
More ominously, the deal represents a potential tipping
point in a trend among United States companies to acquire foreign competitors
and reincorporate abroad in low-tax countries, a process known as an inversion.
An informal survey of bankers indicated that the trend is real. Since Pfizer
announced its offer, at least a half-dozen bankers have counted more than 17
incoming calls from Fortune 500 companies requesting an analysis of merger
prospects that involve an inversion.
"In light of the significant value that can be created — and
the pressure to act before possible future regulatory action lessens the
benefit of such deals — the inversion trend can be expected to continue in the
near future,” Adam O. Emmerich, a partner at Wachtell, Lipton, Rosen &
Katz, wrote in a note to his clients.
In Washington, unlike in Britain, where
the deal’s local implications have kindled some outrage, there has been nary a
peep about what the transaction portends here.
Only a handful of people seem to be taking it even half
seriously including Senator Carl Levin, Democrat of Michigan, who issued a
statement last week. "It’s become increasingly clear that a loophole in our tax
laws allowing these inversions threatens to devastate federal tax receipts,” he
wrote. "We have to close that loophole. I am talking to my colleagues about
legislation to close the loophole, which I intend to introduce soon.”
He is expected to introduce a bill as early as this week to
try to block such deals.
Senator Levin’s proposal, however, will most likely be a
Band-Aid, not a way to deal with the underlying problem, which probably
involves a sweeping reform of the corporate tax code. Earlier this year,
President Obama similarly sought to change the law, which allows a company to
reincorporate abroad if it acquires a foreign company in a transaction that
transfers more than 20 percent of the shares to foreign owners. The president
wants to raise the threshold to 50 percent.
But both approaches are the equivalent of placing a velvet
rope in front of a hot club, not removing the incentive for heading there in
the first place.
To better understand what is at stake for Pfizer — and what
makes these types of deals so attractive to other companies — consider this
basic math: By reincorporating in Britain, Pfizer would most likely save about
$200 million a year for each percentage point less it pays in taxes, according
to Barclays. Pfizer paid a 27.4 percent rate in the United States; AstraZeneca
paid about 21.3 percent in Britain. Those six percentage points could turn into
an annual windfall of more than $1 billion. That’s not all: It gives Pfizer a
revenue-generating asset without having to repatriate any of its $57 billion
cash hoard sitting overseas.
The problem isn’t simply the lost tax revenue, either. When
a company changes its headquarters, jobs invariably leave, too.
The answer is not as simple as lowering the United States
corporate tax rate to make it more competitive with foreign competitors. It
also involves removing tax loopholes and most likely adopting a system that
taxes foreign profits locally.
"Given all of the existing loopholes in U.S. tax law, I am
not sure whether Pfizer will really save that much in U.S. taxes. Rather, the
expatriation will likely make Pfizer’s life a lot easier from a
treasury/financing perspective,” said J. Richard Harvey Jr., a professor at
Villanova University School of Law and Graduate Tax Program.
While no one wants to engage in a global tax race toward the
bottom with countries competing for companies by offering ever lower tax rates,
there has to be a middle ground that makes it attractive enough for companies
to want to remain here while paying their fair share.
The reality is that many global multinational companies
based in the United States are facing slower growth and desperate to find profits
wherever they can. If they can easily minimize their tax bills, that is
United States companies also need to fully appreciate the
benefits they receive from being here. "Companies that exploit this loophole
benefit from the protections and services the federal government provides,
including patent protection, research and development tax credits, national
security and more,” Senator Levin wrote. "They shouldn’t be allowed to shift
their tax burden onto others.”
This may sound radical: Perhaps there should be a moratorium
for the next two years on all inversions. Given that it is almost impossible to
believe that real tax reform can happen until 2016, there may be real reason to
make sure that the inversion trend doesn’t continue. Would it have unintended
consequences? Of course. But the alternative might be worse.
"Although it would clearly be best to enact comprehensive
United States corporate tax reform, in the short run the United States may need
to quickly enact legislation to discourage expatriations,” Mr. Harvey said.
"Otherwise, there may be a rush for the proverbial door.”
This article first appeared on dealbook.nytimes.com.