Perhaps the only issue on which both Republicans and Democrats agree in this highly contentious political climate is the “un-American” nature of corporate tax inversion—companies moving overseas to take advantage of lower tax rates. President Obama has described Pfizer’s merger with Allergan as “unpatriotic,” and presidential candidate Donald Trump has described it as “disgusting.” When proposed, the Pfizer-Allergan merger was categorized as one of the largest inversion deals of all time. The deal, if successful, would have allowed Pfizer to elude taxes of up to $35 billion by moving its domicile to Ireland, where Allergan is based.
Pfizer is one of many US companies that has merged or sought to merge with a foreign company in order to pay lower corporate taxes. In 2014, the House Ways and Means Committee published a list of US companies domiciled abroad for tax inversion reasons. The list includes big names such as Accenture and Medtronic and depicts a more recent trend of pharmaceutical companies moving to Ireland. The incentive for moving to jurisdictions such as Ireland is that they operate a “territorial exemption” tax system whereby foreign income is excluded from taxation.
This is profitable for foreign jurisdictions, Transatlantic Trade and Investment Partnership (TTIP) opponents argue, until national interests require the host country to adjust taxation policies. TTIP, currently in the negotiation stage, is a trade and investment agreement primarily designed to cut tariffs and regulatory barriers to trade for “big business” and to promote investment. The hope is that the agreement will enable growth on both sides of the Atlantic by opening new markets for businesses. Yet, TTIP has been met with a barrage of opposition. The most vocal of the agreement’s opponents are those against the Investor-State Dispute Settlement (ISDS) mechanism, which will enable corporations to sue states in private forums. At present, various ISDS mechanisms exist in the form of a clause (or clauses) in different bilateral investment treaties (BITs), which permit private businesses to bring claims against states in arbitral tribunals in situations where they believe those states are violating their rights.
Critics such as the Seattle to Brussels Network, Global Justice Now, and the Tax Justice Initiative have expressed concerns that the TTIP agreement could diminish the sovereignty of European states, as possible suits by multinationals will disincentivize the implementation of progressive taxation policies in the interests of the state. Many states, particularly developing ones, have complained that the threat of a costly legal dispute could prevent policy changes that are not in the interests of multinationals, but are beneficial to their host countries, or the countries they do business with. For example, in the early 2000s, several US agribusiness giants successfully sued Mexico after the country introduced a tax on soft drinks containing a product supplied by the US agribusinesses.
According to a report by Global Justice Now and the Transnational Institute, the proposed TTIP agreement will limit the ability of European states to change tax laws when the laws no longer suit their interests. The reason for this is that US multinationals domiciled the EU, such as those who have re-domiciled in Ireland for tax purposes, could challenge any attempts to reform the law in those jurisdictions in private international tribunals. This concern has led to the inclusion of “tax related carve-out” clauses in bilateral trade agreements between states. Nevertheless, the report by the Tax Justice Network states that the carve-out clauses included in bilateral agreements have not prevented multinationals from bringing suit and also have not prevented arbitrators from reviewing the cases. The report cites at least 24 countries that have been sued by multinationals based on tax-related disputes. Such suits are often lengthy, expensive, and often result in states compromising on tax policies for multinationals.
States respond in a variety to of ways to the changing business practices. For instance, in response to US companies taking advantage of corporate tax inversion, in November 2015, the US Department of Treasury and the Internal Revenue Service introduced rules to make it more difficult for US companies to relocate and avoid their tax bills. The new laws require that the owners of companies planning on merging and re-domiciling possess less than 80% of the combined entity after the merger. This is to ensure that the ownership of the new entity is actually foreign, and foreign tax laws apply. However, amidst mutterings that these changes will have little effect on US companies considering inversion strategies, in April 2016, the Treasury Department announced even more stringent regulations aimed at limiting companies’ tax inversion incentives. The most recent regulations target companies the Treasury Department dubs “serial inverters”—large companies that have been involved in multiple inversions in the past three years—by limiting their ability to participate in new deals. Allergan falls under this category, and these changes halted the Pfizer-Allergan deal as currently structured. But most importantly, under these new rules, the Treasury Department gives itself more authority to “revoke tax advantages of debt for inverted companies.”
With more multinationals taking advantage of tax inversion strategies, destination countries with territorial exemption systems will also require latitude to adjust to their own changing environments. However, if the TTIP agreement is ratified, EU countries will encounter challenges from US companies domiciled in their jurisdictions if they decide to reform their tax laws. The threat of an ISDS claim—which is often protracted—limits the ability of these countries to make changes without undue influence from multinationals. The inclusion of stringent carve-out clauses in the TTIP agreement is one way for EU countries to ensure that they maintain their sovereignty in issues regarding tax reform. Another strategy would be to address the real issues which lie in the mechanics of the TTIP ISDS system. Presently, the ISDS clauses in BITs, only permit multinationals to bring ISDS claims on any issue related to their property in a given state. There is the need for the development of a threshold standard whereby states can freely regulate without the fear of an ISDS claim. A first step towards this would be to enable states under the TTIP agreement, to negotiate the revision of agreements entered into with multinational companies in similar international tribunals.