A senior Treasury official at a July 22 House Ways and Means Committee hearing told the committee that “there is evidence of substantial income shifting through transfer pricing” and that “the potential exists for tax-motivated transfer pricing abuse” by a multinational taxpayer to shift income from the United States to a lower-tax foreign country. Stephen Shay, Treasury deputy assistant secretary (international tax affairs), testified that a study of U.S. multinational corporate tax returns demonstrated that pre-tax profits are high in low-tax jurisdictions and low in high-tax jurisdictions. Other participants in the hearing estimated that transfer pricing abuses may cost the U.S. government from $28 billion to as much as $60 billion annually in lost tax revenue.
The Joint Committee on Taxation (JCT) released a study of taxes paid by six multinational corporations that engaged in transfer pricing transactions. The study determined that a significant portion of the companies’ income was earned offshore, where it was subject to relatively low average foreign tax rates. While the companies’ U.S. sales averaged 50-60 percent (or more) of their worldwide sales, their average U.S. pre-tax income was generally less than 33 percent of worldwide pre-tax income, and, in three cases, was 10 percent or less. The JCT found that taxpayers generally concentrated more-profitable functions in lower-tax foreign jurisdictions and less-profitable functions in jurisdictions with higher tax rates.
House Democrats at the hearing accused U.S. multinational corporations of manipulating transfer pricing rules to shift income abroad and avoid U.S. taxes. Committee Chairman Sander M. Levin, D-Mich., said that “transfer pricing is a serious issue that … pose[s] a challenge to the enforcement of United States tax laws. Multinational companies are potentially gaming the current system to shift operations to foreign-based entities to avoid paying U.S. taxes.” Levin expressed his concern that companies moving money overseas are also moving jobs overseas. Rep. Lloyd Doggett, D-Tex., who has introduced legislation (HR 5328) to tighten U.S. taxation of foreign income, condemned transfers of intangible property abroad “with no business purpose except tax avoidance.”
Economist Martin Sullivan testified that “U.S. multinationals are readily able to shift profits into tax havens and, thereby, significantly reduce taxes properly owed to the United States and other industrialized nations.” Sullivan noted that, from 1999 through 2007, U.S. multinationals foreign profits increased by 163 percent, while traditional indicators of economic activity increased by 97 percent. He estimated an annual revenue loss of at least $28 billion.
Shay affirmed the administration’s commitment, through legislation, regulation and enforcement, to reduce the incentives for income shifting through inappropriate transfer pricing. Shay, Sullivan and other witnesses, including Prof. Reuven Avi-Yonah of the University of Michigan Law School and economic consultant R. William Morgan, discussed various legislative and regulatory approaches that they said would improve the operation of the transfer pricing rules.
Ranking committee member Dave Camp, R-Mich., said that U.S. companies subject to the transfer pricing rules are innovative, help the economy and generate high-quality American jobs. Camp said it was critical to examine the economic impact of altering the current transfer pricing rules. He suggested that the problem was the U.S.’s high corporate tax rate and not the transfer pricing rules.
Professor of Economics James Hine of the University of Michigan, said there was a danger of overreacting to concerns about transfer pricing. Congress should not enact rules that overtax people, reducing competitiveness and business efficiency. In response to questioning, he commented that there are large variations in corporate profits that are independent of transfer pricing and that studies that ignore companies with losses (as the JCT study had) distort how the system operates.
By Brant Goldwyn, CCH News Staff
Ways and Means Committee Release: Chairman Levin’s Opening Statement at Hearing on Transfer Pricing Issues
Testimony of the Staff of the JCT on Transfer Pricing Issues, JCX-38-10
Testimony of Martin A. Sullivan, Ph.D., Economist and Contributing Editor Tax Analysts
Testimony of Prof. Reuven S. Avi-Yonah
Testimony of James R. Hines Jr.
Testimony of R. William Morgan, Managing Director, Horst Frisch Incorporated
Testimony of Stephen E. Shay, Treasury Deputy Assistant Secretary (International Tax Affairs)