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Annette Nellen
Annette Nellen
The International Tax Reform Agenda

President Obama’s budget proposal has many wondering what a “robust portfolio of IRS international tax compliance initiatives” means for international tax reform.

April 23, 2009
by Annette Nellen, CPA/Esq.

On February 26, 2009, the new Administration released the 2010 budget. This 142-page proposal is entitled, A New Era of Responsibility Renewing America’s Promise. Including both tax cuts and increases, the budget proposes to use additional revenues for health care reform and deficit reduction. Most of the details of how provisions would work are omitted although the inclusion of revenue estimates in the budget proposal implies that the details exist. One of the proposals that garnered attention in congressional hearings and the press is a vague international tax proposal that uses the terms “deferral reform” and “enforcement” and is projected to generate $210 billion over ten years. This article offers some background on part of this cryptic proposal, notes some of the extensive work already performed on international tax reform, and offers suggestions for bringing all of these ideas together to move our federal tax system into the 21st century global economy.

The Budget Proposal

The Administration’s 2010 Budget proposal states that the IRS faces “significant enforcement challenges” from the “scope, complexity, and sheer magnitude of the international financial system.” Thus, the Budget allocates funds “for a robust portfolio of IRS international tax compliance initiatives, and sustains and improves IRS efforts to narrow the annual tax gap of over $300 billion.” (2010 Budget (PDF). The tables summarizing the budget effect of the proposals includes “implement international enforcement; reform deferral, and other tax reform policies” as raising $210 billion from 2010 through 2019. (2010 Budget (PDF). There are no details in the proposal as to the type of enforcement activities, how deferral would be reformed or what other reform policies are intended.

Both congressional tax committees have held hearings on the budget proposal with Treasury Secretary Geithner testifying at each. The Secretary noted that “a series of legislative and enforcement measures” would be forthcoming over the next several months for reducing tax evasion and avoidance by US corporations and individuals. (House Ways and Means Committee (WM) hearing of March 3, 2009 and Senate Finance Committee (SFC) hearing of March 4, 2009)

News reports of the House hearing noted that Secretary Geithner stated that the Administration supports tax haven legislation introduced in the 111th Congress (Stop Tax Haven Abuse Act, S. 506 and H.R. 1265) (Reuters UK, Obama Administration Supports Tax Haven Crackdown). This legislation is similar to S. 681 (110th Congress) co-sponsored by then-Senator Obama. This is in line with the president’s campaign promise to “crack down” on international tax shelters (Barack Obama’s Comprehensive Tax Plan (PDF))

International Tax Gap

The annual federal tax gap is estimated to be at least $345 billion (IRS, IR-2006-28, February 2006). Some have reported that the gap attributable to offshore tax abuse is $100 billion per year (Barack Obama’s Comprehensive Tax Plan (PDF), February 20, 2009 press release of Senator Levin).

A January 2009 report issued by the Treasury Inspector General for Tax Administration (TIGTA), “A Combination of Legislative Actions and Increased IRS Capability and Capacity Are Required to Reduce the Multi-Billion Dollar U.S. International Tax Gap,” questions both the total tax gap and offshore tax abuse tax gap estimates. TIGTA estimates that the annual tax gap attributed to tax havens and transfer pricing ranges from $40 billion to $123 billion. TIGTA also notes that the $100 billion gap noted in hearing on offshore tax abuse are “educated guesses” and not computed from “direct measurement.” TIGTA observes that estimating the international tax gap is “very difficult and time-consuming” and concludes that the $345 billion tax gap figure does not include the entire gap attributable to international tax issues.

Tax Haven Studies

The Government Accountability Office (GAO) has issued reports since at least 1979 on tax haven countries. Its 1979 report was entitled, “Problem of Tax Evasion and Tax Avoidance in Tax Haven Countries” (B-137762, May 1979). A 1983 GAO report, “Federal Efforts to Define and Combat the Tax Haven Problem” (121055 (PDF), April 1983), noted the complexity of the problem and that tax havens had been a concern of the IRS since at least the mid-1950s. This lengthy report explained the nature of the tax haven problem and IRS enforcement efforts and challenges.

A 2004 GAO report, “International Taxation: Tax Haven Companies Were More Likely to Have a Tax Cost Advantage in Federal Contracting,” (GAO-04-856, 6/30/04), delved into whether federal contracts awarded to U.S. subsidiaries with a tax haven -located parent corporation had unfair cost advantages. The GAO found that for 2000 and 2001 a greater percentage of large tax haven contractors were likely to report no tax liability relative to large domestic contractors.

The GAO’s most recent report on tax havens is “International Taxation: Large U.S. Corporations and Federal Contractors with Subsidiaries in Jurisdictions Listed as Tax Havens or Financial Privacy Jurisdictions” (GAO-09-157, December 2008). The GAO reported that a majority of the largest US corporations had operations in tax haven countries. The report did not explore the specific reasons for such operations. The GAO also notes that there is no agreed upon definition of “tax haven.” It identified tax haven countries using information gathered from US government agencies, the OECD and various reports that indicated a country was an offshore tax haven, had secrecy laws, had no effective tax information exchange process, or was an offshore financial center.

In 2006, the Senate’s Permanent Subcommittee on Investigations (PSI) released a 400-page report, Tax Haven Abuses: The Enabler, The Tools and Secrecy (PDF), that describes the issues and makes recommendations.

Recent Hearings

In the past two years, several congressional hearings have been held on international tax reform and offshore tax issues:

Numerous reports have been issued by the Joint Committee on Taxation, Treasury, Congressional Budget Office and others on international tax reform (some links available in Groundwork for Modernizing International Tax Rules in the U.S. November 13, 2008).

Looking Forward

While the current focus on international tax reform is on the longstanding issue of tax havens, additional tax issues remain in the international arena. In addition to ones that increase the tax gap are ones that harm the competitive position of US businesses trying to succeed in the global marketplace with rules written for yesterday’s non-flat world. There seem to be plenty of reports, studies and proposals on these topics. The international tax reform issues also tie to broader business reforms including the corporate tax rate being higher than that of most industrialized countries and complexity. It is past time to address these issues. As noted earlier, tax haven concerns date back over 50 years and discussions of modernizing US international tax rules date back to the 1990s.

The tax committees and Treasury should hold an international tax reform summit, appoint a task force of experts to derive a comprehensive business/international tax reform package of changes and then move to implement it during the 111th Congress. The federal budget, the economy and US business interests will suffer from continued delays in not moving all of the background information collected in the past many years to action.

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Annette Nellen, CPA, Esq., is a tax professor and Director of the MST Program at San José State University. Nellen is an active member of the tax sections of the ABA and AICPA. She serves on the AICPA's Individual Income Taxation Technical Resource Panel. She has several reports on tax reform and a blog.