US President Barack Obama’s global tax raid is designed to pay for, at around $10 trillion, the biggest bailout in history. Every bit helps, including $210 billion from refusing breaks to American multinationals, which, his administration reckons, paid $16 billion in taxes at home in 2004 on $700 billion of income earned abroad. As long as they don’t bring their earnings home, US companies need not pay a 35 per cent tax on their income earned offshore, creating a perverse incentive to invest in foreign subsidiaries and to park profits in tax havens. A staggering 83 of the America’s biggest 100 companies have subsidiaries in offshore havens.
By forcing US multinationals to bring back their foreign profits, Mr Obama is perpetuating an anachronistic tax regime. The reason American companies do not bring dollars home is because they, unlike their European or Asian rivals, have to pay a tax on it. And a fairly steep one at that. The deferral that Mr Obama wants to stop was provided to keep US companies competitive in a world that has, by and large, switched to territorial taxation: pay taxes in the country of operations, and that is the end of it. Denying US companies tax deductions on expenses in their foreign operations creates a further perverse incentive for them to shift their headquarters abroad. This prospect will weigh on the US Congress when it legislates the president’s tax proposals.
Bangalore, India, the town Mr Obama loves to hate, offers neither the comfort of a tax haven nor the benefits of tax arbitrage. India’s tax on corporate income is a shade lower than that of the US. The dynamics of jobs being created there instead of in Buffalo, New York, lie beyond the scope of fiscal policy. For every IBM seeking lower manpower costs in India, there is a Citibank doing business in one of the fastest growing markets in the world. Tax incentives, or disincentives, alone cannot arrest outsourcing, particularly to Indian information technology vendors. On the contrary, the denial of tax credits to US companies investing abroad should buttress the trend of buying services from local third parties. Expectedly, Mr Obama’s tax tweaks have not set the dovecotes aflutter in India’s software capital.