Market Perspectives: The Corporate Inversion Debate

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Corporate inversions — a quick summary

At 35%, corporate tax rates in the U.S. are among the world’s highest. 

Furthermore, the U.S. also taxes on a global basis, meaning that non-U.S. earnings are taxed at U.S. rates, called “worldwide accounting,” which very few countries other than the U.S. use. This one-two punch is a major reason so many U.S. companies have left their profits overseas, opting not to pay a big tax bill to bring them home. In fact, eBay shows why bringing profits home can be costly – not only in taxes, but in stock price, too.

Although Ireland is on a worldwide tax system, its low corporate tax rate of 12.5% makes it an attractive country for companies to re-domicile. Additionally, many other countries not only have lower rates, they also tax on a territorial basis only. As a result, low-tax countries with territorial accounting, such as the U.K., Switzerland and the Netherlands, are being sourced by U.S. companies for attractive acquisition candidates. This can allow U.S. companies to re-domicile abroad and gain the associated tax benefits via “inversions.”

How do companies effect an inversion? The existing Tax Code governs the protocols to meet the qualifications for an inversion (Section 7874). Often it is a larger U.S. company acquiring a smaller company within a tax-advantaged country. So long as the newly combined company has at least 20% of its ownership in foreign hands after the deal, the U.S. company can be re-domiciled.

Inversions are not new — they’ve been around since the 1980s. So why all the attention now? Recent deals have gotten much bigger and therefore involve a potentially much larger loss of revenue to the IRS. For example: from 2000 to mid-2011, of the 25 inversions with greater than $100 million in market capitalization completed during that time, two-thirds were under $1 billion in size. But from June 2011 to now, two-thirds of deals involve U.S. companies over $10 billion in size — a huge hit to tax revenue.


Hypothetically, if Congress were able to impose a 50 percent foreign ownership requirement for an inversion versus the current 20 percent, and apply it retroactively to May 8, 2014, the government could collect an additional $20 billion in revenue over 10 years.

Certainly the lack of progress on an overhaul of our tax system has likely eroded the confidence of CEOs that major tax reform is even on the horizon. Now that the stakes have been raised with more and bigger deals being undertaken or considered, inversions are at the intersection of Capitalism and Congress. And with mid-term elections at hand, the partisan divide is growing. Since the House is where tax legislation must originate, the chances of major tax reform are modest in the near term.

There may be mounting pressures for short-term measures, such as requiring a much higher percentage of ownership to be in the hands of foreigners, along with retroactive provisions. However, there is a low probability that any formal measures will be forthcoming until Congress reconvenes after their summer recess. In the meantime, political pressure has mounted – Eaton and Walgreens have recently withdrawn their inversion plans.

With this as backdrop, investors may likely see further acceleration of this phenomenon accompanied by rising levels of strident political rhetoric. Clearly, merger and acquisition activity in the U.S. is on the rise this year with over 4,000 deals pending or completed through June 30, and inversions have played a significant role.

This is not intended to serve as a complete analysis of every material fact regarding any company, industry or security. The opinions expressed here reflect our judgment at this date and are subject to change. Information has been obtained from sources we consider to be reliable, but we cannot guarantee the accuracy. This publication is prepared for general information only. This material does not constitute investment advice and is not intended as an endorsement of any specific investment. It does not have regard to the specific investment objectives, financial situation and the particular needs of any specific person who may receive this report. Investors should seek advice regarding the appropriateness of investing in any securities or investment strategies discussed or recommended in this report and should understand that statements regarding future prospects may not be realized. Investment involves risk. Market conditions and trends will fluctuate. The value of an investment as well as income associated with investments may rise or fall. Accordingly, investors may receive back less than originally invested. Past performance is not necessarily a guide to future performance.

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