How the US could have avoided the Apple tax fight with Europe

Apple’s Ireland subsidiary paid an Irish tax rate of five one hundredths of one percent in 2014, slightly above zero. The U.S. statutory corporate tax rate is 35% while the effective rate (what corporations pay on average) is 27.1%. Ireland is widely regarded as a tax haven country. It sells itself as a haven for major US corporations on the basis of very, very low taxes.

The European Commission (EC) has recently ruled that Ireland gave unlawful “state aid” to Apple and ordered the company to pay $14.8 billion to Ireland, the tax that should have been paid. Treasury Secretary Jack Lew has objected to Europe’s decision, basically saying “how dare you address global corporate tax evasion because it is a big problem the US should be addressing and we are busy not addressing it, so please stop.”

{mosads}Apple sells millions of iPhones and other products to US and European customers. But it uses a practice called transfer pricing to shift those profits to their subsidiaries in the Irish tax haven.  Other global companies, like Amazon, engage in the same practice.

The entire battle Europe/US battle would be unnecessary if U.S. Treasury abandoned its insistence on clinging to someday fix, rather than eliminate, transfer pricing. This stubbornness is leaving the U.S. vulnerable to a double whammy: first earnings on US sales are shifted out of the US reducing tax liability, second a tax credit for foreign taxes paid further reduces US tax liability.

The European Commission’s Apple decision is a declaration of war on the status quo. Currently, tax haven countries such as Ireland have every incentive to establish tax deals with transnational corporations like Apple. US tax revenue is plummeting as companies have the green light to shift profits to overseas subsidiaries while domestic taxpayers pay their full bill.  The US Treasury is painfully aware of the problem but still defends the current system. After all in 2013, the Senate held hearings that revealed Apple’s complicated subsidiary structure that shifts profits to Ireland through transfer pricing to avoid paying American taxes. It just so happens that Apple avoids paying taxes on sales revenue in Germany, Belgium and France as well.

Now, Europe is done and is willing to go to battle against massive corporate tax avoidance through fictitious internal transactions. The U.S. Treasury has been desperately trying to avoid this battle because, while they refuse to fix the problem, the European Commission’s decision, if upheld, means Ireland gets the Apple tax revenue and the US does not.

This could have been avoided if the Treasury had just abandoned its toothless role as the policeman of the Arm’s Length Principle, whereby tax authorities allow internal and fictitious transfer pricing so long as the prices are set as if independent entities were involved. The U.S. is now unable to make a principled claim without protecting an egregious tax avoider.

Treasury is fighting the European Commission’s modern tank with an archaic sword and shield. Transfer pricing cannot be fixed by Treasury because it should not exist. An upgrade in our tax code is long overdue. We need to define corporate taxable income by real sales to real customers in the U.S. and disregard any transactions with intra-company subsidiaries, overseas or not. This system is called sales factor apportionment and is already in use, in some form, by a majority of states. Corporate income ultimately is the result of sales to customers. Without sales there is no profit. The Treasury Department should support modernizing the tax code using sales factor apportionment so Apple is fully taxed on US sales, cannot shift profits overseas, and does not have an unfair advantage over other US companies and taxpayers.

Michael Stumo is CEO Coalition for a Prosperous America.

The views expressed by authors are their own and not the views of The Hill.