Trump’s Trickle-Down Tax Plan: A Territorial Tax System

This is one of a series of posts on Trump’s recent tax proposal. To see the entire collection of posts, click HERE.

What is a territorial tax system and why should you care?

American Corporations — just like American people, pay an income tax on all income earned anywhere in the world. They also get a credit for foreign taxes actually paid. The idea is that a US corporation’s total world wide tax bill should be equal to the US tax rates applied to its total profit.

The Trump administration proposal — to switch to a territorial system — would mean many large international corporations paying a lot less in taxes to the United States government.

The issue that they are trying to solve is that a few companies (about 50 of the largest) have divided their businesses up into multiple corporations registered in different countries and paying taxes at different rates. They then manipulate their business to say that most or all of the profit is in low tax jurisdictions. The kind of thing that they do is to establish an affiliate in Ireland (where the tax rate is only 12.5% on most corporations, and even lower on some like Apple that have special deals). They then say that they have to pay fees from their US companies to their Irish companies for usage of intellectual property or some such. For example, you might buy a smartphone in the United States, but have some of the profit counted as being in Ireland and called a fee for usage of a logo or something.

Those corporations accumulate profits, which they then invest in US investments, but in the accounts owned by their overseas affiliates.

The Trump administration proposal will allow those few (but very large) corporations to simply never pay (most of) the taxes that is due on that money. They want to let these few corporations earn money, but pay a much lower tax rate than all of the smaller businesses here in the United State that actually create most of the jobs. That is just not fair.

Their stated rationale is that this will spur investment in the United States.  They are, unfortunately, wrong.  Most of this money is already invested. It is not being kept somewhere in cash. Trump may be picturing a vault filled with US hundred dollar bills somewhere in Ireland. The reality is a small office with a few workers keeping track of investments in US stocks and bonds. There is no pool of capital waiting to be invested as soon as President Trump lowers their tax rate.

For the next post in this series, click here to read about President Trump’s attempt to slash the corporate tax rate.

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