Valuable taxes fall through loopholes 

Double Irish with a Dutch Sandwich—no, it has nothing to do with food and drink. These are two tax loopholes widely used by corporations, especially by technology companies. The U.S. government loses hundreds of billions of dollars in tax revenue each year due to these and other loopholes. The U.S. Congress is fully aware of their adverse impact on working people of the United States and the deficit, yet has done nothing to close them while knowing that they are a hemorrhage.

Before continuing, it’s important to note that the companies using these loopholes, and the executives who find innovative ways to find and use them, are doing nothing illegal. Through their application, they’re avoiding taxes legally—not evading taxes.

Technology and other multinational companies have saved hundreds of billions of dollars in taxes over years thanks to the loopholes in the U.S. tax code. Accounting and finance professionals agree that the code is outdated and too complex. It hasn’t kept up with the changing business environment, and it is has no effective prescriptions for the handling of commercial transactions in the digital age. According to The New York Times article “The Corrosive Effect of Apple’s Tax Avoidance” (May 23, 2103), “We have a tax system that seems to allow multinational companies to choose what they want to pay.”

Peter Oppenheimer, the former chief financial officer of Apple, and his wife Mary Beth, both Cal Poly alumni, recently made a very generous cash contribution of $20 million to Cal Poly. It’s the largest single cash donation in the university’s history. The Oppenheimers have maintained ties with Cal Poly since they graduated 30 years ago. They’ve supported the Cal Poly Scholars program, the university’s meal voucher program, and the new food pantry, which provides meals to needy students. Mr. Oppenheimer is a founding member and vice-chairman of Cal Poly Foundation, which generates private support for maintaining Cal Poly’s academic excellence. The Oppenheimers are undoubtedly generous, caring, and giving people. The following discussion shouldn’t be interpreted in any way as criticism of Mr. Oppenheimer’s role in using tax loopholes to help Apple legally avoid taxes. It was a part of his job, and he did it effectively and brilliantly. The real problem lies in the tax code; the U.S. Congress is to be blamed for being irresponsible for not correcting the problem.

The New York Times reported last year, “Apple’s Mr. Oppenheimer has done an exceptional job managing the company’s cash, finding legal ways to sidestep billions of dollars in taxes, allocating about 70 percent of its profits overseas, where tax rates are often much lower.” The article further noted that he raised a bond deal of $17 billion to fund a $100 billion payout to stockholders. By borrowing money, instead of transferring cash from its overseas affiliates, Apple avoided $9.2 billion in United States taxes. The company has amassed more than $100 billion in offshore cash in a tax haven. A U.S. Senate report criticized Apple for shifting $70 billion in income to a subsidiary in Ireland where Apple had negotiated a tax rate of less than 2 percent.

Apple’s innovative accounting technique, Double Irish with a Dutch Sandwich, minimizes taxes by channeling its profits through Irish affiliates and the Netherlands and then to the Caribbean. Hundreds of other corporations have emulated Apple’s tactic, and it’s in wide use now. Apple is based in the United States; most of its executives, product designers, marketing staff, research and development, employees, and retail stores are in the United States. It would be reasonable to expect that most of its profits would be considered as originating from the United States, because that’s where the value of its products is created. Not so in reality. Most of Apple’s profits are recorded as being from foreign sources.

Here is Alice in Wonderland: To avoid paying billions in taxes on offshore income, Apple has used at least three foreign subsidiaries, holding tens of billions of dollars, that it claims are tax residents “nowhere in the world.” It’s incredible, but perfectly acceptable according to the U.S. tax code.

Apple’s tax avoidance strategies are not confined to the federal income taxes. It’s also been successful in avoiding millions of dollars in income taxes in California and many other states. To avoid California taxes, Apple opened a small office in Reno, Nev. The sole purpose of the Reno office is to collect and invest the company’s profits. Why? California’s corporate tax rate is 8.84 percent, while Nevada’s is zero. Cisco, Harley-Davidson, Microsoft, and dozens of other companies have also formed subsidiaries in Nevada to bypass taxes in other states.

Apple’s practices in tax avoidance aren’t an exception, but rather the norm in technology companies, as well as companies in other industries. Some companies, for example Microsoft, have even more extreme and outrageous tax avoidance strategies.

Who is most victimized by corporate tax avoidance tactics? The public, of course. Not too many years back, California faced budget crises for many years. The state had to cut health-care programs, cut services to the disabled, and raise tuition at state universities. When America’s most profitable companies pay less in federal income taxes, the general public has to bear a greater tax burden. Ordinary taxpayers’ main income sources are salaries and investments that are automatically reported to the Internal Revenue Service. It is a zero sum game: Giving tax breaks to some means forcing others to pay more than they otherwise would have to. The government must collect enough tax revenue to meet its obligations. Sen. Levin has stated, “American working families who pay their share of taxes understand how offshore tax loopholes raise their tax burden.” Additionally, tax avoidance by corporations adds to the federal deficit. And the current tax system is unfair to domestic companies; they can’t avoid paying taxes because they can’t hide profits overseas.

The solution lies in overhauling the obsolete and unfair tax code. The responsibility for this is solely within domain of U.S. Congress. During the Apple Senate hearing, Sen. McCain faulted Congress for not simplifying the tax code.

“This problem is solely created by the awful tax code,” Sen. Rand Paul said. “Congress should be on trial.”

Many questions arise. Why has it not been done already? Why is nothing being done now? Why has the process not even started yet? The only plausible explanation is that there is little, if any, political advantage. The tax reform process would be long and time consuming, requiring a lot of tedious work. It’s hardly a sexy topic for grabbing headlines. It’s highly unlikely that cable news channels would invite participating legislators to comment on the progress made during news programs. And there’s potential for a great loss. The big business collectively puts hundreds of millions of dollars in politicians’ war chests to finance their political campaign. From their perspective, it’s not worth taking the risk of displeasing them. Does it make sense? Apparently, it makes perfect sense to the politicians.

Corporate tax avoidance adversely affects every community in the country in one or more ways. Locally, due to shrinking state funding in many recent years, Cal Poly students have had to pay higher tuition, the faculty didn’t receive any pay raises for many years, and, to add insult to injury, for several years they were forced to take furloughs. Even operating hours of the Kennedy Library had to be cut. This one example illustrates that an institution of higher learning, preparing future leaders of this country, had no choice but to curtail its academic activities and services. Such measures can only have a negative effect on the quality of education for students.

Additionally, many cities in the county were unable to afford necessary infrastructure repairs and replacements. In many cases, the residents passed measures to increase taxes to partially cope with funding shortfalls.

Zaf Iqbal is past associate dean and professor emeritus of accounting at Cal Poly’s Orfalea College of Business. He volunteers with several nonprofit organizations, including Wilshire Hospice, Good Neighbor Program, and Child Development Resource Center of the Central Coast. He’s past president of the San Luis Obispo Democratic Club. Send comments to the executive editor at [email protected].