TIME: Almanac 1995

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<text id=92TT2671> <title> Nov. 30, 1992: The Foreigner-Tax Folly </title> <history> TIME--The Weekly Newsmagazine--1992 Nov. 30, 1992 Windsor: A House Dividing </history> <article> <source>Time Magazine</source> <hdr> BUDGET, Page 39 The Foreigner-Tax Folly </hdr><body> Clinton's plan to raise $45 billion from non-U.S. companies is a pipe dream, economists say, and reflects a shortsighted view of outside investment By S.C. GWYNNE/WASHINGTON Maybe Bill Clinton really believed that the numbers in his economic plan would add up. Or maybe he was exercising the political campaigner's God-given right to fudge and exaggerate. Either way, those days are gone. Now that he's President-elect, his relatively pain-free prescriptions face a stark reality as they make the transition from promise to practice. Probably Clinton's most dubious budget idea is his proposal to squeeze foreign companies doing business in the U.S. for $45 billion in taxes over four years. He would rely on that measure to provide nearly one-third of all the new taxes he will need to finance his program to reduce the deficit and increase public investment. The stratagem is characteristically Clintonian: an apparently painless (for Americans) way of generating revenue without raising unpopular levies like the gasoline tax or touching popular spending programs like Medicare. Clinton's intention is to clamp down on non-U.S. companies that have been illegally shifting their profits abroad. Some companies do this by inflating their transfer prices, which are the amounts they charge their American subsidiaries for goods and services. This scheme boosts the profits of the parent companies back home and reduces the taxable earnings of the domestic affiliates. Clinton's advisers, who extrapolated their numbers from a study by a House Ways and Means subcommittee, are confident that they can generate enormous new revenues by stopping or penalizing those practices. The problem with this plan, many economists say, is that it vastly overestimates the extent to which non-U.S. companies have been evading taxes. "The $45 billion number is out of sight," observes Gary Hufbauer, an economist at the Institute for International Economics in Washington. "He might get $6 billion in additional revenues." Says economist Rudolph Penner, the former director of the Congressional Budget Office: "The numbers are so far off what is reasonable that it's difficult to know where to begin -- $1 billion seems more likely than $45 billion." Aside from Clinton's proposal, the highest estimate of the revenue to be gained by closing loopholes on foreign companies comes from the Internal Revenue Service: at most, $13 billion over four years. The main reason that Clinton's idea will not work is that foreign companies like Honda, which invested in auto and motorcycle plants in Ohio in the 1980s and helped create thousands of new U.S. jobs, have little motivation to move their profits elsewhere. Germany's corporate tax rate is 51% and Japan's is 46%, while the rate in the U.S. is only 34%. "There's just not much incentive for these companies to move their profits to higher-tax countries," says Hufbauer. Although some non-U.S. companies surely do evade American taxes, the IRS's previous efforts to crack down on violators have borne relatively little fruit. Earlier this month the Japanese electronics giant Matsushita, which sells products in the U.S. under the Panasonic and Quasar brand names, reached an agreement with the IRS to pay a settlement in that kind of dispute. The amount was a mere $4.8 million. At least 47 Japanese companies in the U.S. have been involved in similar cases within the past five years. Many such companies are now taking Matsushita's accommodating approach, which will produce as much as $6 billion in new U.S. revenue over the next four years, far short of what Clinton's camp has hoped for. Clinton's miscalculation of the gains to be had from taxing foreign firms masks a larger problem: a shortsighted view of outside investment in the U.S. "We're in a real struggle for foreign capital, and we're going to need huge amounts of it," says Jeffrey Garten, a professor at Columbia University's business school. "If the U.S. tries the gunboat approach, we're going to put the country at a huge disadvantage." Given the poor return he is likely to get from trying to collect these taxes under the current laws, Clinton's second strategy might be to impose a "presumptive tax" of some sort, possibly a minimum levy on the total sales -- rather than profits -- of foreign companies in the U.S. But that kind of policy could backfire mightily. Germany has declared that if Clinton imposes such new taxation, Bonn will retaliate against local subsidiaries of American firms. With global trade tensions already at a fever pitch and foreign companies increasingly unhappy with conditions in the U.S., any further discouragement of outside capital might cause real harm to American economic growth. "Foreign investors have been very frustrated over the past two years," says Robert Hormats, vice chairman of Goldman Sachs International. "They're amazed that we're not dealing with the underlying problems of the economy, like the deficit and the educational system. They want to be reassured that we're going to fix them." What foreign companies do not want is to pay a huge chunk of the bill for repairing these problems. Soaking the foreigners may have sounded to Clinton and his advisers like a politically painless program, but it could cost the U.S. a lot more in lost capital investment than it would gain in taxes. "Clinton is just going to have to rethink his policies on international taxation," says Garten. If Clinton does so, he will probably have to find the money elsewhere -- or come to realize that his spending plan is too ambitious. </body></article> </text>