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A Tax Holiday for Repatriated Corporate Profits: The Costs Exceed the Benefits

As Bloomberg's Jesse Drucker notes today, corporations are lobbying for a tax holiday on repatriated profits. According to Chief Executive Officer John T. Chambers, as much as $1 trillion dollars being held overseas to avoid US taxes would return to the US if Congress grants a tax holiday. He argues this would encourage businesses investment and create jobs.

Does this argument have any merit? To answer this, we need to weigh the potential benefits against the expected costs, and then look at the net impact.

First, on the benefits, how much investment and job creation would we expect from this? If firms were short of cash, and that shortage was constraining their ability to invest, then having a new source of cash could have a large effect on investment. But available cash is not a problem right now. Firms are sitting on mountains of cash -- they have all the resources they need to make investments already -- and making the mountain a little bit higher isn't going to change much. So the benefits are small -- we shouldn't expect much in terms of investment and employment.

Furthermore, we have some experience with this. A similar tax holiday was enacted in 2004, and the same promises were made about investment and job creation. But the evidence shows that "firms mostly used the repatriated earnings not to invest in U.S. jobs or growth but for purposes that Congress sought to prohibit, such as repurchasing their own stock and paying bigger dividends to their shareholders. Moreover, many firms actually laid off large numbers of U.S. workers even as they reaped multi-billion-dollar benefits from the tax holiday and passed them on to shareholders."

The benefits are small, but what about the costs? First, if we grant a second tax holiday in less than ten years, what type of incentives does that set up? Firms will be more likely than before to shift income overseas and then wait for Congress to do this again. Thus, a second tax holiday so close to the first sends firms the wrong message about this behavior. To the extent that there are any benefits from repatriating profits held offshore presently, this would create an incentive to send new profits offshore and offset whatever meager benefits we might get from this policy (research shows that corporations actually moved more funds offshore after the 2004 tax holiday).

Second, and this is one of the main points of Jesse Drucker's article noted above, the largest beneficiaries of this holiday would be the firms who were most successful at shifting income offshore to avoid US taxes. As he notes, "Companies in the technology and pharmaceutical industries have been particularly aggressive in shifting income abroad because they rely on intellectual property, which is relatively easy to shift to other countries as a tax avoidance strategy. Half of all repatriations from the 2004 tax holiday came from companies in these two sectors alone. The same corporations and sectors would stand to benefit disproportionately -- and enormously -- from a second tax holiday."

Is there anything that can be done to make this more attractive? Some people, e.g. Senator Charles Schumer of New York, have suggested that the profits be deposited in an infrastructure bank. Would this increase the benefits enough to make this policy worth doing? Unfortunately for the unemployed and our crumbling infrastructure, again the answer is no. The Joint Committee on Taxation has analyzed a similar proposal, and their estimate is that it would actually cost the government $80 billion once all the effects, including the incentive to move future profits offshore, are accounted for. Thus, when all costs are considered, there is nothing to put into the bank. In fact, for the US as a whole, this is a withdrawal, not a deposit.

And this brings up a final problem with the proposal. Though it does increase government revenue in the short-run, it's unlikely to help the unemployed and it's a loser over a longer time frame. At a time when we are struggling to bring the long-run budget into balance, why would we consider a proposal that makes the long-run budget picture worse?