Treasury officials are in talks over whether American firms should be allowed to repatriate funds at a discount, in what is sometimes called a tax holiday. It has been trumpeted as a needed boost to the economy and a welcome step toward reform.
Firms such as Apple, Oracle, and Qualcomm are pushing hard for the reprieve, promising job creation and a painless shot in the arm for the economy. But they make a tangential and misguided argument that a holiday would lead to tax reform. A surfeit of corporate cash may strengthen stocks and pump up the dollar for a year, but firms are promising what they are unlikely to deliver and have not delivered in the past.
This is not our first go at a tax holiday. We had one in 2004, which yielded effects mostly in 2005.
Proponents have cited the 2004 holiday as a success. Although multiple studies say otherwise, including a forthcoming one coauthored by Dhammika Dharmapala, a law professor at the University of Illinois.
“The ostensible aim of congress was to encourage firms to invest more and employ more workers.” Dharmapala said. “That appears not to have been the consequence.”
Giving companies a tax reprieve will surely result in a cash influx, but promising substantial job creation is not realistic, especially when one considers the previous holiday.
Just because firms might have more money does not mean they are going to put it toward significant job creation.
“There’s no quid pro quo here.” Said Bernard Baumohl of the Economic Outlook Group. “Just because you have a tax holiday doesn’t mean there’s an understanding with those companies that they have to take those profits and increase their payrolls and expand their factories or offices.”
Firms that benefitted most from the 2004 holiday actually cut jobs in 2005-2006 despite general growth, according to a Congressional Research Service study.
Firms plan out their budgets years in advance. If serious growth is not on the blotter now, a surfeit of cash is not going to motivate firms to take substantial risks. Bill Raabe, a tax professor at Ohio State, pointed out the problems of policing firms.
In 2004, companies were disallowed from using the funds for executive dispensation and other unpopular ways to spend cash. Not all the rules were followed.
“You move money from one part of the budget to the other.” Raabe said. “If you really want some kind of bite to those restrictions then you need audit funds set aside so the government can check that that’s being carried out. I think that that was lacking last time.”
In fewer words, funds are fungible.
Congress passed the American Jobs Creation Act of 2004 to make the economy more productive and competitive. The law allowed for American multinationals to repatriate funds and only have to pay roughly 5% in taxes, compared to the exceptional 35% they would normally pay. It has been estimated that the bill resulted in the repatriation of more than 300 billion dollars.
Technically, most of the funds that were transferred over in 2005 did not go toward creating more jobs or building more plants. The money went to shareholders. Most companies repurchased stock or paid dividends, according to the Congressional Research Service.
Proponents of the holiday have pointed to tight credit markets, a weak dollar, and high unemployment as good reason for the holiday. They assume that firms face constraints rather than a weak economy and that credit markets are tight. But interest rates remain low and commodity prices have come down recently. And according to a recent report put out by the New York Federal Reserve, lending is picking up again.
There is also the issue that tax holidays may actually be leading to increases in the amount of capital firms keep overseas. A recent study by Northwestern professor Thomas J. Brennan reports “strong evidence of a conditioned behavioral change in firms created by the [2004 tax holiday].”
In other words, because firms expect tax holidays, they are stashing more money abroad than they would have otherwise.
“Certainly we’re optimistic about getting this done.” Said a spokesman for the Win America Campaign, an effort that supports the tax holiday. “Every week the ranks of supporters are growing.”
It is a mistake to conflate the words “holiday” and “reform.” And to think that another holiday might be different than the last.
“I have not seen any strong reason to believe the experience would be any different than the 2004 act.” Dharmapala said. “To believe otherwise one might describe as a triumph of hope over experience.”