Pfizer Inversion Derailed by New U.S. Treasury Regulations

Pfizer Allergan inversion derailed by new regulations

The U.S. Treasury, in conjunction with the White House, released an update to their framework for Business Tax Reforms.  According to the U.S. Treasury press release, these reforms are geared toward stopping U.S. corporations from inverting to more tax favorable jurisdictions and then utilizing earnings stripping to reduce taxable U.S. income.

As previously discussed in this blog, there are three ways a U.S. corporation can shift profits from the U.S. to an offshore tax favorable jurisdiction: 1) Transfer Pricing; 2) Inversion; and 3) earnings stripping. 

2016 update vs. 2012 proposed business tax reforms:  The White House and U.S. Treasury’s update outlines the following reforms:

1. Minimum tax (≥19%) on foreign earnings in year the profits are earned;
2. One-time tax on unrepatriated earnings at 14%;
3. Restrict deductions for excessive interest to curb earnings stripping;
4. Limit inversions by preventing firms form acquiring smaller foreign firms and changing their tax residence unless the change in tax residency in the new foreign jurisdiction has substantial economic activities and the operations in the foreign jurisdiction are more valuable than the U.S.
5. Tighten rules for cross-border transfers of intangible property
6. Close loopholes by expanding Subpart F rules.

These reforms are an update of the 2012 reforms suggested by the White House and Treasury.

Based on a comparison of the reforms, the 2016 reforms focuses more on the profit shifting/inversion/earnings stripping activities of large U.S. multinational corporations, and less on the incentives towards small business and clean energy.  The latest reforms are in addition to 2014 and 2015 rules to limit inversion transactions and earnings stripping.

2015 Rule Changes:  In Notice 2015-79, the US Treasury attacks inversions by imposing an 80% test and a substantial business test.  The 80% test states that the shareholders of the U.S. company must receive less than 80% of the resulting inverted company.  The substantial business test requires that the foreign company have substantial business activities in the jurisdiction in which it is incorporated.  If both tests are met, then a third test, the 60% rule, would also prevent inversions.  The 60% rule implies post inversion restrictions if the shareholders of the U.S. company receive 60% or more of the resulting company.

Notice 2015-79 also seeks to limit inversions by preventing the foreign company and U.S. company from setting up a new foreign holding company in a third unrelated jurisdiction which the U.S. company and foreign company would then be merged into the new foreign holding company.  Notice 2015-79 restricts this third country inversion by disregarding the new foreign holding company. 

Notice 2015-79 further limits inversions by taxing transfers of property (including intellectual property) or licensing of property from the U.S. company to its new foreign subsidiary or parent.  Prior to this change, transfers of property and/or licenses of property were not taxable to the U.S. corporation.  The new rule also has a similar provision for indirect transfers or licenses through partnerships by the U.S. company.

Finally Notice 2015-79 prevents certain shifting of former Controlled Foreign Corporation (“CFCs”) of the U.S. company without incurring taxation. 

2014 Rule Changes:  In Notice 2014-52, the U.S. Treasury imposed restrictions to inversions.  The 2014 Notice imposes new penalties for violating the 60% test in addition to 80% test (the existing prohibition of ownership of 80% of the new company by the shareholders of U.S. company).  Notice 2014-52 also restricts the transfer of assets between the U.S. company and the Foreign Company to meet the 60% and 80% tests.

Notice 2014-52 also limits the inverted company from utilizing cash of a CFC of the U.S. company without incurring tax.  Prior to the rule changes, the cash trapped in the CFC of the U.S. company could be loaned to the new inverted foreign company or any subsidiary of the new inverted foreign company without incurring tax.  With the rule changes, the trapped cash loaned to any inverted foreign company or subsidiary foreign company will be treated as a dividend to the U.S. company, regardless of whether the cash is ultimately used in the U.S.

Notice 2014-52 does not address earnings stripping, but merely notifies the public that additional rules may be adopted in the future.

Conclusion:  Together the new Treasury rules contained in Notice 2014-52, Notice 2015-79 and the 2016 reform updates (when enacted) appear to provide the antidote to the recent rash of U.S. multinational corporations inverting to more favorable tax jurisdictions.  Whether these changes are an effective approach to address inversions and earning stripping will depend on whether U.S. companies now have a disincentive to invert and strip the U.S. entities of its future earnings. 

Apparently, the changes have already blocked one previously announced inversion between Pfizer and Allergan. According to Forbes, the recent merger cancellation has also impacted the stock of both companies. 

What is noteworthy is that the U.S. Treasury has not attacked transfer pricing in the bulk of its 2014, 2015 and 2016 rule changes.  Does this mean the U.S. Treasury is leaving the battle of transfer pricing to the IRS with its cases against Microsoft, Amazon, Zimmer and Medtronic?

If you have specific/credible information about corporations avoiding the payment of tax through transfer pricing, inversions and earnings stripping, you can get involved in preventing/limiting the tax avoidance by filing an IRS tax whistleblower claim.  The IRS pays an award between 15% to 30% of the tax collected to a whistleblower with specific and credible information about a corporate taxpayer’s avoidance of tax (through transfer pricing, inversions and earnings stripping).   Contact us if you want to file a tax whistleblower claim.

Happy Tax Filing Day....

As today is April 15, 2016, it should be the usual filing deadline for your taxes or to request an extension; except this year the deadline was extended to April 18, 2016.  Why?  Emancipation Day (a day set aside for commemorating the signing of the Emancipation Act by Abraham Lincoln (normally celebrated on April 16, but this year since it is on a Saturday, it is recognized on April 15) is a legal holiday in Washington D.C.).  So, since the deadline falls on a legal holiday in Washington D.C., the tax deadline is extended to Monday.

The hot topic story today is Massachusetts Democratic Senator Elizabeth Warren’s introduction of a bill to make it unnecessary to file a tax return (for single people with simple returns, and in 2018 to extend to other filers).  According to the Huffpost both Democratic Presidential Candidates support Senator Warren’s bill, as do other Senators.

Two questions come to mind:

1. Is this bill different than Republican candidate Ted Cruz’s plan to abolish the IRS or Democratic Candidate Bernie Sanders’ plan?; and
2. How practical is Senator Warren’s proposal?

Question 1:  Is Senator Warren’s proposed plan different from Senator Cruz’s proposed plan or Senator Bernie Sanders’ proposed plan:

Simple answer is Yes.  A more detailed explanation is:

Senator Cruz is advocating a flat tax plan.  What this means, is that Senator Cruz is proposing to compress the current rates of personal income tax to one single rate of 10%, See paragraph 2 of his summary.  He states that the simple flat tax will eliminate the IRS as it exists.  He also proposes to levy a simple flat business tax at 16%.

Contrasting Senator Cruz’s plan is Senator Sanders’ plan (NOTE: Bernie’s plan is outlined in the FAQ’s for paying for medicare, about ¾ of the way down the page.  It seems that his plan is summarized at this unofficial site.)  He proposes to keep the graduated rates based on income.  His proposal seeks to raise the rates at the higher income levels.  For example, the current 33% bracket is for incomes between $230,451 through $411,500.  Bernie’s plan would make this band smaller, specifically for income between $230,451 through $250,000, and amounts over $250,000 would be in the next bracket.  The brackets are delineated for incomes up to $10,000,000 with the top rate at approximately 52%.

Senator Warren’s proposal merely seeks to eliminate the need for single filers, who meet the following criteria:

1. do not have deductions adjusting their income,
2. do not have to file a schedule C (income from a business operated or a sole proprietorship),
3. income only from wages, interest or dividends,
4. No dependents.

For the single filers that meet these 4 criteria, Senator Warren proposes that the IRS will develop a tax return preparation service that will file a return on single filers that opt in to the program.  Senator Warren’s proposal also seeks to expand the program for 2018 to: married individuals, heads of households, taxpayers claiming the earned income tax credit, taxpayer with dependents, taxpayers claiming the child tax credit, and taxpayers claiming deductions for non-employee compensation.  Senator Warren’s proposal also allocates money to pay for this “new” tax preparation service.

Senator Cruz’s plan and Senator Sanders’ plan are plans designed to re-think how we tax people and their income.  Senator Warren’s plan is a change to the implementation of the existing tax regime.

This leads to the second question, how practical is Senator Warren’s plan?

The IRS already has a form that simplifies the tax filing procedure.  The Instructions for 1040EZ provides a checklist for those eligible to use Form 1040EZ as follows (Note a taxpayer has to meet all of these before utilizing Form 1040EZ):

1. Your filing status is single or married filing jointly.
2. You do not claim any dependents.
3. You do not claim any adjustments to income.
4. If you claim a tax credit, you claim only the earned income credit.
5. You (and your spouse if filing a joint return) were under age 65 and not blind at the end of 2015.
6. Your taxable income (line 6 of Form 1040EZ) is less than $100,000.
7. You had only wages, salaries, tips, taxable scholarship or fellowship grants, unemployment compensation, or Alaska Permanent Fund dividends, and your taxable interest was not over $1,500.  If you earned tips, they are included in boxes 5 and 7 of your Form W-2.
8. You do not owe any household employment taxes on wages you paid to a household employee.
9. You are not a debtor in a chapter 11 bankruptcy case filed after October 16, 2005.
10. Advance payments of the premium tax credit were not made for you, your spouse, or any individual you enrolled in coverage for whom no one else is claiming the personal exemption.

Senator Warren’s proposal appears to check the same boxes as IRS 1040EZ (or at least her proposal for post 2018).  So why would we need another tax return preparation method that would mirror IRS 1040EZ.  Also why would need to spend more money and appropriations for developing a system to mirror the filing of an existing IRS Form, when only about 16% of the filing population could benefit from this “simplified plan”?

Year	Total # of Returns Filed	Total 1040EZ Filed	Percentage
2014	148,686,586	23,259,850	16%
2013	147,735,801	23,463,055	16%
2012	144,948,385	23,115,401	16%
2011	145,579,530	22,643,149	16%
2010	142,856,282	18,007,553	13%

Shouldn’t we spend the money it would take the IRS to develop this new proposed system in closing the “Tax Gap” ?

Happy Tax Filing Day!

If you have specific and credible evidence of taxpayers failing to file their tax returns and/or paying their tax liabilities in excess of $2,000,000 of taxes, interest and penalties you should consider filing an IRS tax whistleblower claim.  Contact us to assist you in filing your tax whistleblower claim to receive an award of between 15-30% of the amounts collected by the IRS on tax liabilities in excess of $2,000,000.

Panama Papers: Where are the disclosure of documents of the U.S. wealthiest individuals and their use of offshore trusts and companies to conceal their wealth?

As you may or may not know, on Sunday April 3, 2016, a disclosure of a Panamanian law firm’s records, dubbed the Panama Papers, exposed world leaders and wealthy businessmen/women and their associates that utilized offshore trusts and companies to hide assets from taxation in their respective foreign countries.  (See International Consortium of Investigative Journalists (“ICIJ”) article about the Panama Papers; USA Today article; the Guardian article explaining the Panama Papers; and the German newspaper, Süddeutsche Zeitung (SZ) (which allegedly initially exposed the Panama Papers), article explaining the Panama Papers.  See also an infographic about the world leaders allegedly exposed for their use of offshore entities created/maintained by the Panamanian law firm.  Note: a person “exposed” or “implicated” in the Panama Papers does not automatically mean they are or have done any wrongdoing.  See the Huffpost article with a simple reddit user’s explanation of the Panama Papers through the use of a piggy bank, showing that the use of offshore trusts and companies does not necessarily implicate wrong doing.

As part of the “fallout” from these disclosures, at least one world leader (Iceland’s Prime Minister) has already resigned from his position due to his connection with entities exposed as part of the “Panama Papers". See the Huffpost article about Prime Minister Sigmundur Davíð Gunnlaugsson’s resignation.

The Panama Papers and the exposure it is receiving, raises a serious question, namely: Where is the information about the U.S.’ wealthiest individuals and corporations that might have undertaken similar or same offshore trust and company creation schemes to hide/shield their wealth?  See Craig Murray’s blog post raising the same inquiry. Mr. Murray states that one reason the exposure focuses on Russia and other UN sanctioned countries, is because the ICIJ is funded by the U.S. Center for Public Integrity which is further funded by various U.S. private foundations.  Mr. Murray posits that these entities would never expose the western world’s use of such entities. 

The IRS has estimated that U.S. corporations and wealthiest individuals have been avoiding the payment of taxes in the amount of $385 billion for 2016. Therefore, it begs the question, Are U.S. corporations and individuals utilizing structures implemented by the Panamanian law firm or similar entities in tax haven jurisdictions to generate the Tax Gap as estimated by the IRS?  This inquiry, as stated by Mr. Murray, suggests that the people behind the release of the Panama Papers may be hiding the exposure of “western” corporations and individuals, which may have undertaken the use of the same offshore strategies.

Perhaps the Senate Permanent Subcommittee on Investigations which has begun the process of exposing the U.S. corporations through its investigations of the largest U.S. corporations with offshore profit shifting, including: Microsoft and Hewlett Packard; Apple; and Caterpillar.  PSI also held a hearing on the offshore banks that have assisted individuals in hiding their assets in offshore jurisdictions and evading taxes. 

With the release of the Panama Papers, it would be interesting to see if the other documents by the Panamanian law firm would implicate the entities and individuals investigated by PSI or other prominent U.S. corporations or individuals who have utilized offshore structures to undertake the same tax avoidance schemes identified by PSI and IRS.  Since we do not have access to the source material and can’t search the documents which were recovered, we may never find out if there are other U.S. corporations or individuals.

Another reason for determining whether the Panama Papers expose U.S. entities or individuals is apparently the U.S. is now considered the number 3 tax haven because of its banking secrecy practices.  See the AP article regarding the U.S. as a tax haven for other countries’ tax dodgers.  Therefore, the exposure of U.S. entities or individuals would help IRS and other countries’ tax governing bodies limit/prevent tax avoidance/evasion. 

If you have specific and credible information of individuals and/or corporations utilizing structures described in the “Panama Papers” and would like to file a claim for an award with the IRS tax whistleblower program, please contact us.