When Apple in late April sold $17 billion in bonds to fund a planned return of capital to shareholders, the move raised eyebrows for two reasons.
First, it was the first time that Apple, which is reportedly flush with $145 billion in cash holdings, had sold bonds in nearly 20 years.
Second, why would a company with such large cash holdings even need to borrow $17 billion?
The answer to that question lies at the heart of one of the most contentious tax issues today: Should the U.S. cut the tax rate charged on profits companies earn overseas in a bid to drive jobs and economic growth in the U.S.?
For Apple, the decision to borrow the money was a no-brainer. If it had brought $17 billion from its overseas cash holdings into the U.S., it would have had to pay corporate taxes of up to 35 percent, or just shy of $6 billion. However, given historically low interest rates, Apple was able to issue six different securities with interest ranging from 0.45 percent for a three-year note to 3.85 percent for a 30-year bond, according to an April 30 report in The New York Times.
Apple, Cupertino, Calif., is just the highest-profile example of how U.S. tax laws are pushing companies, particularly in the IT sector, to keep huge amounts of cash overseas instead of repatriating it, or bringing it into the U.S., where it could be used for corporate purposes.
It is an issue that has divided interested parties into opposing camps.
On the one side are the large U.S.-based multinational companies that refuse to bring their overseas earnings home unless the U.S declares a tax holiday, reduces overall corporate taxes, or adopts a tax system similar to other developed countries, which have adopted what is known as a territorial tax rate in which income earned in foreign countries and taxed in those countries is taxed in the home country at a modest rate of 2 percent or less, and sometimes at 0 percent.
On the other side of the issue are governmental and other officials who argue that cutting taxes on profits earned overseas would essentially amount to a public handout to companies that may have moved parts of their operations overseas specifically to escape paying the higher taxes.
Jennifer Blouin, associate professor of accounting at the Wharton School of the University of Pennsylvania, explained the overseas tax scenario in more detail to CRN. Large U.S. multinationals pay 2 percent to 3 percent of their overseas income in taxes to those countries where the income was earned, and then have to pay 35 percent when those earnings are repatriated, less what they paid in overseas income taxes. "So if they bring that cash to the U.S., they have to pay about one-third in taxes," Blouin said.
Corporations with substantial overseas cash holdings are hoping to see the tax code reformed in ways to make it easier to bring cash into the U.S., Blouin said.
Reforming the tax code has been a big issue for these companies, and the outlook for change is now better than it has been for years, Blouin said. "Both sides of the aisle are now talking about it," she said. "The fact that they're talking about it gets me excited. But it will be difficult to get any overhaul in the next couple of years."
The issue of how overseas cash is taxed is only part of an overall tax reform U.S. businesses hope to see, Blouin said.
"Next year, they would like to see a reduction in the overall tax rate, which would pull in multinational tax reform," she said. "But multi-national taxes are not leading the reform."
HOW MUCH CASH IS PARKED OVERSEAS?
Moody's Investors Service in March reported that U.S. non-financial companies, specifically not banks or insurance companies, had $4.45 trillion in cash at the end of 2012, up 10 percent from late 2011. Of that cash, about 38 percent of the total, or $556 billion, is held by tech companies.
The amount of cash those companies had overseas by the end of 2012 reached $840 billion, or about 58 percent of their total cash holdings, Moody's reported. That was up from $700 billion at the end of 2011.
Using Moody's data, Forbes in March 2013 reported that Apple had the largest cash holding at $137.1 billion, of which 69 percent was held overseas. That was followed by Microsoft with a total cash holding of $68.3 billion, of which 89 percent was held overseas, and Google with $48.1 billion, 65 percent of which was overseas.
For the U.S. IT industry, Microsoft currently has the most untaxed overseas profits at $76.4 billion, according to Bloomberg, which in August ranked undistributed earnings held outside the U.S. for the 70 companies in the S&P 500 Information Technology Index and five companies in the S&P 500 Internet & Catalog Retail Index.
Microsoft was followed by IBM at $44.4 billion, Cisco Systems at $41.3 billion, Apple at $40.4 billion and Hewlett-Packard at $33.4 billion, according to Bloomberg.
CRN asked Apple, Microsoft, Cisco, Google, Dell and HP for updated
information and comments on this story. Cisco and HP provided updated information on overseas cash numbers. Cisco and Microsoft responded to CRN, while the other companies declined to comment or did not respond.
MULTINATIONAL COMPANIES CLAMOR FOR TAX REFORM
Marty Wolf, president of MartinWolf, a San Ramon, Calif.-based mergers and acquisitions advisory firm, told CRN the current tax code is "anachronistic" and needs to change.
"The government wants people to stop smoking, so it raises taxes on cigarettes," Wolf said. "If you want to hurt business, tax their overseas revenue."
Cutting the corporate tax rate on overseas income would lead to an increase in U.S. employment, a rise in corporate dividends and in the taxes investors pay on those dividends, and an increase in business and in mergers and acquisitions, Wolf said.
"If you are a non-U.S. company, you can use all your profits to do business," he said. "A U.S. company can't."
Large U.S. multinationals in the IT industry more than agree.
A spokesperson for San Jose, Calif.-based Cisco told CRN the company holds about 80 percent of its $47 billion-plus cache overseas and that Cisco would love to bring that money into the U.S., but not at the current tax rate.
Cisco and its peers are asking for a system that would encourage the reparation of an estimated $1.6 trillion in overseas cash to the U.S., not discourage it, the spokesperson said. Lowering the tax rate on income earned overseas would let U.S. companies more easily invest in R&D and other areas, as well as offer investors more stock buybacks and dividends.
"About 85 percent of investors in U.S. corporations are in the U.S., so with buybacks or dividends, 85 percent would be going right back into U.S. investors' pockets," the spokesperson said.
If the U.S. were to adopt a territorial tax system similar to that of most developed nations, the result would not only be more cash brought back for investing in the U.S., but it would improve U.S. companies' competiveness with their foreign counterparts, the spokesperson added.
"Holistically, it's about competition," the spokesperson said. "It's a global industry. U.S. companies don't want to go to market with a lower ability to compete because of the tax rates."
A Microsoft spokesperson, meanwhile, referred to a statement the company made in September 2012 to the Permanent Subcommittee on Investigations of the U.S. Senate Committee on Homeland Security and Government Affairs in which William Sample, corporate vice president for worldwide tax at Microsoft, Redmond, Wash., wrote that the current tax system creates a "disincentive" for U.S. investment.
"We believe the U.S. should reform its tax rules to support the ability of worldwide American businesses to compete in global markets and invest in the U.S.," Sample wrote.
Apple, in a May 2013 statement to the same subcommittee, wrote that lowering corporate income taxes and implementing a "reasonable" tax on foreign earnings would "stimulate the creation of American jobs, increase domestic investment and promote economic growth."
Cisco Chairman and CEO John Chambers and Cisco Co-President Safra Catz in 2010 jointly penned a letter in The Wall Street Journal that said U.S. corporations are sitting on large cash balances because they "can't spend their foreign-held cash in the U.S. without incurring a prohibitive tax liability."
Chambers and Catz wrote that taxing foreign earnings at 5 percent could result in $1 trillion becoming available to stimulate the economy, and could result in $50 billion in federal tax revenue to help fund new jobs.
"For example, Congress could use it to give employers -- large or small -- a refundable tax credit for hiring previously unemployed workers (including recent graduates)," they wrote. "The tax credit could equal up to 50 percent of a worker's first-year and second-year wages. … Such a program could help put more than 2 million Americans back to work at no cost to the government or American taxpayers. How's that for a good idea?" the letter stated.
THOSE AGAINST CHANGING THE TAX CODE
While the Chambers and Catz proposal may or may not be a good idea, it is not a new idea. It was in fact tried in 2004 when the U.S. declared a one-time tax holiday on repatriation of foreign earnings as part of the American Jobs Creation Act.
The main beneficiaries of that tax holiday were the multinationals who took advantage of it to repatriate about $300 billion in 2005 compared with an average of $60 billion per year in the previous five years, according to a report by the National Bureau of Economic Research.
Congress said such a tax holiday would create 500,000 U.S. jobs over two years. Furthermore, a JPMorgan Chase Bank confidential survey of companies found they planned to use the repatriated funds to "pay down debt, finance capital spending, and fund research and development, venture capital, and acquisitions."
According to the National Bureau of Economic Research, however, every $1 in repatriations actually led to a 79-cent increase in share repurchases and an increase in dividends of 15 cents despite the fact that such use of the funds was not allowed by the tax holiday.
So while U.S .multinationals see a boost to the U.S. economy should the country adopt a territorial tax system or in some other way cut taxes on foreign income, the U.S. government tends to disagree.
A September 2012 report from the U.S. Senate Permanent Subcommittee on Investigations titled "Offshore Profit Shifting and the U.S. Tax Code" noted that while the U.S. corporate tax rate was high compared with other nations' rates, U.S. companies had multiple ways to mitigate those taxes, including taxes on overseas income.
As a result, corporate tax, which in 1952 accounted for 32.1 percent of all federal tax revenue, now accounts for 8.9 percent, according to the report. "This decline in corporate tax revenue is due in part to the shifting of mobile income offshore," according to the report.
In that report, the subcommittee wrote that the U.S Department of Treasury found that foreign profit margins, not higher foreign sales, led to the increase in overseas profits.
Furthermore, the fact that nearly half of offshore funds are actually in U.S. bank accounts or invested in U.S. assets raises questions about whether they can be considered as reinvested overseas, according to the report.
Sen. Carl Levin (D-Mich.) in September 2012 wrote in his report to the subcommittee that U.S. companies have found multiple ways to bring overseas cash to the U.S. by exploiting loopholes and lax IRS enforcement.
For instance, deferral of taxes on foreign income is not allowed for such passive income as royalty, interest or dividends, but U.S. corporations have ways to avoid that rule, Levin wrote.
Corporations also use a stream of short-term loans to the parent company, which are permitted by the rules, to fund U.S. operations and acquisitions, he wrote.
Some corporations also avoid reporting in their financial statements the future tax bill they face when repatriating funds by declaring offshore earnings as reinvested offshore, Levin wrote. "On the one hand, these companies assert they intend to indefinitely or permanently invest this money offshore," he wrote. "Yet they promise, on the other hand, to bring it home as soon as Congress grants them a tax holiday. That's not any definition of 'permanent' that I understand."
Kimberly Clausing, professor of economics at Portland, Ore.'s Reed College, wrote in late 2012 that adopting a territorial tax system, instead of bringing more overseas cash into the U.S. for investment and job creation, would actually "exacerbate incentives for U.S. firms to move economic activity abroad."
Such a move also would encourage job expansion overseas rather than in the U.S., Clausing wrote. Based on 2008 data, she wrote, "Under a territorial tax system, the tax incentive to locate jobs in low-tax countries would increase significantly, and I calculate this would increase employment in low-tax countries by about 800,000 jobs."
MANAGING THE OVERSEAS CASH
For now, IT multinationals are using a variety of ways to deal with overseas cash.
As noted earlier, corporations are permitted to borrow money from their overseas subsidiaries for 30-day or 60-day periods, with some using those loans as a low-cost way to get money to run day-to-day operations.
For many companies, overseas cash is used to fund the day-to-day operations of their foreign subsidiaries, and help them with mergers and acquisitions. Other cash is used for R&D or other investments that, depending on how defined, may or may not actually qualify those funds as being deferred for U.S. tax purposes.
Another major use of overseas cash is to acquire foreign companies.
Microsoft, for instance, did that for its 2011 acquisition of Skype, and plans to do so when it acquires Nokia's device and services business. HP used overseas cash to help fund its Autonomy acquisition.
HOW DO SOLUTION PROVIDERS SEE IT?
International business has become a quagmire for many IT companies, said Keith Norbie, director of server, virtualization and storage for the Eastern U.S. for Technology Integration Group (TIG), a San Diego-based solution provider.
Therefore, it's no surprise to see so much cash stuck overseas, Norbie said.
"It's hard to see why the government taxes U.S. companies to the point of stifling its own economy," he said.
Herb Hogue, senior vice president of services at En Pointe Technologies, a Gardena, Calif.-based solution provider, said he has been watching IT companies do more and more innovation offshore.
"Initially, the move offshore was to lower the cost of human capital," Hogue said. "Now there's more investment in IP [intellectual property] overseas because those companies need to use the cash they have there. All the large manufacturers have built not only manufacturing operations but also R&D operations overseas, especially in the Asia-Pacific region."
Holding all that cash overseas changes how IT companies innovate, Hogue said.
"We used to innovate as a country," he said. "Now we innovate as the world. This leads to issues. Chinese companies innovate in China, but less in the U.S. because of geopolitical issues. Europeans see the U.S. in the same light with the recent revelations about U.S. spy operations. As a technologist, it's a little disconcerting to see this."
PUBLISHED SEPT. 23, 2013