The Transfer Pricing Scandal

Bloomberg Businessweek reporter Jesse Drucker does a great job explaining how some of our greatest minds in tax law spend their days: helping companies dodge $60 billion in taxes annually via “transfer pricing.” This practice involves booking profits in tax havens in order to avoid paying where products are actually sold:

Transfer pricing lets companies such as Forest, Oracle Corp., Eli Lilly & Co. and Pfizer Inc., legally avoid some income taxes by converting sales in one country to profits in another — on paper only, and often in places where they have few employees or actual sales. . . . The anti-tax activists of the national Tea Party movement haven’t put transfer pricing on signs in their demonstrations, yet it deserves attention, said Mark Skoda, chairman and founder of the Memphis Tea Party. “I find the issue of corporations paying no tax or little tax in the United States, when the majority of their operations are here, problematic,” Skoda said in an interview. “The problem is that this is sort of the level of micro that people don’t look at.”

Senator Carl Levin (D-Mich.), the chairman of the Senate Permanent Subcommittee on Investigations, calls transfer pricing “the corporate equivalent of the secret offshore accounts of individual tax dodgers.” Senator Byron Dorgan (D-N.D.) calls for scrapping the IRS rules that allow this “unbelievable scandal.” Enforcement of these rules, according to Dorgan, is impossible. “It’s the equivalent of asking the Internal Revenue Service to connect the ends of two different plates of spaghetti.”

It’s funny how rarely (if ever) I’ve heard about this issue from the great deficit hawks of our time. While austerity is constantly preached for the poor, these schemes drain billions from the treasury. Perhaps budget cutters consider tax havens to be an arcane law enforcement issue. But some authors say that tax havens, far from being an aberration in an era of capitalist globalization, are part of its core logic:

In Tax Havens[: How Globalization Really Works], Ronen Palan, Richard Murphy, and Christian Chavagneux provide an up-to-date evaluation of the role and function of tax havens in the global financial system-their history, inner workings, impact, extent, and enforcement. They make clear that while, individually, tax havens may appear insignificant, together they have a major impact on the global economy. Holding up to $13 trillion of personal wealth—the equivalent of the annual U.S. Gross National Product—and serving as the legal home of two million corporate entities and half of all international lending banks, tax havens also skew the distribution of globalization’s costs and benefits to the detriment of developing economies.

The book’s webpage at Cornell University Press puts the point even more starkly:

More than simple conduits for tax avoidance and evasion, tax havens actually belong to the broad world of finance, to the business of managing the monetary resources of individuals, organizations, and countries. They have become among the most powerful instruments of globalization, one of the principal causes of global financial instability, and one of the large political issues of our times.

That’s one reason why I have little faith the Congress will ultimately do much to remedy the indefensible carried interest tax dodge, which “allows private equity firm managers to pay tax on a large portion of their compensation at the 15 percent capital gains rate, rather than at the 35 percent top income tax rate that would otherwise apply.” Speaking of the financial sector generally, one insider concludes “the system is built to be gamed.” Extant gains by the very wealthy under this policy have effectively made them too powerful to challenge. To the extent there ever was a “war between states and corporations,” it’s over, and those at the very “top of the value chain” are celebrating victory.

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