Where does the money go? - January 03, 2016

Where does the money go?

The biggest U.S. (and other) companies are continually attacked by local governments because they are keeping large amounts of money abroad. The main reason to that is to cut down the taxes they pay, and obviously keep their profits higher. This phenomenon not only exists in the U.S., but the biggest companies there sure know a thing or two about tax optimization: the 500 biggest companies in the U.S. keep a total of $2.1 trillion overseas.

Among the biggest firms, the tech companies have a leading role in keeping money in tax havens. The IT companies alone have the quarter of that $2.1 trillion. The biggest of them is Apple, which has $181 billion offshore, but Microsoft, IBM and Google are doing the same thing as well.

Infographic: U.S. Tech Companies Hoard Billions in Offshore Tax Havens | Statista

As the authors of the study (the Citizens for Tax Justice and the U.S. PIRG Education Fund) note: although the companies have less and less subsidiaries in tax havens since 2008, they are hoarding more and more money abroad. But having less subsidiaries doesn’t mean they do not have a lot of them. As the study states: at least 358 companies of the Fortune 500 have overseas subsidiaries, and altogether they have 7,622 of them. That means one company has 21 subsidiaries on average.

But where does all this money go?

One of the main target of the companies is Ireland, which has very special tax regulations: the local laws allow Irish companies to be tax residents in different countries, even tax havens.

The method used by big companies needs two Irish companies (that’s why it’s called Double Irish), one of them is tax resident in a tax haven, the other is tax resident in Ireland. The first has the non U.S. rights of the main company (like Apple, Microsoft, etc.) and licenses it to the “real” Irish company for royalties or other fees.

To put it simply: the “real” Irish company earns the money using the licenses, but on the other hand it also pays expenses to the tax haven company, which is the holder of the rights. This way the “real” Irish company generates tax-deductible expenses, and it will only have to pay a 12.5% of tax after the remaining money which is not transferred to the tax haven company.

So what is a tax haven?

After knowing how this system works, there is another question: what are the real offshore countries? Some believe that Ireland is a tax haven on its own, but the country always protests against that label.

According to Z/Yen, in 2014 the leading offshore centres were the British Virgin Island, Gibraltar and the Cayman Islands. They used several measurements to find the most attractive offshore centres, and after the work, they published their list. Ireland was not on it.

Statistic: Leading offshore financial centers worldwide as of June 2014 | Statista

Why is this good?

As we saw, companies still pay some tax after their earnings, but not as much as they would have to pay in the U.S. Corporate tax in Ireland is the aforementioned 12.5%, while in the States it is 39%, however, multinational corporations usually have to pay 28% corporate tax. It is obvious that they can save a lot with these techniques.

The main problem of the U.S. (and for other countries) is that if large companies use offshore subsidiaries, they can avoid paying tax altogether in their home state, since the tax money goes to Ireland for example, instead of the States. What America tries to do in this case is offering corporations a smaller tax rate if they bring home their money. In this case the government is talking about 5-10% tax after the money brought back from offshore subsidiaries, but that is still more than what they pay now.

In the future this may change, since every government tries to fight against offshore techniques. What’s more, sometimes all this money hoarded abroad is not good for the companies either. Apple, for example, has such a great amount of money outside of the U.S., it faces problems when it tries to spend it without paying the taxes in the U.S.