Inverted Logic on Corporate Inversions

[This is part of an ongoing series entitled “The Case for Tax Reform,” which examines the importance of reforming the outdated tax code, and how achieving that goal will advance economic growth, jobs, and prosperity.]

As the subject of comprehensive tax reform is on the front burner of national debate, Sen. Dick Durbin and Rep. Rosa DeLauro are seeking to single out and punish a small number of companies that have moved their headquarters outside the U.S. These so-called “inverted” U.S. companies still abide by all domestic content “Buy American” standards and pay taxes on income earned in the United States like every other company that operates within U.S. borders.

As a result of our antiquated worldwide international system of taxation, American multinational companies face the highest tax rate in the developed world and are subject to double taxation on overseas earnings. Some businesses, seeking to compete with foreign competitors, try to regain an equal footing by essentially becoming a foreign domiciled company, aka “inverting.” By creating or buying a foreign parent company, a business can escape U.S. taxation on worldwide income (while continuing to remit all tax on monies owed on U.S. earnings), and thus compete on a more globally-level playing field. This is all perfectly legal.

By debarring qualified companies from contracting with the federal government, the entire premise of full and open competition and best taxpayer value would be undermined. Imposing punitive measures such as the ones proposed by Sen. Durbin and Rep. DeLauro would not only politicize the acquisition system and usher in a new era of protectionism but would also place at risk the jobs of thousands of American workers who provide goods and services to the U.S. government.

The complexity of modern supply chains requires flexible and worldwide access, no more so than in the defense industry. Military equipment built by U.S. firms have extensive international subcomponent sourcing, often incorporating products and raw materials from allies like Canada. Frequently overlooked by policymakers is the increasing reliance of the government upon the commercial sector for goods and services. Unlike earlier eras when federal agencies like the Department of Defense (DOD) could dominate entire industrial sectors, commercial research and development and off-the-shelf items are essential for agencies to currently function and execute their respective missions.

However, for those members of Congress decrying the state of federal procurement, foreign sourcing remains small by any comparison, especially when considering in-country contracting for many basic consumables for permanently stationed as well as rotational U.S. forces in Europe and the Middle East. For example, in fiscal year 2013, only 6.4 percent of all U.S. military spending went to foreign entities.

Punitive proposals that seek to impose more restrictive barriers of entry for federal contractors would take the wrong approach. Rather, Congress has the opportunity to enact reforms that make the United States a more favorable location for investment, innovation, and jobs. To achieve this, we need comprehensive, pro-growth tax reform that lowers tax rates for all businesses and provides an internationally competitive tax system.