Gaming the tax system through the inversion mechanism

US companies, faced with one of the highest rates of corporate tax in the world - 35 per cent – have long sought to minimise their tax bill. One way has been for a company to move its domicile overseas, by merging with a foreign company and reincorporating in a low tax jurisdiction. Ireland, with a 12.5 per cent corporate tax rate, has proved a favoured location. The tax avoidance move, known as an inversion, has become increasingly popular with US multinationals. Since the start of 2013 some 13 inversion deals – worth $178 billion (€138 billion) – have been announced. And more are under consideration.

President Obama has accused American companies that have chosen to invert of "gaming the system", and of cheating their fellow taxpayers. Efforts by Democrats and Republicans in Congress to reform the tax code and to agree legislation that would limit the use of inversion have come to nothing. The Obama administration, clearly frustrated by the stalemate on tax reform, has used its executive power to curb the use by companies of inversions. The US Treasury has changed the rules, and made this tax avoidance measure a far less attractive option. As the Treasury secretary Jack Lew said: "For some companies considering deals, today's actions will mean that inversions no longer make economic sense". Some, however, have questioned whether the administration has the legal authority to do so.

Previously when a US company merged with an overseas company, which accounted for 20 per cent of the new inverted entity, it could incorporate abroad, and get the benefit of lower taxes. As the treasury’s new rules now make it harder for US companies to satisfy the requirements for an inversion, its appeal as a tax avoidance device is much reduced. For Ireland, the US action to stop American companies switching domicile to cut their tax bill coincides with the publication last week of the Organisation for Economic Co-operation and Development plans for reform of international corporate tax law.

Ireland has gained little from US companies that relocate to Ireland, and use inversion as a tax avoidance measure to cut their tax bill. Minister for Jobs, Enterprise and Innovation Richard Bruton has made it clear that " Ireland does not promote such investments, nor do we want such investments".

The Department of Finance has said it is studying how inversions – that are tax-driven and of little benefit to the domestic economy – might be stopped. For the US the best solution to its tax avoidance problem is the most obvious. It is also the one on which a divided Congress cannot yet agree: namely, to bring the highest rate of corporate tax in the world down to a much more competitive level – 25 per cent – and so ensure US corporations have less reason to seek a foreign domicile to minimise their tax bill.