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Goldman Warns Of "Tax Inversion" M&A Euphoria

Tyler Durden's picture




 

Corporate “inversions” have been around since the 1980s in various forms but have come back into focus recently, but as Goldman's Alec Phillips notes have recent regained popularity as world tax rates grow ever more divergent. On the back of several high profile 'proposed' deals, a certain level of hysteria has taken hold amid potential targets but the issue has drawn enough attention that politicians are once again considering intervening. As Goldman warns, however, companies considering these transactions may now hesitate in light of the possibility that the expected tax benefits will be undone (and expect broad-based tax reform to reduce, if not eliminate, any advantages).

 

Via Goldman Sachs,

US companies have been looking abroad to lower their US tax bills

Corporate “inversions” have been around since the 1980s in various forms but have come back into focus recently. It started with US-based companies establishing entities in a low-tax jurisdiction—often Bermuda or the Caymans—which would then become the parent company of the existing US-based corporate group. By doing this, income that their foreign subsidiaries earned would be kept uninvolved with the complex US tax code and, in some cases, there were tax benefits for US earnings as well.

As corporate tax policies became more advantageous in many other countries than the US, inversions became more common. The first wave occurred more than a decade ago and ultimately reached a political tipping point in early 2002 after several industrial and energy firms announced deals around the same time. After lawmakers proposed tightening the rules, it took Congress two and a half more years before it enacted changes. Several more companies inverted in the meantime.

Though 2004 rules still govern the treatment of deals today, if the post-merger company does not have either: (1) at least a 20% change in shareholder ownership compared with the prior US company; or (2) “substantial” business activities in the foreign jurisdiction (e.g., 25% of employees, assets, or income), the newly foreign company continues to be treated as a US company for tax purposes.

A driver of cross-border M&A

The rules enacted in 2004 discouraged intra-company inversions but created a new incentive for cross-border M&A. Since realising tax benefits from a transaction now requires at least a 20% change in ownership, US firms have opted to combine with smaller firms in tax-friendly jurisdictions instead. An added tax benefit is that, in some scenarios, these cross-border transactions can create flexibility to use overseas cash that, for tax reasons, has not been repatriated.

Policy changes could threaten deals…or accelerate them The issue has drawn enough attention that politicians are once again considering intervening. The annual budget President Obama submitted to Congress in March 2014 proposed to further tighten the restrictions on deals closed after year-end 2014, by denying any tax benefits from transactions if: (1) less than 50% (rather than 20%) of ownership changes; or (2) if the post-merger firm has substantial business activities and is managed in the US.

 

More recently, following recently announced cross-border M&A activity, several lawmakers have proposed changes along the same lines as the President’s budget. However, the latest proposals would deny tax benefits to deals closed after May 8, 2014.

Companies considering these transactions may now hesitate in light of the possibility that the expected tax benefits will be undone. However, if the prior political response to inversion transactions is any guide, it could take Congress a couple of years to enact the changes, and even if a retroactive effective date is included, it may be later than originally proposed. Thus firms face a choice: call off deals they are contemplating, or accelerate them to get ahead of any potential cut-off date.

Waiting for tax reform

While passage of standalone legislation to block inversions seems unlikely this year, eventual tax reform legislation is likely to affect inversion transactions in two ways. First, Congress is likely to address the issue directly in broader tax reform legislation if it has not already. Second, any broad tax reform plan that Congress enacts is likely to lower the US corporate rate and might also reduce the incentive to hold cash abroad rather than repatriating it. This would reduce, though probably not eliminate, the incentive to undertake these deals. We expect broad-based tax reform to become more of a focus in 2015, but enactment of major change may take another few years.

 

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Wed, 06/11/2014 - 17:57 | 4846321 TeamDepends
TeamDepends's picture

Do what he says, DO WHAT HE SAYS!!!

Thu, 06/12/2014 - 03:17 | 4847641 Oracle 911
Oracle 911's picture

If the vampire squid is warning of something, the shit get real soon.

Why? Because the tax evasion i.e. falling tax revenues (the serfs are already overtaxed) will make the US guberment unable to service its dept. Well I think it is already happened, but what I know.

Wed, 06/11/2014 - 18:04 | 4846335 DoChenRollingBearing
DoChenRollingBearing's picture

Corporate tax rates are 30% and 35% in Peru.

Wed, 06/11/2014 - 21:45 | 4847062 Cthonic
Cthonic's picture

You just don't have enough foreign subsidiaries to take advantage of transfer mispricing and reinvoicing.

https://en.wikipedia.org/wiki/Double_Irish_arrangement

http://r.reuters.com/xuv38t

Wed, 06/11/2014 - 18:04 | 4846338 wisefool
wisefool's picture

Why would tax reform majorly affect what a corporation is supposed to do? The typical articles of incoproation of major corps does not read

"Spend every waking minute capturing academia, lobbyists, government and politicians to create an 80,000 page  tax system where we pay nothing and everyone else ... including our working class servants ... employees .... are expected to carry the $2 Trillion expenses of state federal and local governments.  Group with other corporations in this cause if needed. After we do that we make fine quality widgets ________. Just like how Warren Buffet and Bill gates got rich"

... or do thay? I better call BDO to find out.

Wed, 06/11/2014 - 18:43 | 4846426 kchrisc
kchrisc's picture

First the DC US and their bankster masters exported the manufacturing base via cheap “printed” capital and "death regs.", now they are exporting the corporations themselves via the tax code. Add in that during the Bundy ranch treason we learned that the pols, crats and banksters are selling the American country to foreign powers.

"...will deprive the people of all property until their children wake up homeless on the continent their Fathers conquered..."

                                                                                                                                                                            Maybe Jefferson

See you on the battlefield, as I am not going "camping."

Wed, 06/11/2014 - 19:53 | 4846680 yrbmegr
yrbmegr's picture

Who cares about the "statutory rate"?  Nobody pays that rate.

Wed, 06/11/2014 - 21:20 | 4847006 wisefool
wisefool's picture

Medical Doctors, Nurses, Engineers, Scientists, etc. pay the statutory rate because those low value producers only bring labor and brains to civilization, and are generally paid on salary. easy peasy for the IRS to get at.

They dont have the time or need for itemized deductions to start a cupcake store, 80% overhead "charity", think tank, car dealership, solar farm with solyndra panels, house flipping outfit, etc. You know the things civilization really needs in the long term.

/sarc

Wed, 06/11/2014 - 21:31 | 4847040 Cthonic
Cthonic's picture

  "More recently, following recently announced cross-border M&A activity, several lawmakers have proposed changes along the same lines as the President’s budget. However, the latest proposals would deny tax benefits to deals closed after May 8, 2014."

Aren't ex post facto laws expressly forbidden by the Constitution?

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