The American Jobs DESTRUCTION Act of 2004

[Pat]

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I posted a few moments ago under “Reference Materials” yesterday evening’s transcript of McNeil-Lehrer (aka The PBS News Hour With Jim Lehrer) regarding how prominent economics professors regularly author papers and give Congressional testimony that they know to be false and for which they were paid by lobbyists and their clients to mislead Congress.

[Though Congress probably does not need to be misled -- they probably only require a “fig leaf” to provide “deniability”!!!]

The reaction of more than a dozen of our weekly e-mail recipients to Q&A-14 has dragged back to center stage our 2/14/2008 study of “the best government money can buy” as set forth in “The Squandering Of America: How The Failure Of Our Politics Undermines Our Prosperity” (Alfred A. Knopf 2007) by Richard Kuttner who was a columnist for Business Week for more than two decades and in “Homo-Politicus: The Strange And Scary Tribes That Run Our Government” (Doubleday 2008) by long-time Washington Post columnist Dana Milbank -- both of which books we read for our 2/14/2008 meeting.

[Please see the Suggested Answers to the Short Quiz and the “Reply” posted thereunder by John Karls responding to the reactions to Q&A-14.]

Accordingly, it seemed relevant to post here the original comments that John Karls posted for our 2/14/2008 meeting concerning the American Jobs DESTRUCTION Act of 2004 as “Exhibit C” of what Richard Kuttner and Dana Milbank were describing.

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Exhibit C – Exempting Out-Sourcing Profits from Income Tax -- 317 Views As of 5/5/2011 Replication Here
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As Senior International Tax Partner (Technical) of Ernst & Young International 1988-1997 as well as, among other things, Chair of the American Bar Association Tax Section’s Committee on Foreign Activities of US Taxpayers Committee (the country’s top 300 international tax attorneys with 22 working subcommittees) 1994-96, I can attest to the following.

Virtually the sole reason why the economies of India and China have been growing is the “out sourcing” of American and European jobs to those locations.

American and European companies establish foreign-incorporated subsidiaries (for American companies, the typical choice would be a “non-resident” Singapore-incorporated entity) to capture virtually all of the world-wide profits of these multi-national companies.

The foreign-incorporated subsidiaries then contract to have their products manufactured in China, India, etc., to their specifications. The apparent “growth” of India, China, etc., has nothing to do with India, China, etc., other than their cheap labor – it only has to do with more and more American and European companies out-sourcing more and more of their operations to those countries.

European countries typically exempt the earnings of foreign subsidiaries from home-country income taxation.

In order to compete “on a level playing field” American companies had to find a way for their out-sourcing profits to be exempt from American taxation.

And let’s not be adolescent about this – American companies are largely owned by pension funds and university-endowment funds and mutual funds, so our liberal inclination to demonize corporations is largely screwing (pardon my French) American workers and American universities and small investors.

Using a foreign subsidiary such as a non-resident Singapore company shields the out-sourcing profits from American income taxation only until they are repatriated as dividends.

Under “generally-accepted accounting rules” (“GAAP”), the U.S. income tax that is payable upon repatriation is NOT shown as an accrued expense on the income statement and the cumulative total of such taxes (including prior years) is NOT shown as a deferred income tax liability on the balance sheet – if the earnings are “permanently reinvested” abroad. The “permanently reinvested” test is an extremely low bar, usually requiring only a few pages of “pipe dreams” regarding potential acquisitions, expansions, etc.

In the meantime, the funds are “permanently reinvested” in the commercial paper of unrelated U.S. companies (acquiring the commercial paper of an affiliate would be treated as a “constructive dividend” triggering the U.S. income tax).

This, of course, led to more than 100 of the largest U.S. companies sporting balance sheets that caused financial commentators to label such companies as Microsoft a “bank” rather than a software manufacturer. (Though very low-tech profits are also out-sourced as we know from the all the publicity in the late 1990’s about how there was manufactured abroad the clothing line of Kathy Lee Gifford, third wife of NY Giants Hall-of-Fame Linebacker Frank Gifford and Regis Philbin’s co-host for 15 years.)

One trick that had to be played in this regard was to convince all of the stock analysts that such large “cash hoards” were a sign of financial strength – rather than temporary corporate constipation caused by US corporate-level taxation if the funds were repatriated. No problem convincing them!!!

However, in recent years, the imbroglio was “coming to a head” because the cash-bloated balance sheets of the companies were causing CEO’s to fret about performance standards when compared to other companies that did not have the overwhelming majority of their assets tied up in commercial paper of unrelated companies.

No problem!!! By 2004, after only a couple years of effort by the lobbying group organized by Price Waterhouse and shepherded by Washington lobbyist Bill Archer (former Chairman of the House Ways & Means Committee), the group had obtained special legislation for a special one-year tax rate of 5.25% for liquidating the commercial paper of unrelated U.S. companies and dividending the proceeds to the U.S. parent – rather than the regular 35% rate.

As usual, the pols engaged in “double speak”!!! They inserted the special provision in the so-called “American Jobs Creation Act of 2004” even though they knew full well that they were providing a nearly-100% income tax exemption for the accumulated profits from having out-sourced American jobs!!! And the special provision itself (Internal Revenue Code Sec. 965: Temporary Dividends Received Deduction) was contained in Sec. 422 of the 2004 Act – Sec. 422 being labeled by the pols as “Incentives to Reinvest Foreign Earnings in United States” even though they knew full well that the outsourcing profits in the foreign subsidiaries were already invested in the United States because they had always been used to purchase commercial paper of unrelated American companies which had long since used the money for “bricks and mortar”!!!

Several trillion dollars of such out-sourcing profits were eligible for repatriation at the special low rate (indeed, there were approximately 20 companies each of which had more than $100 billion of such profits and Microsoft alone had $1 trillion). It was a simple task to identify the companies and the amounts of commercial paper in unrelated companies that each held by looking at their annual Form 10-K filings with the Securities and Exchange Commission.

Although the NY Times and many other members of the media had been railing against “out sourcing,” only the NY Times published any kind of whimper, even though what “was going down” was well known. The NY Times whimper??? A one-time brief editorial that was quickly forgotten, if indeed it was ever noticed!!!