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Tony Wickenden: Is US tax victory all it seems?


We have seen the impact of public opinion on taxpayer appetite for tax avoidance. Constantly expressed official admonishment (for example, by the Public Accounts Committee) of tax planning that, while legal, is deemed to be immoral has a strong influence on public opinion.

The same seems to be true in the US. There has for some time been a trend in successful US companies making foreign acquisitions in a way that would allow them to carry out an inversion to relocate their tax domicile to a friendlier, lower-tax jurisdiction, namely that of the acquired company.  The aim is to access built-up foreign profits, free of US tax, through the acquired business and/or to have future profits substantially taxed through the acquired business, presumably in a less harsh tax regime. 

US president Barack Obama’s view of such activity is it is damaging to the country’s economy and should not be done. He summed up that view (taking almost a direct quote from the accumulated sayings of UK Labour MP and chairman of the Public Accounts Committee Margaret Hodge) by stating in relation to inversions: “My attitude is I don’t care if it’s legal – it’s wrong.”

A recent public development in this area is Walgreens’ purchase of the 55 per cent of Alliance Boots it did not already own. 

Although the Alliance Boots head office is in Switzerland, the acquisition will not result in a so-called tax inversion whereby the new company moves its domicile out of the US. Walgreens intends to remain a US-domiciled company rather than pursue a tax inversion that would involve moving its corporate headquarters to the UK or Switzerland. 

The news appears to represent a major victory for the US president. Tax inversions have become a contentious issue in the US in recent months, with Pfizer’s ultimately aborted £69bn offer for AstraZeneca acting as the catalyst for a wave of deals involving US com-panies seeking to take advantage of lower overseas corporate tax rates.

Walgreens’ decision to remain a US-domiciled company will disappoint many of its shareholders, who have urged it to exploit the estimated $4bn (£2.4bn) in tax savings over five years it could reap by moving its base to Switzerland.

In a conference call with analysts and investors, Walgreens expressed the view that an inversion strategy was not right. There was the potential for both companies to face years of higher taxes in both the US and overseas, and for a legal battle with the Internal Revenue Service. The risks included “potentially putting the company in a significantly worse position than if we had not inverted at all”.

Analysts were advised about three key risks: 

  • “A protracted controversy with the IRS, possibly including litiga-tion, which could go on for three to 10 years and would significantly complicate and impede everyday tax and business planning” 
  • “Possible dual taxation during the intervening years and payment of back taxes with interest and significant penalties” and
  • Harder to quantify but still quite significant, “the potential consumer backlash and political ramifications, including the risk to our government book of business”. 

Despite all this, some have expressed the view that the “non-inversion” is not much of a victory for Obama, nor for any other politician. It is simply an effect of the way the original deal was drawn up.

To do an inversion, you need to merge two companies: the US-domiciled one and another elsewhere in the world. For this to qualify under US law as an inversion, the shareholders of that originally non-US company must finish up with 20 per cent or more of the newly merged one. You cannot simply give an unknown foreigner one share and leave the US; it has got to be a deal of real economic substance.

The way in which the Walgreens deal was originally structured and negotiated means it does not meet that 20 per cent standard.

Whatever the real reason for the non-inversion – technical or political – there is little doubt that, as in the UK, US government action is changing public opinion and what may for the moment be legally permissible may still be shunned for fear of putting public opinion against you as a commercial organisation. 

Remember Starbucks’ “voluntary” £20m tax payment? And just to help along this shift in opinion, the Organisation for Economic Co-operation and Development has recently announced proposals for draft measures to combat global tax avoidance.

As a postscript, it has also just been announced that the US government, through the Treasury, has acted formally to prevent inverted businesses accessing built-up offshore cash abroad tax-free. However, it seems (many think due to the threat of a legal challenge), that investors will continue to enable US businesses to legitimately avoid US tax on future profits.

The Obama administration has, it seems, provided a second round of measures that could tackle future earnings stripping but many think this will be easier said than done.

Tony Wickenden is joint managing director at Technical Connection 

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