Apple’s manufactured tax crisis

Posted on September 6, 2016

An Apple logo is seen in the window of an authorised apple reseller store in Galway, Ireland August 30, 2016. REUTERS/Clodagh Kilcoyne©Reuters

On one hand, we have Apple and its allies in the US Treasury furiously applying their spin to the European Commission’s “state aid” ruling against the company. On the other, we have the fact that the underlying issues are complex, falling at the juncture of two legal areas — competition law and tax — that rarely come into contact. Put these facts together and the result is widespread misunderstanding. It is time to puncture two myths in particular that have gained currency.

    The first myth is that of the supranational tax bully. In this tale, the commission has abandoned the rule of law. It has encroached on member state tax matters — which, under EU treaties, are generally the purview of member states alone — by substituting its tax judgment for that of the competent tax authority. As the US Treasury wrote the day before the decision to require Ireland to impose a €13bn back tax bill on Apple was announced: “This . . . approach appears to expand the role of the [competition directorate] . . . into that of a supranational tax authority.”

    This tale is raw meat to protectionist US legislators. But it is false. The heart of the case is simply that Ireland gave Apple hidden subsidies in exchange for jobs. The only tax connection is that Ireland harnessed its tax system as the instrument to deliver these subsidies.

    Imagine Dublin promised Apple €220,000 in cash annually for every job located in Ireland. At 6,000 or so jobs, this totals about €13bn over 10 years. This would clearly equate to an instance of state aid, and coincidentally a bad trade for Ireland. The commission in essence concluded that this is the deal Ireland agreed — but, instead of collecting tax at the Irish 12.5 per cent tax rate and writing cheques to Apple, Ireland forgave substantially all of Apple’s Irish statutory tax liability.

    In tax policy we understand the economic equivalence between government cash subsidy schemes and “spending through the tax law”, where targeted spending programmes are couched as highly selective tax breaks, usually to hide their true nature. The commission’s decision makes clear it does too. It does not quarrel with Ireland’s 12.5 per cent tax rate.

    What makes this a state aid case rather than a tax one is that there is no plausible explanation for Ireland ceding its tax authority other than its understanding that jobs would follow. The parties reverse engineered a methodology to yield an agreed minimal tax take.

    The second myth is that the income in question belongs to the US. The US imposes a 35 per cent “residual” tax on the income of a US company’s foreign subsidiaries when that income is repatriated to the US parent as a dividend. Both Jack Lew, US Treasury secretary, and Apple argue this principle means only the Internal Revenue Service has a legitimate claim to Apple’s $230bn in largely untaxed offshore cash.

    This is a misstatement of US law. For nearly 100 years the nation has followed the principle that the jurisdiction in which income arises (the “source jurisdiction”) has priority in taxing cross-border income. To prevent double taxation, a US company can claim a credit against its US tax bill for levies already paid to source countries. So US tax on a dividend repatriation is a residual liability of the company, payable only to the extent that source countries have not first taxed the income.

    Apple and state aid: End of the affair

    24/11/1980 . Picture shows Martina Lyons at work at a test station for Disk Drives being watched by Mr. Gene Fitzgerald,T.D. and Steve Jobs Apple Vice Chairman at the new Apple Computer Ltd. plant at Hollyhill Cork , Irish Examiner staff picture . Reference number 244/050 244/50

    The €13bn fallout from the EU’s tax probe threatens Ireland’s decades-old development model

    Here the commission argues Ireland exercised apparently inexplicable forbearance in not collecting tax to which it was entitled — except for the promise of jobs. The remedy is to force Apple to pay the Irish tax that should have been collected on the income earned by its Irish subsidiary. This is source country tax to which Ireland clearly has the first claim.

    The US could have argued that it, too, was a source country on the basis that Apple Cupertino was inadequately compensated by Apple Ireland for developing the magic that makes the Apple ecosystem so irresistible. But there appears to have been little headway here. The Treasury now seeks to atone for its domestic failures by bullying its way to the front of the line of tax claimants when it should be at the back.

    The myths being spun by Apple and the US Treasury threaten to fracture international tax administration comity — confecting a tax crisis where none in fact exists.

    The writer is a professor of law and business at the University of Southern California

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