The Uncomfortable Truth about Taxation and Investment: Why investors can no longer turn a blind eye on tax

This week Burger King announced it would acquire Canadian coffee chain Tim Hortons and would move its headquarters to Canada. The move sparked outrage including from Democrat Senator Sherrod Brown who called for a boycott of the chain. Missing from the debate was the voice of investors.

The concern about Burger King’s merger with Tim Hortons is not about burgers and coffee. It is all about tax. This week’s Rolling Stone article The Biggest Tax Scam Ever summarised the issue. “A loophole in American tax law permits companies with just 20 percent foreign ownership to reincorporate abroad, which means that if a big U.S. firm acquires a smaller company located in a tax haven, it can then “invert” – that is, become a subsidiary of its foreign-based affiliate – and kiss a huge share of its IRS obligations goodbye.”

The Burger King deal is the latest case of corporate taxation minimisation that has earned the ire of the US President Obama who stated earlier this year, “Even as corporate profits are higher than ever, there’s a small but growing group of big corporations that are fleeing the country to get out of paying taxes. They’re technically renouncing their U.S. citizenship, they’re declaring their base someplace else even though most of their operations are here. You know some people are calling these companies ‘corporate deserters.’”

According to Rolling Stone, taxation inversion is only one example of corporation focus to reduce taxation. “Profits were up $93 billion last year – to a high of $2.1 trillion, according to the Commerce Department. Yet corporate tax payments actually fell last year by more than $15 billion.” Corporate profits and corporate taxation collections are now trending in opposite directions.

The issue of corporate taxation is a global issue. In Australia the taxation paid by companies including Google and Apple has attracted attention of parliamentarians with questions as to why Google’s total tax paid last year was only $466,802.

As Marc Gunther, the Guardian’s Editor at Large of Guardian Sustainable Business says, “Something’s clearly fishy here – how else could a place like Bermuda with a GDP of $6 billion, be a place where US businesses report $94 billion in earnings?”

Investors have been noticeably silent in this debate. The uncomfortable truth for investors is that they have the ability to gain in the short term if a company reduces its taxation bill. Should investors be advocating for reform, even if there is a short term impact on company profitability?

To answer this it is worth gazing into the crystal ball to consider how the debate on corporate taxation will progress. The one certainty in politics is that for every action there is always a reaction.

Governments will consider reforms to corporate taxation because they have to. They simply cannot afford to lose revenue from their budgets at a time when their fiscal position is so tight – and will only become tighter as the looming demographic bills for health and pensions become due.

But governments will also be constrained politically by their electorates who are finding that, whatever their sphere of work, pay increases are difficult to obtain, and cost of living pressure will mean corporate taxation will come to be seen as all about fairness and equity.

It is not a question of whether governments will act, but how.

The question for investors is what should their role be in the debate on taxation. The way governments shape taxation systems has significant implications for inequality, for capital formation and for economic development – all of which ultimately impact on long term investment.

Because taxation ultimately influences long term investment returns, investors need to develop and advocate positions, not just on corporate tax, but on the whole taxation system.

Long term investors can no longer afford to be silent on tax.

Links:

The Biggest Tax Scam Ever
http://www.rollingstone.com/politics/news/the-biggest-tax-scam-ever-20140827

Ending the race to the bottom: why responsible companies should pay taxes
http://www.theguardian.com/sustainable-business/2014/jul/22/tax-havens-avoidance-pay-taxes-walgreens-google-microsoft

Is the Burger King-Tim Hortons Deal About More Than Taxes?
http://www.newyorker.com/business/currency/burger-king-wants-deal-tim-hortons

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