Foreign profits earned by American companies are not taxed by the United States until the profits are ‘brought home’ (i.e., repatriated).
Republicans have floated the idea of a ‘tax holiday’ on repatriated foreign profits so that companies are given an incentive to bring overseas profits home, so they can reputedly be invested, and thus create jobs here in the States.
Not only is this a bad idea in terms of tax policy, but even discussing it is bad tax policy. Allow me to relate an anecdote to explain, but be patient. It will take a little while to get back to my point.
The 1970s were a period of high inflation and relatively high unemployment. It was called “stagflation”. The 1973 “oil price shock” and OPEC oil embargo which followed the Arab-Israeli “Yom Kippur War” put Western economies in a steep tailspin.
As one consequence, car and truck sales nose-dived, and dealer and manufacturer inventories of unsold cars hit record highs of 90 days or more. The auto industry became desperate to move vehicles.
It had been a truism since the Second World War that car prices went up every year. It was just expected, and 1973 had been no different. But remember, this was a period of high and accelerating inflation, so price increases were coming faster and bigger every year, and these increases were percentages of ever higher car prices.
In 1974, the auto industry had tacked another 10% onto car prices, on top of the steep price increases from 1973. This was the straw that broke the consumers’ backs. Sales dropped even further. The industry was in a panic.
What to do??
In most businesses, you would have a sale; price cuts to tempt demand. The auto industry was afraid to set that precedent, because they feared that consumers would learn to wait for sales. Further, state and local governments, already in dire financial straits, went apoplectic at the dent that auto price cuts would put in their sales tax revenues.
So instead, they came up with a brilliant idea: Rebates!
Manufacturers and dealers didn’t have to actually cut the prices of their cars. They could just give you money back. That way the consumer would have an incentive to buy, and the state and local governments could get sales tax on the cars’ full price.
This solution worked on a couple of different levels. First, car and truck sales did pick up, and inventories of unsold vehicles slowly declined. Second, slowly increasing car sales taxed at ‘full’ price aided state and local governments with the tax revenue side.
But to get back to the point, what was one of the end results of this situation? Well, remember that one concern Detroit (yes, it used to be Detroit) had about customers waiting for discounts to buy cars? THAT happened, and rebates have been the bane of the auto industry in this country ever since.
So what does that have to do with a tax holiday on repatriated profits? Basically, the same thing: Once the precedent has been set, companies will have no reason to repatriate profits as part of their business strategies. They’ll just wait for the next ‘holiday’.
Thus, enactment or even discussion of such a tax holiday discourages profit repatriation both now and in the future, in the absence of an actual tax abatement.
In my view, it’s a shame that the idea has even been floated. It will now hover out there among business lobbyists for years.