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February 11, 2013
Bermuda Robs Sacramento and Albany -- Who Knew?
by David Cay Johnston

Full Text Published by Tax Analysts®

by David Cay Johnston

David Cay Johnston received the Pulitzer Prize for his coverage of tax policy while at The New York Times and now teaches at Syracuse University College of Law. He is the author of three books about taxes, Free Lunch, Perfectly Legal, and The Fine Print.


* * * * *

There is nothing new under the sun, we are told in Ecclesiastes. But when it comes to escaping state tax burdens, there is something new -- an analysis of how much offshore tax havens cost the states in lost tax revenue.

A pioneering new study by a consumer group estimates that state governments lose about $40 billion a year to offshore tax havens.

That is enough money to pay for all the state and local costs of firefighting in America or for all the parks and recreation budgets. It is enough to educate 3.7 million children for a year.

The report, "The Hidden Cost of Offshore Tax Havens: State Budgets Under Pressure From Tax Loophole Abuse," analyzes various official reports to come up with its numbers. The authors conclude that in total, "tax havens cost state governments nearly $39.8 billion in 2011," with corporations accounting for $26 billion of the total.

The study released January 30 by the U.S. Public Interest Research Group Education Fund is the only one of its kind that I can find. Over the previous week I asked 13 tax folks, plus my CEO wife, if they had ever given a moment's thought to how much offshore tax havens were costing state governments. Not one had, though the problem seems obvious when you mention it.

On the federal level, trying to figure out how much federal income tax individuals and corporations escape by shifting income to tax havens is an active enterprise. From Jack Blum, the former Senate investigator who specializes in this field, to congressional committee staffs to public interest groups to multinational organizations like the OECD, lots of energy is devoted to figuring out just how much vitality parasitic economies like Bermuda, the Cayman Islands, and even Switzerland suck out of real economies like the United States, Canada, and Europe.

But putting together Albany, N.Y., and Hamilton, Bermuda; Sacramento, Calif., and Georgetown, Cayman Islands; or Lansing, Mich., and Singapore seems not to have been tried before, so this study may be that rarity -- an actual first.

On the corporate side, six states -- California, New York, Illinois, Pennsylvania, New Jersey, and Minnesota -- account for half the estimated corporate income tax losses to tax havens.

On the individual income tax side, California accounts for one-fifth of the losses. Almost half the losses are from the Golden State plus three others: New York, New Jersey, and Ohio.

The basic data source the study relies on is the 2011 IRS Data Book,1 especially tables 5 and 8. It uses other data to test the findings.

In testing some of the numbers against state tax reports, one number jumped out because it was so high. The study estimates that tax havens reduced California corporate income taxes by $4.2 billion in 2011, half the expected collections in the state budget. It is also 44 percent of the state corporate income tax collections reported after the fact by Governing magazine.

However, given how many high-tech firms are in California, the huge stores of offshore cash and untaxed profits that firms like Google and Hewlett-Packard have built up offshore, and the global nature of many digital businesses, those ratios don't seem so high.

                               Table 1.
                 State Individual Income Tax Revenues
                      Lost to Offshore Tax Havens
 _____________________________________________________________________

 Estimated 2011 state government revenue losses to offshore tax havens,
   based on analysis of IRS and other data, in millions of dollars.
 _____________________________________________________________________

 Rank                        State                 Revenue Losses
 _____________________________________________________________________

  1                  California                        $2,936
  2                  New York                          $1,840
  3                  New Jersey                        $1,058
  4                  Ohio                                $707
  5                  Minnesota                           $629
  6                  Illinois                            $607
  7                  Massachusetts                       $439
  8                  North Carolina                      $426
  9                  Georgia                             $349
 10                  Virginia                            $347
 11                  Pennsylvania                        $324
 12                  Connecticut                         $318
 13                  Wisconsin                           $303
 14                  Missouri                            $289
 15                  Maryland                            $277
 16                  Michigan                            $233
 17                  Oregon                              $223
 18                  Colorado                            $193
 19                  District of Columbia                $190
 20                  Arkansas                            $190
 21                  Louisiana                           $166
 22                  Delaware                            $158
 23                  Indiana                             $150
 24                  Kentucky                            $145
 25                  Arizona                             $143
 26                  Kansas                              $129
 27                  Oklahoma                            $128
 28                  Iowa                                $118
 29                  Nebraska                            $112
 30                  South Carolina                      $108
 31                  Utah                                 $70
 32                  Alabama                              $67
 33                  Rhode Island                         $65
 34                  Hawaii                               $61
 35                  Maine                                $49
 36                  Idaho                                $46
 37                  West Virginia                        $36
 38                  New Mexico                           $36
 39                  Mississippi                          $35
 40                  Vermont                              $29
 41                  Montana                              $28
 42                  North Dakota                         $20
 43                  Alaska                                NA
 44                  Florida                               NA
 45                  Nevada                                NA
 46                  New Hampshire                         NA
 47                  South Dakota                          NA
 48                  Tennessee                             NA
 49                  Texas                                 NA
 50                  Washington                            NA
 51                  Wyoming                               NA
                     TOTAL                            $13,777
 _____________________________________________________________________

 Source: U.S. Public Interest Research Group Education Fund

                               Table 2.
                  State Corporate Income Tax Revenues
                      Lost to Offshore Tax Havens
 _____________________________________________________________________

 Estimated 2011 revenue lost to state governments because of shifting
   corporate profits to foreign tax havens, from analysis of IRS and
                  other data, in millions of dollars.
 _____________________________________________________________________

 Rank                        State                 Revenue Losses
 _____________________________________________________________________

  1                  California                        $4,211
  2                  New York                          $2,435
  3                  Illinois                          $1,939
  4                  Pennsylvania                      $1,780
  5                  New Jersey                        $1,776
  6                  Minnesota                         $1,324
  7                  Massachusetts                     $1,248
  8                  Florida                             $979
  9                  Maryland                            $690
 10                  North Carolina                      $623
 11                  Virginia                            $589
 12                  Connecticut                         $587
 13                  Indiana                             $584
 14                  Georgia                             $569
 15                  Missouri                            $554
 16                  Michigan                            $523
 17                  Wisconsin                           $512
 18                  Louisiana                           $489
 19                  Tennessee                           $468
 20                  Arizona                             $360
 21                  District of Columbia                $358
 22                  Colorado                            $310
 23                  Texas                               $307
 24                  Arkansas                            $288
 25                  Oregon                              $283
 26                  Oklahoma                            $239
 27                  Kentucky                            $235
 28                  Nebraska                            $211
 29                  Alabama                             $190
 30                  Rhode Island                        $164
 31                  Iowa                                $141
 32                  New Hampshire                       $124
 33                  Utah                                $113
 34                  South Carolina                      $112
 35                  New Mexico                           $91
 36                  Alaska                               $77
 37                  Idaho                                $73
 38                  Hawaii                               $72
 39                  Kansas                               $71
 40                  West Virginia                        $69
 41                  Delaware                             $62
 42                  North Dakota                         $58
 43                  Mississippi                          $57
 44                  Vermont                              $46
 45                  Montana                              $44
 46                  Maine                                 $9
 47                  South Dakota                          $2
 48                  Nevada                                NA
 49                  Ohio                                  NA
 50                  Washington                            NA
 51                  Wyoming                               NA
                     TOTAL                            $26,046
 _____________________________________________________________________

 Source: U.S. Public Interest Research Group Education Fund

Overall, the 23-page report strikes me as a little light on data, but at the same time a job well done -- indeed done well enough that state agency officials should be ensuring that legislative committees and their staffs see it and that voters know about it.

That roughly $40 billion lost is a burden shifted from wealthy individuals and multinational corporations to everyone else. Some of the shifting is perfectly legal, but in the case of individuals, a lot of it probably is not, as the report notes. And, of course, what is legal is a matter of law and policy that can be changed.

In debating the report's merits over time, more refined ways to analyze the data should emerge, but the fundamental findings seem sound.

The report is even more useful when read in conjunction with a new study by Jane Gravelle, one of the most valuable tax scholars at the Congressional Research Service. The January 23 report "Tax Havens: International Tax Avoidance and Evasion"2 is a layman's field guide to how havens are used to defer, avoid, and escape taxes and what can be done to stop it.

The state-level study authors make five recommendations to stanch these losses, none of which depend on Congress and the president, but all of which pose their own problems. Let's look at two of them.

First, states that closely match the federal tax system can decouple their corporate and individual income taxes from it. California, New York, and other states that rely on federal definitions of income "automatically lose money when tax haven users don't report income to the federal government. Decoupling would help prevent those automatic losses. Rather than allow income that has been shifted out of sight from federal tax authorities to diminish the tax baseline, states can close loopholes that restore this hidden income," the Gravelle study says.

By 2011, 22 states had done that, an earlier study by an affiliate of Citizens for Tax Justice showed.3

The downside to this approach is that it will make enforcement more costly and difficult. This reform has exactly zero chance under the current governors in states like Wisconsin and South Carolina, who have expressed hostility to state audits of corporations. Corporations that use havens likely will argue that higher costs of compliance would encourage them to move their headquarters across state lines, contributing to problems described in my previous column.4

Second, the Gravelle report recommends single company accounting for multinational corporations: "Treating the parent and subsidiary companies of a multinational corporation as one corporation for the purpose of calculating taxes . . . would eliminate the tax benefits of shifting profits to tax havens such as Bermuda or Ireland."

Single company accounting would be a significant reform, which is why multinational companies historically have fought it. But the best thing about single company accounting is that it can be explained easily, and that means ordinary voters can grasp a simple way to imbue state-level tax systems with integrity and fairness.


FOOTNOTES

1 See http://www.irs.gov/pub/irs-soi/11databk.pdf.

2 See http://www.fas.org/sgp/crs/misc/R40623.pdf.

3 Institute on Taxation and Economic Policy, "Corporate Tax Dodging in the Fifty States, 2008-2010," available from Citizens for Tax Justice at http://www.ctj.org/corporatetaxdodgers50states/.

4 David Cay Johnston, "War Between the States: Big Costs, Minuscule Results," State Tax Notes, Feb. 4, 2013, p. 363, Doc 2013-1988 , or 2013 STT 23-6 .


END OF FOOTNOTES




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