While sidling toward a sensible-sounding appeal for tax reform recently, President Barack Obama couldn't resist a swerve into populism. "You don't get to pick which rules you play by or which tax rate you pay," Obama said in his weekly address on July 26. "And neither should these companies." When this president depicts tax policy as a contest of fairness between corporate and individual taxpayers, oil and gas companies should worry. His idea of fairness is strange.
In fact, his statement was strange. It addressed corporations that use mergers with foreign companies to move headquarters from the US to lower-tax countries. Those companies aren't picking rules or tax rates; they're responding to rules and rates-by moving. Legally, individuals are no less free to move to tax regimes they find more hospitable than that of the US; in fact, some do.
A level field?
The pressure is stronger on corporations, though, because corporate tax rates in the US are among the highest in the developed world. With individual tax rates, the US isn't that far out of line. Obama therefore was correct in concept when he said, "The best way to level the playing field is through tax reform that lowers the corporate tax rate, closes wasteful loopholes, and simplifies the tax code for everybody." In practice, as the oil and gas companies have good reason to know, the playing field would look anything but level.
Because individuals rather than corporations ultimately pay all taxes, posing the treatments of corporate and individual taxpayers against one another is specious. Extending the ruse can be illuminating, though. How would individuals respond if denied a deduction available to other people and forced to pay tax twice on some streams of income? Obama consistently proposes to squeeze oil and gas companies in these ways, both of which, like corporate tax rates, relate to international competition.
In every annual budget proposal of his presidency, Obama has sought to repeal use by oil and gas companies of a manufacturer's tax deduction available to many industries. Congress included the so-called Section 199 deduction in a 2004 law as a way to help US companies overcome difficulties competing internationally under the burden of comparatively high taxation. The deduction rate is 9% of qualified income-except for oil and gas companies, for which the rate is 6%. And Obama wants to eliminate it. Level playing fields don't have preferential punishment such as this.
Obama's budget proposals also include changes that would increase the tax loads on dual-capacity taxpayers, nearly all of which are oil and gas companies. Dual-capacity taxpayers are multinational enterprises that pay levies to governments outside the US and also receive economic benefits from those governments, such as rights to produce oil and natural gas. US law provides a tax credit for income taxes paid to foreign governments but not for levies attached to economic benefits. The structures of some foreign tax regimes make distinguishing income taxes from other types of payments difficult. Under current rules, dual-capacity taxpayers must be able to defend in court their claims about income taxes paid to foreign governments.
Limiting creditability
The Obama proposal essentially uses the existence of ambiguity as a reason to limit creditability of the amounts paid to foreign governments to what the levy would be if the company were not a dual-capacity taxpayer. Doing so would cost affected oil and gas companies much. The government estimates the change would lower the federal budget deficit during 2015-24 by a cumulative $10.4 billion. The industry argues it would expose expatriate income to double taxation.
Obama is right to worry about a trend of companies moving for tax reasons. The trend means something's wrong. He's also right to see a lower corporate tax rate as the best response. But oil and gas companies have reason to worry that when he extends the effort to loophole-closing and simplification, fairness will apply to some taxpayers more than others.
