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Microsoft’s purchase of Skype for $8.5 billion provides a perfect illustration of why adopting a true worldwide corporate income tax system is critical to our economic future.  

According to the Wall Street Journal, the cash for Microsoft’s purchase of Skype (a Luxembourg-based company) will come out of its $42 billion in liquid assets held in foreign subsidiaries.

Because it is purchasing a foreign company with its overseas assets, Microsoft can avoid paying any U.S. tax that would be due if it had repatriated foreign earnings in order to purchase a US company for the same amount. Based on the company’s effective foreign income tax rate disclosed in their most recent SEC filings, a repatriation of $8.5 billion dollars would cost Microsoft somewhere in the neighborhood of $1.1 billion in U.S. tax.

As a Forbes commentator opines, the Microsoft-Skype deal demonstrates the harmful incentive created in our current system that encourages companies to invest in overseas companies rather than domestic ones. The fear is that this deal may just be “a harbinger of things to come.”

How can the US stop encouraging companies to invest abroad rather than at home?

By adopting a pure worldwide tax system.

Under a pure worldwide system, any US company’s foreign profits would be immediately subject to the US tax rate with a credit for any foreign taxes paid. This is similar to the current system except that the company would not be allowed to “defer,” or delay indefinitely, its U.S. taxes by keeping its foreign profits offshore.

A pure worldwide system would mean that Microsoft would face the same tax rate regardless of where it earned its profits. This would remove any incentive for shifting profits offshore and remove any obstacles to repatriating foreign profits.

Spinning the Truth

Never missing an opportunity to toe the line of corporate leaders and their shareholders, the business press tried to spin the news as proof that the US needs to enact corporate tax cuts and a repatriation holiday. They argue that high rates in the US are the cause of US companies like Microsoft holding billions in profits overseas rather than investing them domestically.

They could not be more mistaken in their solution.

First, tax repatriation holidays may actually worsen the situation by encouraging companies to hoard profits abroad in order to wait for the next holiday or even to use them as a hostage in demanding another repatriation holiday.

In fact, Microsoft is part of a coalition lobbying for a repatriation holiday so that it can bring some of its $42 billion in overseas liquid assets back to the U.S. and pay little or no tax.

Second, as CTJ’s Director Bob McIntyre explained in his testimony to the Senate Budget Committee, simply lowering corporate taxes is unlikely to be effective and would encourage a race to the bottom as other countries feel pressure to respond by further reducing their rates.

Finally, lower corporate income taxes would of course deprive us of revenue that we need to reduce our budget deficit.   

We hope that the Microsoft-Skype deal can be seen for what it is: another reason for the adoption of a pure worldwide corporate income tax system.