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Multinationals Avoid Paying Taxes by Keeping Profits Overseas

Firms today seek out a variety of means to delay financial statement recognition of U.S. taxes on repatriations. One accounting principle

Firms today seek out a variety of means to delay financial statement recognition of U.S. taxes on repatriations. One accounting principle recently studied by the American Accounting Association is that of designating foreign subsidiary earnings as permanently reinvested earnings (PRE), which allow multinational corporations to keep billions of dollars in profits overseas.

As policy-makers consider tax breaks and other incentives to entice large American corporations to bring home profits earned in foreign countries, PRE don't only offer greatly reduce earnings repatriation. According to Accounting Today, they're also used to manipulate corporate earnings and mislead investors. The magazine quoted a tax director from a Fortune 500 company who compared PRE to crack cocaine because once companies begin using them, they rarely stop. By the end of 2011, PRE sums amounted to more than $1.5 trillion, which is roughly 42 percent higher than their level two years earlier.

Study findings
The recent AAA study revealed that PRE reduce multinational firms' repatriation of foreign affiliates' earnings by approximately one-fifth a year. High U.S. corporate tax rates significantly influence companies to keep profits abroad.

The magazine quoted Leslie A. Robinson, an accounting professor at Dartmouth and one of the study's conductors, who explained the study "suggests that companies would repatriate about 20 percent more than they currently do if they didn't have this accounting tool that enables them to put a gloss on their financial statements."

Robinson also stated that while U.S. tax laws allows corporations to defer tax payment on earnings abroad, these multinationals still have to document their earnings as a tax liability on their financial statements. Declaring a PRE, however, provides an exemption, which can make companies' numbers look higher than they truly are.

Robinson and her colleagues examined 577 U.S.-based multinational corporations, of which 479 were public companies and 98 were private firms. The study found that public companies often declared higher portions of their assets as PRE than private firms.

Criticism of permanently reinvested earnings
PRE is authorized by the accounting standard APB23, which has been criticized recently by members of government, who view it as a "go free" pass for multinationals. According to Accounting Today, Michigan Senator Carl Levin said, "On the one hand these companies assert that they intend to indefinitely or permanently invest that money offshore. Yet, they promise on the other hand to bring it home as soon as it is granted a tax holiday. That's not any definition of 'permanent' that I understand. While this may seem like an obscure matter, it is a major issue for U.S. multinational corporations."

Meanwhile, Robinson told Accounting Today that it makes sense for an indebted government to adopt such an approach, but PRE is not the government's responsibility. "Changing APB 23 would not require congressional action, since it is the responsibility of the FASB," she said.

"The FASB has contemplated revising the standard on several occasions since it was promulgated in 1972," she added, "and, given the findings of our study and others, further reconsideration may now be in order."

 

Comments

Topic Expert
Barrett Peterson
Title: Senior Manager, Actg Stnds & Analysis
Company: TTX
(Senior Manager, Actg Stnds & Analysis, TTX) |

These companies avoid paying an additional US tax. Requiring recording a liabilty will not result in payments - due when cash is repatriated - nor motivate repatriation. Cash flow still drives the decision.