eBay Pays $3 Billion in Tax to Bring Profits Home

May 01, 2014

Earlier this week eBay announced first quarter earnings and also a massive tax bill of $3 billion for having brought back to the U.S. $9 billion in accumulated foreign earnings. As a result, eBay figures their effective tax rate for the quarter is 366 percent. Why is there is such a large tax penalty for bringing profits back to the U.S.?

First, the U.S. has one of the highest corporate tax rates in the world: 35 percent at the federal level plus another 4 percent on average from state corporate taxes (eBay is based in California which has a corporate tax rate of 8.8 percent). That is the highest tax rate among the 34 most developed countries in the world.

Second, the U.S. applies that high corporate tax rate not only to domestic profits but to the foreign profits of U.S. multinational corporations (MNCs) that are brought home. This is known as a worldwide tax system, and only 5 other developed countries still have it. Most of the developed world, and all of the G7, has moved away from the worldwide tax system and instead have territorial tax systems that largely exempt from domestic taxation the foreign earnings of MNCs. Under territorial tax systems, MNCs pay corporate tax to the countries in which their profits are earned, and they pay no additional tax for bringing foreign-earned profits home.

The combination of the high corporate tax rate and worldwide tax system make the U.S. an unattractive place for MNCs. This is why so many have left in just the last couple of years, or are in negotiations to leave, including Pfizer, Actavis, Forest Labs, Bausch & Lomb, Applied Materials, etc.

Another sign that the U.S. corporate tax is too high is that U.S. companies, such as eBay, keep their foreign-earned profits abroad for many years to avoid the additional U.S. repatriation tax. If the U.S. had a competitive tax rate, there would be no tax reason to keep foreign profits abroad. That is, the repatriation tax is net of foreign taxes paid abroad, or the difference between the U.S. tax rate and the foreign tax rate. If there was no difference, there would be no repatriation tax. But we know there is a huge difference, and in eBay’s case the difference is 33 percent ($3 billion out of $9 billion in foreign profits). That is, the effective U.S. corporate tax rate for eBay is 33 percentage points higher than the corporate tax rate in the countries in which eBay earned the profits.

In sum, by any reasonable measure the U.S. corporate tax is uncompetitive. It is driving companies abroad and they are taking jobs with them. The companies that remain are shrinking, and investing and hiring less, because they have less after-tax profit to work with and they expect the corporate tax will continue to take a large share of future profits. Shareholders are still getting about the same kind of returns they always get in the long-run, somewhere around 3 percent after tax. So workers are the ones left holding the bag.

In eBay’s case, if there were no repatriation tax, perhaps the company would have given the $3 billion to shareholders, but that would only satisfy them for a short time. Ultimately, the company has to keep churning out profits to keep investors on board, and that requires hiring, investing, and innovating. As such, the $3 billion would probably have been spent in large measure on building the company, either internally or through acquisitions, by adding workers, increasing wages, investing in new product lines, etc. That’s the cost of the U.S. corporate tax.

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