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[House Hearing, 107 Congress]
[From the U.S. Government Publishing Office]

 
                          CORPORATE INVERSIONS
=======================================================================

                                HEARING

                               before the

                      COMMITTEE ON WAYS AND MEANS
                        HOUSE OF REPRESENTATIVES

                      ONE HUNDRED SEVENTH CONGRESS

                             SECOND SESSION

                               __________

                              JUNE 6, 2002
                               __________

                           Serial No. 107-73
                               __________

         Printed for the use of the Committee on Ways and Means

                       U. S. GOVERNMENT PRINTING OFFICE
80-978                          WASHINGTON : 2002
___________________________________________________________________________
For Sale by the Superintendent of Documents, U.S. Government Printing Office
Internet: bookstore.gpo.gov  Phone: toll free (866) 512-1800; (202) 512-1800  
Fax: (202) 512-2250 Mail: Stop SSOP, Washington, DC 20402-0001

                      COMMITTEE ON WAYS AND MEANS

                   BILL THOMAS, California, Chairman

PHILIP M. CRANE, Illinois            CHARLES B. RANGEL, New York
E. CLAY SHAW, Jr., Florida           FORTNEY PETE STARK, California
NANCY L. JOHNSON, Connecticut        ROBERT T. MATSUI, California
AMO HOUGHTON, New York               WILLIAM J. COYNE, Pennsylvania
WALLY HERGER, California             SANDER M. LEVIN, Michigan
JIM McCRERY, Louisiana               BENJAMIN L. CARDIN, Maryland
DAVE CAMP, Michigan                  JIM McDERMOTT, Washington
JIM RAMSTAD, Minnesota               GERALD D. KLECZKA, Wisconsin
JIM NUSSLE, Iowa                     JOHN LEWIS, Georgia
SAM JOHNSON, Texas                   RICHARD E. NEAL, Massachusetts
JENNIFER DUNN, Washington            MICHAEL R. McNULTY, New York
MAC COLLINS, Georgia                 WILLIAM J. JEFFERSON, Louisiana
ROB PORTMAN, Ohio                    JOHN S. TANNER, Tennessee
PHIL ENGLISH, Pennsylvania           XAVIER BECERRA, California
WES WATKINS, Oklahoma                KAREN L. THURMAN, Florida
J.D. HAYWORTH, Arizona               LLOYD DOGGETT, Texas
JERRY WELLER, Illinois               EARL POMEROY, North Dakota
KENNY C. HULSHOF, Missouri
SCOTT McINNIS, Colorado
RON LEWIS, Kentucky
MARK FOLEY, Florida
KEVIN BRADY, Texas
PAUL RYAN, Wisconsin

                     Allison Giles, Chief of Staff
                  Janice Mays, Minority Chief Counsel

Pursuant to clause 2(e)(4) of Rule XI of the Rules of the House, public 
hearing records of the Committee on Ways and Means are also published 
in electronic form. The printed hearing record remains the official 
version. Because electronic submissions are used to prepare both 
printed and electronic versions of the hearing record, the process of 
converting between various electronic formats may introduce 
unintentional errors or omissions. Such occurrences are inherent in the 
current publication process and should diminish as the process is 
further refined.

                            C O N T E N T S

                               __________
                                                                   Page
Advisories announcing the hearing................................  2, 3

                                WITNESS

U.S. Department of the Treasury, Pamela F. Olson, Acting 
  Assistant Secretary for Tax Policy; accompanied by Barbara 
  Angus, International Tax Counsel...............................     8

                       SUBMISSIONS FOR THE RECORD

AFL-CIO, statement...............................................    32
Coalition for Tax Competition; Andrew F. Quinlan, Center for 
  Freedom and Prosperity; Daniel Mitchell, Heritage Foundation; 
  Veronique de Rugy, Cato Institute; Paul Beckner, Citizens for a 
  Sound Economy; David R. Burton, Prosperity Institute; James 
  Cox, Association of Concerned Taxpayers; Stephen J. Entin, 
  Institute for Research on the Economics of Taxation; Tom 
  Giovanetti, Institute for Policy Innovation; Kevin Hassett, 
  American Enterprise Institute; Lawrence Hunter, Empower 
  America; Charles W. Jarvis, United Seniors Association; Karen 
  Kerrigan, Small Business Survival Committee; James L. Martin, 
  60 Plus Association; Edwin Moore, James Madison Institute; 
  Steve Moore, Club for Growth; Grover Glenn Norquist, Americans 
  for Tax Reform; John Pugsley, Sovereign Society; Richard Rahn, 
  Discovery Institute; Gary and Aldona Robbins, Fiscal 
  Associates, Inc.; Tom Schatz, Council for Citizens Against 
  Government Waste; Eric Schlecht, National Taxpayers Union; Fred 
  L. Smith, Competitive Enterprise Institute; Lewis K. Uhler, 
  National Tax Limitation Committee; Paul M. Weyrich, Coalitions 
  for America; Christopher Whalen, Whalen Consulting Group; joint 
  letter.........................................................    34
Connecticut Attorney General's Office, Hon. Richard Blumenthal, 
  statement......................................................    35
DIMON Incorporated, Danville, VA, Greg Bryant, letter............    38
Institute for International Economics, Gary Hufbauer, statement..    41
Maloney, Hon. James H., a Representative in Congress from the 
  State of Connecticut, statement................................    43
Salch, Steven C., Fulbright & Jaworski, L.L.P., Houston, TX, 
  statement......................................................    45

                          CORPORATE INVERSIONS

                              ----------                              

                         THURSDAY, JUNE 6, 2002

                          House of Representatives,
                               Committee on Ways and Means,
                                                    Washington, DC.
    The Committee met, pursuant to notice, at 10:53 a.m., in 
room 1100 Longworth House Office Building, Hon. Bill Thomas 
(Chairman of the Committee) presiding.
    [The advisory and revised advisory announcing the hearing 
follow:]

ADVISORY

FROM THE 
COMMITTEE
 ON WAYS 
AND 
MEANS

                                                CONTACT: (202) 225-1721
FOR IMMEDIATE RELEASE
May 30, 2002
No. FC-19

           Thomas Announces a Hearing on Corporate Inversions

    Congressman Bill Thomas (R-CA), Chairman of the Committee on Ways 
and Means, today announced that the Committee will hold a hearing on 
corporate inversions. The hearing will take place on Thursday, June 6, 
2002, in the main Committee hearing room, 1100 Longworth House Office 
Building, beginning at 10:00 a.m.
      
    In view of the limited time available to hear witnesses, oral 
testimony at this hearing will be from invited witnesses. Also, any 
individual or organization not scheduled for an oral appearance may 
submit a written statement for consideration by the Committee and for 
inclusion in the printed record of the hearing.
      

BACKGROUND:

      
    During recent months, several corporations have either changed 
their principal place of incorporation to a foreign country or 
announced their intention to do so. On May 17, 2002, the U.S. 
Department of the Treasury released its Preliminary Report on Inversion 
Transactions that sets out the mechanics of and reasons for U.S. 
companies to undertake these transactions. The study also highlights 
the disadvantages that the U.S. Tax Code imposes on U.S. companies as 
compared to their foreign competitors.
      
    In announcing the hearing, Chairman Thomas stated, ``The fact that 
companies are leaving the United States for tax reasons is a serious 
problem. Inversions are one symptom of the larger problems with our Tax 
Code, particularly in the area of international competitiveness. As we 
address the inversion issue, we must be careful not to take action that 
will facilitate the foreign acquisition of U.S. companies or encourage 
investment capital to flee the United States.''
      

FOCUS OF THE HEARING:

      
    The focus of this hearing is to examine the mechanics of inversion 
transactions and examine policy options that will deter inversions and 
enhance U.S. international competition. The Committee will also hear 
testimony from the U.S. Department of the Treasury concerning its May 
17, 2002, Inversion Study.
      

DETAILS FOR SUBMISSION OF WRITTEN COMMENTS:

      
    Please Note: Due to the change in House mail policy, any person or 
organization wishing to submit a written statement for the printed 
record of the hearing should send it electronically to 
[email protected], along with a fax copy to 
(202) 225-2610, by the close of business, Thursday, June 20, 2002. 
Those filing written statements that wish to have their statements 
distributed to the press and interested public at the hearing should 
deliver their 300 copies to the full Committee in room 1102 Longworth 
House Office Building, in an open and searchable package 48 hours 
before the hearing. The U.S. Capitol Police will refuse sealed-packaged 
deliveries to all House Office Buildings.
      

FORMATTING REQUIREMENTS:

      
    Each statement presented for printing to the Committee by a 
witness, any written statement or exhibit submitted for the printed 
record or any written comments in response to a request for written 
comments must conform to the guidelines listed below. Any statement or 
exhibit not in compliance with these guidelines will not be printed, 
but will be maintained in the Committee files for review and use by the 
Committee.
      
    1. Due to the change in House mail policy, all statements and any 
accompanying exhibits for printing must be submitted electronically to 
[email protected], along with a fax copy to 
(202) 225-2610, in Word Perfect or MS Word format and MUST NOT exceed a 
total of 10 pages including attachments. Witnesses are advised that the 
Committee will rely on electronic submissions for printing the official 
hearing record.
      
    2. Copies of whole documents submitted as exhibit material will not 
be accepted for printing. Instead, exhibit material should be 
referenced and quoted or paraphrased. All exhibit material not meeting 
these specifications will be maintained in the Committee files for 
review and use by the Committee.
      
    3. Any statements must include a list of all clients, persons, or 
organizations on whose behalf the witness appears. A supplemental sheet 
must accompany each statement listing the name, company, address, 
telephone and fax numbers of each witness.

    Note: All Committee advisories and news releases are available on 
the World Wide Web at http://waysandmeans.house.gov/.

    The Committee seeks to make its facilities accessible to persons 
with disabilities. If you are in need of special accommodations, please 
call 202-225-1721 or 202-226-3411 TTD/TTY in advance of the event (four 
business days notice is requested). Questions with regard to special 
accommodation needs in general (including availability of Committee 
materials in alternative formats) may be directed to the Committee as 
noted above.

                               

                   * * * NOTICE--CHANGE IN TIME * * *

ADVISORY

FROM THE 
COMMITTEE
 ON WAYS 
AND 
MEANS

                                                CONTACT: (202) 225-1721
FOR IMMEDIATE RELEASE
June 5, 2002
No. FC-19-Revised

           Change in Time for Hearing on Corporate Inversions

    Congressman Bill Thomas (R-CA), Chairman of the Committee on Ways 
and Means, today announced that the full Committee hearing on corporate 
inversions scheduled for Thursday, June 6, 2002, at 10:00 a.m., in the 
main Committee hearing room, 1100 Longworth House Office Building, will 
now be held at 10:45 a.m.
      
    All other details for the hearing remain the same. (See Committee 
Advisory No. FC-19, dated May 30, 2002.)

                               

    Chairman THOMAS. I appreciate our guests finding seats. We 
probably are not going to be able to accomplish the hearing in 
one setting based upon activities that will occur on the Floor. 
My apologies at the beginning to those of you who plan on 
testifying. It may not be as orderly or sequential as most of 
us would prefer in dealing with a subject matter that, at once 
seems fairly simple, and at additional examinations perhaps is 
a bit more complex than we might have appreciated.
    Obviously, the emphasis is that during recent months, many 
U.S. companies have announced that they will move their 
principal place of incorporation to a foreign jurisdiction. 
Principal among those are low-tax countries such as Bermuda. In 
fact, many companies have already taken this step.
    Today, the Committee on Ways and Means will examine, one, 
the causes behind the reincorporations, but we also want to 
explore policy options to reduce the incentive for inversions 
while, if possible, enhancing U.S. international 
competitiveness. This, of course, builds on the initial 
hearings we had on the World Trade Organization (WTO) decision 
involving foreign sales corporations (FSC) and the 
Extraterritorial Income Exclusion Act (ETI) debate.
    Members have introduced bills, beginning with a Member of 
this Committee, Scott McInnis, for example, on March 6, Mr. 
Neal of this Committee, Mr. Maloney, and Mrs. Johnson. They 
range from an attempt to punish behavior to a moratorium so 
that we could suspend behavior and examine options.
    The Chair has no idea at this point what is the most 
appropriate way to go. I think that is one of the reasons we 
are supposed to hold hearings. Oftentimes, people believe the 
primary purpose of holding hearings is to provide an arena for 
political shenanigans or for points scored, not in terms of 
advancing a legislative purpose, but for even as far-ranging an 
activity as attempting to influence elections.
    The Chair wants to announce at the beginning of this, this 
is serious business. This is obviously not the only hearing 
that we will hold. We must hold additional hearings based upon 
the information that Members, having received the U.S. 
Department of the Treasury testimony in advance, realize that 
Treasury has gone so far as to provide us with very specific 
examples of potential law change.
    Those of us who reside in States with high taxes 
oftentimes, and perhaps properly, blame State legislatures when 
companies flee our State to go to low-tax jurisdictions in 
surrounding States. California has a number of examples. 
Historically, the inventory tax, and we thought California was 
so attractive, these large companies like Sears and others 
would stay in California forever. We woke up and found out that 
they had built warehouses in Nevada. I was in the State 
legislature at the time. They repealed the inventory tax and 
expected people then to simply move from Sparks, Nevada, where 
they had invested significant money in the warehouses and come 
back to California, and guess what, they did not.
    So, we cannot ignore the fact that the U.S. Tax Code 
creates essentially the same phenomena internationally. 
Corporate inversions, I think, are a symptom of a larger 
underlying problem with our tax code, and if the corporate tax 
code has driven many companies to move their mailboxes to other 
jurisdictions, then I think we need to examine the tax code for 
suggested changes.
    Now, the problem obviously is easily stated. As I said, the 
solution may be more complex. As we have noted in our foreign 
sales corporation hearings, competitiveness is sometimes in the 
eye of the beholder, and it is not as easily assessed as we 
would like. The United States has some of the world's most 
complicated rules on international taxation. These rules 
originate in part, I think, from a misguided belief that we can 
keep capital in the United States if we just have enough 
restrictive tax regimes.
    We are still--the system we impose on American-based firms 
sometimes provides advantages to foreign companies that want to 
buy up American companies, and perhaps one of the reasons 
American companies want to become foreign companies on their 
own, on their own volition, is because they do not want to 
become foreign companies through hostile takeovers.
    First today, we will hear from the Treasury Department, 
which has released a study which I would recommend to anyone as 
a very useful primer on what we are talking about in terms of 
corporate inversions. Beyond that, the written testimony 
submitted by the Treasury, as I said, provides us with very 
specific tax change suggestions.
    We are then going to have a panel to, in part, give us a 
practical real-world perspective on how the tax system affects 
business decisions, and we have someone from State government 
for their reaction, as well.
    The questions before us, to a certain extent, are is there 
something we can do in the short term while we are looking at 
the long term? Will it be better to move what we believe to be 
the long term with enough notice that, in fact, we are going to 
engage in this discussion? Whether is this just one symptom of 
an international tax code that probably needs to be looked at 
far more extensively? The problem of inversions being simply 
one example, which means perhaps, then, something like a 
moratorium might be appropriate, or perhaps specific 
legislation addressing the inversion question sooner rather 
than later, perhaps then looking at other tax aspects on a 
broader basis.
    All of those are questions that are open right now as far 
as the Chair is concerned. The goal, of course, is to resolve 
what appears to be an immediate problem but which is 
symptomatic of the more complex and broader problem initiated 
by the WTO decision on the foreign sales corporation ETI 
subsidy, subsequently provided additional reinforcement by the 
inversion question.
    So today, the Chair's hope is to lay the predicate, listen 
to the concerns, focus on some of the specific suggestions, and 
assure everyone that there will be more questions raised today 
than answers and that we will move forward in as expeditious a 
fashion as possible, perhaps utilizing the Subcommittee on 
Select Revenue to allow for further expansion of concerns that 
various corporations might have, foreign-based or domestic, 
based upon the questions raised today as we look forward to a 
solution to this problem.
    With that, it is my pleasure to recognize the gentleman 
from New York for any comment he might wish to make. Mr. 
Rangel?
    [The opening statement of Chairman Thomas follows:]
Opening Statement of the Hon. Bill Thomas, a Representative in Congress 
from the State of California, and Chairman, Committee on Ways and Means
    During recent months, many U.S. companies have announced that they 
will move their principle place of incorporation to a foreign 
jurisdiction, including such low-tax countries as Bermuda. Many 
companies have already taken this step. Today, the Committee on Ways 
and Means will examine the causes behind reincorporations. We will also 
explore policy options to reduce the incentive for inversions while 
also enhancing U.S. international competitiveness.
    It is worth noting that a Republican Ways and Means Member, Rep. 
Scott McInnis, introduced one of the first legislative fixes for 
inversions. He introduced H.R. 2857 on March 6, 2002. Most recently, 
Rep. Nancy Johnson--another Republican Committee Member--offered a 
moratorium bill, H.R. 4756 on May 16, 2002. Her moratorium is an 
appropriate step in the absence of a legislative solution. However, I 
want to be clear. This Chairman plans to introduce and move a 
thoughtful, reasonable approach to address corporate inversions, and I 
plan to do so sooner rather than later. Today's hearing will help us 
gather needed information to craft such a product.
    Those of us who represent States with high taxes properly blame 
state legislatures when companies flee to low-tax jurisdictions in 
surrounding states. We can't ignore that the U.S. tax code creates the 
same phenomenon internationally. Corporate inversions are a symptom of 
a larger underlying problem with our tax code. The corporate tax code 
has driven many companies to move their mailboxes to other 
jurisdictions.
    What changes must we make to keep America's competitive edge? 
Competitiveness is not easily assessed, as our extensive examination of 
the Foreign Sales Corporations has shown. The U.S. has some of the 
world's most complicated rules on international taxation. These rules 
originate, in part, from a misguided belief that we can keep capital in 
the United States through restrictive tax regimes. Worse still, the 
system we impose on American-based firms provides advantages to foreign 
companies that want to buy up American companies.
    Today, we will first hear from the Treasury Department, which 
recently released a preliminary report on inversions. They are now 
developing options for addressing the competitiveness issues that 
inversions signal. To get a practical, real-world perspective, we will 
also hear from private sector witnesses about how our tax system 
influences business decisions.
    This hearing is an opportunity for us to work together to develop 
modern tax systems suited to a growing global economy. I hope all of us 
will put aside shrill rhetoric and work in a cooperative effort to keep 
our economy as competitive as possible so that we can preserve American 
jobs. Before introducing our witnesses, I yield to Mr. Rangel from New 
York.

                               

    Mr. RANGEL. Thank you, Mr. Chairman. Some housekeeping 
questions. Mr. Chairman, one of the most important tax issues 
that has come before this Committee is to make permanent the 
estate tax repeal. Could you share with us whether you intend 
to manage this bill on the Floor, and how do you see we are 
going to maintain our attendance here at the hearing on this 
most important issue and at the same time the Members be 
allowed to express their concern about the bill on the Floor?
    Chairman THOMAS. I appreciate the gentleman's concern. He 
might have expected that the Chair expressed that same concern 
to the leadership. Just let me say, it is difficult to try to 
get this Committee's work done on the shortened work weeks that 
are currently in front of us.
    The Chair intends to continue the hearing as best we are 
able during whatever events may occur on the Floor, with the 
exception of multiple votes, as you know, which makes it 
difficult for us to determine when we come back. If there is a 
single vote, the Chair would like to try to continue the 
hearing.
    It is the Chair's understanding at this time that the 
debate will begin, dependent upon the current procedural 
discussion and probably subsequent vote on the decision of the 
Chair currently going on, that the estate tax debate would 
begin somewhere in the 12:30 to 1:00 vicinity. The Chair 
intends to initiate the debate on the Floor, but not to be 
there during the entire debate. The structure of the debate is 
1 hour, equally divided, and then my understanding is the rule 
made in order a substitute, which would be 1 hour, and then the 
minority has, as a right of the rules under this new Republican 
majority, a motion to commit, which I assume you will utilize. 
That will be occurring in the 2:00 to 3:00 range.
    If we can move expeditiously through this hearing, we can 
lay the foundation for the additional hearings on more of the 
specific alternatives, as I indicated, the direction that we 
will probably go. To the degree, our goal here is to score 
points beyond trying to understand what the problem is and 
looking at specific legislative decisions, the Chair does not 
have control over that. Perhaps the gentleman from New York has 
a better idea of how long those activities would consume 
Committee time.
    Mr. RANGEL. Mr. Chairman, I might suggest that you might 
consider recessing for 5 minutes until you and I have an 
opportunity to discuss the problem that we have. I will outline 
the degree of the problem.
    First, the minority believes that both of these issues, the 
one before this full Committee and the one on the Floor, has a 
deep-seated political as well as economic significance, and 
while we recognize that the decision to put these important 
legislative issues in conflict was not yours, we are not 
prepared to accept the leadership's position.
    Second, during this 5 minutes, the question of multiple 
votes, I will be glad to share with you that we might expect 
multiple votes, and I do not want to put witnesses nor those 
attending this hearing at ill ease, but I might just share with 
you, if we do not find our way able to recess this hearing 
until after the proceeding on the Floor, then I have every 
reason to believe that our Members will be spending a lot of 
time on procedural issues on the Floor.
    In addition to that, it is my understanding, even though I 
am not certain, that the Chair unilaterally decided that a 
Member of the U.S. House of Representatives who sponsored a 
piece of legislation which this hearing is about would not be 
allowed to testify, and while this is certainly not a Democrat 
or Republican issue, certain Members of my caucus believe that, 
from an institutional point of view, they are not prepared to 
allow that to go by.
    I want to list these things to see whether or not you might 
think that it is wise for you and I to just discuss these 
things for 5 or 10 minutes to see whether there can be any 
resolved, and I yield back to you for purpose of response.
    Chairman THOMAS. I will tell the gentleman, I have been 
here since 8:30. My phone number is listed. My presence is 
known, but if the gentleman wants to take 5 minutes out of the 
time we now have to try to move forward on this hearing, the 
Chair, in recognition of the gentleman's presentation of this 
offer, which the Chair appreciates the way in which it was 
presented, will certainly take 5 minutes.
    Mr. RANGEL. I might add that----
    Chairman THOMAS. The Committee stands in recess for 5 
minutes.
    [Recess.]
    Chairman THOMAS. If I could have your attention, please, 
there is just one vote on the Floor. We will run over, cast 
that vote, come back, and the Committee will resume. My goal is 
to resume at 11:30.
    [Recess.]
    Chairman THOMAS. If our guests can find seats, please. The 
first panel this morning will consist of Treasury 
representatives, including Pamela Olson as the Acting Assistant 
Secretary for Tax Policy at the U.S. Department of the 
Treasury. My understanding is that Barbara Angus will be with 
her at the table.
    First of all, thank you for joining us. Thank you for the 
written testimony. It will be made a part of the record and you 
may address us in any way you see fit. Ms. Olson?

 STATEMENT OF PAMELA F. OLSON, ACTING ASSISTANT SECRETARY FOR 
  TAX POLICY, U.S. DEPARTMENT OF THE TREASURY; ACCOMPANIED BY 
            BARBARA ANGUS, INTERNATIONAL TAX COUNSEL

    Ms. OLSON. Thank you. Mr. Chairman, distinguished Members 
of the Committee, I appreciate the opportunity to appear at 
this hearing on corporate inversion transactions. I commend the 
Committee Members for your interest in and commitment to 
addressing this important issue. I also want to thank the 
Committee for allowing the Treasury Department the time to 
study, consider, and report on this matter to the Committee. We 
look forward to working with the Committee to implement the 
proposals I will outline and any other proposals we or you 
identify in the course of our ongoing evaluation of the issues 
presented.
    I have attached to my written testimony today a copy of the 
Treasury study that we released last month on the tax policy 
implications of corporate inversions and I appreciate the 
Committee's including that in the record for today.
    This Committee is well aware of the facts that precipitated 
our study and the hearing today: a series of announcements by 
U.S. companies of their intent to reincorporate outside the 
United States. The key reason cited for the transactions: 
Substantial reductions in overall corporate taxes. Corporate 
inversion transactions are not a new phenomenon, but there has 
been a marked increase in the frequency, size, and profile of 
the recently announced transactions. Moreover, rumors of other 
companies considering the transactions abound.
    The Administration has concluded an immediate response is 
required that addresses the income minimization strategies 
associated with inversion transactions, strategies that can be 
employed to reduce the inverted company's U.S. tax on its 
income from its U.S. operations. An immediate response is 
required for two reasons. First, these strategies unfairly 
advantage inverted or other foreign-based companies over U.S.-
based companies. Second, these strategies have a corrosive 
effect on the public's confidence in the U.S. tax system.
    We cannot just address strategies that inappropriately 
minimize U.S. income, however. We must also address the tax 
disadvantages imposed by our international tax rules on U.S.-
based companies with foreign operations. Relative to the tax 
systems of our major trading partners, the U.S. tax rules can 
impose significantly heavier burdens on the foreign operations 
of domestically-based companies. Our objective must be to 
ensure that the U.S. tax system maintains the competitiveness 
of U.S. businesses. Why? Because we care about U.S. jobs.
    We have identified several specific areas in which action 
is needed. We believe that addressing the income minimization 
opportunities conferred by an inversion will remove the juice 
from the current inversion activity, eliminating the immediate 
benefits of and, therefore, the impetus for, such transactions.
    It would be a mistake to focus such changes solely on 
inverted companies, however, since an inversion is only one 
route to accomplishing the same type of reduction in taxes. A 
U.S.-based start-up venture that contemplates both U.S. and 
foreign operations may incorporate overseas at the outset, thus 
positioning itself to achieve the same type of tax reduction. 
Similarly, an existing U.S. group may be the subject of a 
takeover by a foreign-based company. The resulting structure 
may provide similar tax savings opportunities to those provided 
by an inversion transaction.
    A policy response targeted solely at the inversion 
phenomenon may inadvertently result in a tax code favoring 
other types of foreign ownership structures at the expense of 
domestically-managed companies. In turn, other decisions 
affecting location of new investment, choice of suppliers, and 
jobs may be adversely affected. While the openness of the U.S. 
economy has always made and will continue to make the United 
States one of the most attractive and hospitable locations for 
foreign investment in the world, there is no merit in policies 
biased against domestic control and domestic management of U.S. 
operations. Consequently, the policy response to the recent 
corporate inversion activity should be broad enough to address 
the underlying differences in the U.S. tax treatment of U.S.-
based companies and foreign-based companies without regard to 
how foreign-based status is achieved.
    There are four specific areas in which action should be 
taken: Related party debt, related party asset transfers, 
treaties, and information reporting.
    First, related party debt. The statutory rules regarding 
the deductibility of interest payments to related parties must 
be tightened to prevent the inappropriate use of related party 
debt to generate deductions against income from U.S. operations 
that otherwise would be subject to U.S. tax. Accordingly, we 
propose statutory changes to tighten the related party interest 
disallowance rules of section 163(j). Specifically, we propose 
replacing the current debt-equity ratio safe harbor with a test 
that would deny a deduction for related party interest to the 
extent the U.S. company's indebtedness exceeds its worldwide 
level of indebtedness. There is no compelling policy 
justification for allowing interest deductions for related 
party debt where the U.S. company is more highly leveraged than 
the worldwide operations.
    We propose scaling back the 50 percent of income limitation 
on interest deductions by revising the definition of income to 
focus the test on net interest expense as a percentage of 
income rather than cash flow.
    Finally, we propose curtailing the rules that allow 
companies to carry over to subsequent years interest deductions 
subject to the limits.
    Second, we are undertaking a comprehensive review of 
related party asset transfers, which can be used to shift 
income from the United States. We believe that substantial 
improvements can be made in this area through regulatory 
changes and focused enforcement. To the extent that we identify 
problems during our review requiring statutory changes, we will 
promptly advise the Committee.
    Third, we will undertake a comprehensive review of our 
income tax treaties to ensure that they do not provide 
inappropriate opportunities to reduce U.S. taxes or to shift 
income from the United States. Our review will ensure that all 
our treaties serve the goal of eliminating double taxation, not 
taxation altogether, or they will be modified to do so.
    Fourth, we will require Form 1099 reporting to ensure that 
inverted companies' shareholders pay the tax they owe on gain 
recognized in the inversion transaction.
    We are continuing to study other areas, including the 
corporate organization and reorganization rules and the income 
shifting issues that arise in the context of inversion 
transactions involving insurance and reinsurance companies.
    Finally, we must address the tax disadvantages faced by 
U.S.-based companies that do business abroad relative to their 
counterparts in our major trading partners. The burden imposed 
by our international tax rules on U.S.-based companies with 
foreign operations is disproportionate to the tax burden 
imposed by our trading partners on their companies' foreign 
operations. The recent inversion activity and the increased 
foreign acquisitions of U.S. multinationals evidence that fact 
and the significant consequences that may have for U.S. 
businesses and the U.S. economy. The U.S. rules for the 
taxation of foreign source income are unique in their breadth 
and complexity. It is time to revisit them. Our rules should 
not disadvantage U.S.-based companies competing in the global 
marketplace.
    Our overarching goal is maintaining the U.S. position as 
the most desirable location in the world for incorporation, 
headquartering, foreign investment, and business operations. In 
short, that means keeping jobs in the United States, creating 
jobs in the United States, and bringing jobs to the United 
States.
    Thank you for your attention. I would be pleased to answer 
any questions.
    [The prepared statement of Ms. Olson follows:]
   Statement of Pamela F. Olson, Acting Assistant Secretary for Tax 
                Policy, U.S. Department of the Treasury
    Mr. Chairman, Congressman Rangel, and distinguished Members of the 
Committee, we appreciate the opportunity to appear today at this 
hearing on corporate inversion transactions.
    In recent months, several high-profile U.S. companies have 
announced plans to reincorporate outside the United States. The 
documents prepared for shareholder approval and filed with the 
Securities and Exchange Commission cite substantial reductions in 
overall corporate taxes as a key reason for the transactions. While 
these so-called corporate inversion transactions are not new, there has 
been a marked increase recently in the frequency, size, and profile of 
the transactions.
    On February 28, 2002, the Treasury Department announced that it was 
studying the issues arising in connection with these corporate 
inversion transactions and the implications of these transactions for 
the U.S. tax system and the U.S. economy. On May 17, 2002, the Treasury 
Department released its preliminary report on the tax policy 
implications of corporate inversion transactions. (A copy of the 
Treasury preliminary report is attached.) The Treasury preliminary 
report describes the mechanics of the transactions, the current tax 
treatment of the transactions, the current tax treatment of the 
companies post-inversion, the features of our tax laws that facilitate 
the transactions or that may be exploited through such transactions, 
and the features of our tax laws that drive companies to consider these 
transactions.
    Inversion transactions implicate fundamental issues of tax policy. 
The U.S. tax system can operate to provide a cost advantage to foreign-
based multinational companies over U.S.-based multinational companies. 
The Treasury report identifies two distinct classes of tax reduction 
that are available to foreign-based companies and that can be achieved 
through an inversion transaction. First, an inversion transaction may 
be used by a U.S.-based company to achieve a reduction in the U.S. 
corporate-level tax on income from U.S. operations. In addition, 
through an inversion transaction, a U.S.-based multinational group can 
substantially reduce or eliminate the U.S. corporate-level tax on 
income from its foreign operations.
    The Treasury preliminary report discusses the need for an immediate 
response to address the U.S. tax advantages that arise from the ability 
to reduce U.S. corporate-level tax on income from U.S. operations. My 
testimony today will focus on several specific actions that we believe 
are urgently needed to eliminate these opportunities to reduce 
inappropriately the U.S. tax on U.S. operations and thereby to ensure 
continued confidence in the U.S. tax system. We believe that addressing 
these opportunities will have an immediate effect on the corporate 
inversion activity that is now occurring by eliminating the substantial 
upfront tax reductions that can be achieved through these transactions. 
This approach also addresses the similar tax reduction opportunities 
that are available to companies that form offshore from the outset and 
to foreign companies that acquire U.S. businesses, and therefore avoids 
advantaging companies that begin as non-U.S. companies over those that 
begin here in the United States.
    The Treasury preliminary report also discusses the need to address 
the U.S. tax disadvantages that are caused for U.S.-based companies 
because of the U.S. tax treatment of their foreign operations. We must 
evaluate our tax system, particularly our international tax rules, 
relative to those of our major trading partners, to ensure that the 
U.S. tax system is competitive.
    An inversion is a transaction through which the corporate structure 
of a U.S.-based multinational group is altered so that a new foreign 
corporation, typically located in a low- or no-tax country, replaces 
the existing U.S. parent corporation as the parent of the corporate 
group. In order to provide context for consideration of the policy 
issues that arise, the Treasury preliminary report includes a technical 
description of the forms of the inversion transaction and the potential 
tax treatment of the various elements of the transaction under current 
law. The transactional forms through which the basic reincorporation 
outside the United States can be accomplished vary as a technical 
matter, but all involve little or no immediate operational change and 
all are transactions in which either the shareholders of the company or 
the company itself are subject to tax. This reincorporation step may be 
accompanied by other restructuring steps designed to shift the 
ownership of the group's foreign operations outside the United States. 
The restructuring steps involving movement of foreign subsidiaries are 
complex and varied, but, like the reincorporation itself, are 
transactions that are subject to tax. When all the transactions are 
complete, the foreign operations of the company will be outside of the 
U.S. taxing jurisdiction and the corporate structure also may provide 
opportunities to reduce the U.S. tax on U.S. operations.
    Market conditions have been a factor in the recent increase in 
inversion activity. Although the reincorporation step triggers 
potential tax at the shareholder level or the corporate level, 
depending on the transactional form, that tax liability may be less 
significant because of current economic and market factors. The 
company's shareholders may have little or no gain inherent in their 
stock and the company may have net operating losses that reduce any 
gain at the company level. While these market conditions may help 
facilitate the transactions, they are not, however, what motivates a 
company to undertake an inversion. U.S.-based companies and their 
shareholders are making the decision to reincorporate outside the 
United States largely because of the tax savings available. It is that 
underlying motivation that we must address.
    The ability to achieve a substantial reduction in taxes through a 
transaction that is complicated technically but virtually transparent 
operationally is a cause for concern as a policy matter. As we 
formulate a response, however, we must not lose sight of the fact that 
an inversion is not the only route to accomplishing the same type of 
reduction in taxes. A U.S.-based start-up venture that contemplates 
both U.S. and foreign operations may incorporate overseas at the 
outset. An existing U.S. group may be the subject of a takeover, either 
friendly or hostile, by a foreign-based company. In either case, the 
structure that results provides tax-savings opportunities similar to 
those provided by an inversion transaction. A narrow policy response to 
the inversion phenomenon may inadvertently result in a tax code 
favoring the acquisition of U.S. operations by foreign corporations and 
the expansion of foreign controlled operations in the United States at 
the expense of domestically managed corporations. In turn, other 
decisions affecting the location of new investment, choice of 
suppliers, and employment opportunities may be adversely affected. 
While the openness of the U.S. economy has always made--and will 
continue to make--the United States one of the most attractive and 
hospitable locations for foreign investment in the world, there is no 
merit in policies biased against domestic control and domestic 
management of U.S. operations.
    The policy response to the recent corporate inversion activity 
should be broad enough to address the underlying differences in the 
U.S. tax treatment of U.S.-based companies and foreign-based companies, 
without regard to how foreign-based status is achieved. Measures 
designed simply to halt inversion activity may address these 
transactions in the short run, but there is a serious risk that 
measures targeted too narrowly would have the unintended effect of 
encouraging a shift to other forms of transactions and structures to 
the detriment of the U.S. economy in the long run.
    An immediate response is needed to address the U.S. tax advantages 
that are available to foreign-based companies through the ability to 
reduce the U.S. corporate-level tax on income from U.S. operations. 
Inappropriate shifting of income from the U.S. companies in the 
corporate group to the foreign parent or its foreign subsidiaries 
represents an erosion of the U.S. corporate tax base. It provides a 
competitive advantage to companies that have undergone an inversion or 
otherwise operate in a foreign-based group. It creates a corresponding 
disadvantage for their U.S. competitors that operate in a U.S.-based 
group. Moreover, exploitation of inappropriate income-shifting 
opportunities erodes confidence in the fairness of the tax system.
    In the case of inversion transactions, the ability to reduce 
overall taxes on U.S. operations through these income-shifting 
techniques provides an immediate and quantifiable benefit. Because of 
the cost and complexity of these transactions, the immediate and 
quantifiable benefit from reducing U.S. tax on U.S. operations is a key 
component of the cost-benefit analysis with respect to the transaction. 
In other words, the decision to consummate the inversion often is 
dependent upon the immediate expected reduction in U.S. tax on income 
from U.S. operations. Accordingly, eliminating the opportunities to 
reduce inappropriately the U.S. tax on income from U.S. operations will 
eliminate the upfront tax reductions that are fueling the inversion 
transaction activity.
    We believe there are several specific areas in which changes are 
urgently needed. The statutory rules regarding the deductibility of 
interest payments to related parties must be tightened to prevent the 
inappropriate use of related-party debt to generate deductions against 
income from U.S. operations that otherwise would be subject to U.S. 
tax. We must undertake a comprehensive review of the rules governing 
the transfer of assets among related parties and establish a 
revitalized compliance program to ensure adherence with the arm's-
length standard for related party transfers. We must undertake a 
comprehensive review of our income tax treaties and make the 
modifications to particular treaties necessary to ensure that they do 
not provide inappropriate opportunities to reduce U.S. taxes. We must 
promulgate reporting requirements to provide the IRS with information 
to ensure that shareholders are paying the tax owed on the gain 
recognized in an inversion transaction. We also are working on other 
areas where further study is needed.
    In addition, we must continue to work to address the U.S. tax 
disadvantages faced by U.S.-based companies that do business abroad 
relative to their counterparts in our major trading partners. We look 
forward to working closely with the Committee on this important issue.
    Interest on Related Party Debt. One of the simplest ways for a 
foreign-based company to reduce the U.S. tax on income from U.S. 
operations is through deductions for interest payments on intercompany 
debt. The U.S. subsidiary can be loaded up with a disproportionate 
amount of debt for purposes of generating interest deductions through 
the mere issuance of an intercompany note, without any real movement of 
assets or change in business operations. Interest paid by a U.S. 
subsidiary to its foreign parent or a foreign affiliate thereof gives 
rise to a U.S. tax deduction but the interest income may be subject to 
little or no tax in the home country of the foreign related party 
recipient. It is important to recognize that a U.S.-based company could 
not achieve such a result. Indeed, the rules governing the allocation 
of interest expense to which U.S.-based companies are subject can 
operate effectively to deny a U.S. company deductions for interest 
expense incurred in the United States and paid to an unrelated third 
party.
    The potential to use foreign related-party debt to generate 
deductions that reduce taxable income in the United States is not 
unique to inversion transactions, and concern about this technique is 
not new. Section 163(j) of the Internal Revenue Code was enacted in 
1989 to address these concerns by denying U.S. tax deductions for 
certain interest expense paid by a corporation to a related party. 
Section 163(j) as it currently exists applies only where (1) the 
corporation's debt-equity ratio exceeds 1.5 to 1, and (2) its net 
interest expense exceeds 50 percent of its adjusted taxable income 
(computed by adding back net interest expense, depreciation, 
amortization and depletion, and any net operating loss deduction). If 
the corporation exceeds these thresholds, no deduction is allowed for 
interest in excess of the 50-percent limit that is paid to a related 
party and that is not subject to U.S. tax. Any interest that is 
disallowed in a given year is carried forward indefinitely and may be 
deductible in a subsequent taxable year. Section 163(j) also provides a 
four-year carryforward for any excess limitation (i.e., the amount by 
which interest expense for a given year falls short of the 50 percent 
of adjusted tax income threshold).
    A revision of these rules is needed immediately to eliminate what 
is referred to as the real ``juice'' in an inversion transaction. The 
prevalent and increasing use of foreign related-party debt in inversion 
transactions demonstrates the importance to these transactions of the 
tax reductions achieved through interest deductions and the need to act 
now to eliminate this benefit. Accordingly, we propose statutory 
changes to tighten the interest disallowance rules of section 163(j) in 
several respects. Moreover, the opportunities for generating interest 
deductions that reduce U.S. taxable income are not limited to inversion 
transactions. These U.S. taxable income minimization strategies, which 
are not available to U.S.-based companies, are possible as well in 
cases where a U.S. business is structured from the outset with a 
foreign parent and in cases where a foreign corporation acquires a U.S. 
operating group. Therefore, we believe these revisions to section 
163(j) should not be limited to companies that have inverted but should 
apply across the board. There is no reason to allow companies to reduce 
income that would otherwise be subject to U.S. tax through deductions 
generated simply by putting in place debt owed to related parties.
    The fixed debt-equity test of current law effectively operates as a 
safe harbor for corporations with debt-equity ratios of 1.5 to 1 or 
lower. We propose replacing the safe harbor protection currently 
available under the fixed 1.5 to 1 debt-equity test with a test that 
would deny a deduction for related party interest to the extent that 
the corporate group's level of indebtedness in the United States 
exceeds its worldwide level of indebtedness. This worldwide test would 
compare (i) the ratio of indebtedness incurred by the U.S. members of 
the corporate group to their assets, with (ii) the ratio of the entire 
corporate group's worldwide indebtedness (excluding related party debt) 
to its worldwide assets. Interest that is paid to related parties and 
that is not subject to U.S. tax would be denied deductibility to the 
extent it is attributable to indebtedness in excess of the worldwide 
ratio.
     With this approach, the 50-percent of adjusted taxable income test 
would operate as a second, alternative test applicable in cases where 
the U.S. debt-to-assets ratio does not exceed the worldwide ratio. We 
propose modifying the 50-percent test by revising the definition of 
adjusted taxable income to eliminate the addback of depreciation, 
amortization and depletion. This would have the effect of appropriately 
focusing the test on net interest expense as a percentage of income 
rather than cash flow.
    We also propose curtailing the carry over rules applicable under 
section 163(j). Although the current carryforwards appropriately 
provide relief to those taxpayers whose interest-to-income ratio may be 
subject to unanticipated fluctuations due to business fluctuations, an 
indefinite carryforward has the effect of dampening the impact of the 
deduction denial. This consequence is further exacerbated by the 
ability under current law to carry forward excess limitation to shelter 
additional interest deductions in future years. Accordingly, we propose 
eliminating the carryforward of excess limitation and limiting the 
carryforward period for disallowed deductions to 5 years.
    Income Shifting and Transfers of Intangibles. Another way for a 
foreign-based company to reduce the U.S. tax on income from U.S. 
operations is through related-party transactions for other than arm's 
length consideration. Many inversion transactions involve the movement 
of foreign subsidiaries out of the U.S. group so that they are held 
directly by the new foreign parent. Some inversion transactions involve 
transfers of intangible or other assets, or business opportunities, to 
the new foreign parent or its foreign subsidiaries. This type of 
movement of foreign subsidiaries, assets, and opportunities is not 
unique to inversion transactions. The same sort of restructuring 
transactions are common whenever a multinational group is acquired or 
makes an acquisition. Cross-border transfers of subsidiaries and assets 
can give rise to significant valuation issues, and the ongoing 
transactions between the various entities can give rise to significant 
income allocation issues.
    The outbound transfer of subsidiaries and assets to a related 
person in a taxable transaction is subject to the transfer pricing 
rules of section 482 and the regulations thereunder, which provide that 
the standard to be applied is that of unrelated persons dealing at 
arm's length. In the case of transfers of intangible assets, section 
482 further provides that the income with respect to the transaction 
must be commensurate with the income attributable to the intangible 
assets transferred. The magnitude of the potential tax savings at stake 
in substantial outbound transfers of assets, especially intangible 
assets, puts significant pressure on the enforcement and application of 
the arm's length and commensurate with income standards. Where the 
arm's length standard is not properly applied or enforced, the 
inappropriate income shifting that results can significantly erode the 
U.S. tax base.
    Treasury will undertake a comprehensive study focusing on the tools 
needed to ensure that cross-border transfers and other related party 
transactions, particularly transfers of intangible assets, cannot be 
used to shift income out of the United States. This will include a 
review and appropriate revisions of the contemporaneous documentation 
and penalty rules and of the substantive rules relating to transfers of 
intangible property and services and cost sharing arrangements. It also 
will include an administrative compliance initiative. While there is 
much that can and will be accomplished in this area through regulatory 
guidance and enhanced enforcement efforts, Treasury will report to the 
Congress on any need for statutory changes or additions.
    Treasury and the IRS will undertake an initiative to review current 
practices related to the examination of transfer pricing issues and the 
imposition of transfer pricing penalties, with a particular emphasis on 
transactions in which intangibles are transferred. The volume and 
complexity of cross-border related party transactions have grown 
significantly in recent years, and a number of U.S. trading partners 
have undertaken broad compliance initiatives relative to transfer 
pricing. The purposes of this comprehensive review will include 
ensuring that contemporaneous documentation from taxpayers is utilized 
effectively by the IRS and that transfer pricing penalties are imposed 
where warranted on a fair and consistent basis. This focused review 
also will help identify potential improvements to existing rules, 
including the provisions regarding penalties, reporting, and 
documentation, that would enhance transfer pricing compliance.
    We will revise the current section 482 cost sharing regulations 
with a view to ensuring that cost-sharing arrangements cannot be used 
to facilitate a disguised transfer of intangible assets outside the 
United States in a manner inconsistent with the arm's length standard, 
as reinforced by the commensurate with income standard. The purpose of 
the cost sharing regulations is to facilitate the allocation among 
related taxpayers of future income attributable to future intangible 
property in a manner that reasonably reflects the actual economic 
activity undertaken by each related taxpayer to develop that property. 
This work will focus initially on the effectiveness of the current 
rules intended to apply the arm's length standard to taxpayers that 
contribute to the cost sharing arrangement the right to use existing 
intangible property, such as know-how or core technology, which often 
constitutes the most important and valuable input into the development 
of future intangible property.
    We also will review the section 482 regulations applicable to 
transfers of intangible assets to ensure they do not operate to 
facilitate the transfer of intangible property outside the United 
States for less than arm's length consideration. These regulations 
relating to the transfer of intangible assets implement the arm's 
length and commensurate with income standards by allowing periodic 
adjustments to transfer prices in limited circumstances based on 
objective standards. While these objective standards have provided 
certainty and minimized disputes in this otherwise contentious area, 
focus is needed on ensuring the proper operation of the periodic 
adjustments provisions.
    Finally, as part of an ongoing project to update the 482 
regulations applicable to services, we will work to mitigate the extent 
to which the structuring or characterization of a transfer of 
intangible assets as the provision of services can lead to 
inappropriate transfer pricing results. The differences between the 
section 482 regulations relating to the provision of services and those 
relating to the transfer of intangible property could be exploited 
through the characterization of a transfer of intangible property as a 
provision of services. While a transfer of intangibles through a 
license in return for royalty payments and the provision of technical 
services utilizing the intangibles in return for a service fee, for 
example, may be similar from an economic perspective, the transfer 
pricing results may differ depending on whether the transfer pricing 
regulations related to services or intangible property are applicable. 
The transfer pricing rules should reach similar results in the case of 
economically similar transactions regardless of the characterization or 
structuring of such transactions.
    Because the potential to use related party transactions to reduce 
the U.S. tax on income from U.S. operations is not unique to inversion 
transactions, our proposals in this area are not limited in scope to 
corporations that have inverted.
    Income Tax Treaties. The United States imposes a withholding tax at 
a rate of 30 percent on payments of interest and royalties (as well as 
dividends) from a U.S. corporation to a foreign affiliate. This 
withholding tax may be reduced or eliminated in certain circumstances 
under an applicable income tax treaty. The cost advantage achieved by 
shifting income by means of deductible payments to foreign related 
parties is most effective when the payments are to a foreign related 
party that is eligible for benefits under a comprehensive U.S. income 
tax treaty and, in addition, is not subject to significant local tax on 
the income.
    Most inversion transactions have involved a reincorporation into a 
foreign jurisdiction either that does not have a tax treaty with the 
United States or whose treaty with the United States does not generally 
reduce U.S. withholding tax rates. However, many of the newly created 
foreign parent corporations may be considered resident for treaty 
purposes in a country that has a comprehensive tax treaty with the 
United States and that does not subject certain payments received by 
its corporations to significant local income tax. Through such a 
structure, the cost advantage achieved by shifting income can be 
maximized. Similar results may be obtained through the use of finance 
subsidiaries located in certain treaty jurisdictions.
    We must review and evaluate our tax treaties to identify any 
inappropriate reductions in U.S. withholding tax that provide 
opportunities for shifting income out of the United States. U.S. income 
tax treaties are intended to prevent the double taxation by the United 
States and its treaty partner of income earned by residents of one 
country from sources within the other. Thus, the United States does not 
enter into income tax treaties that lower the rates of U.S. withholding 
tax on U.S.-source income (e.g., U.S.-source interest and royalties) 
with jurisdictions that do not have a comprehensive income tax system. 
In such a case, there is no need to reduce the U.S. withholding tax 
because there is no risk of double taxation. We must make certain that 
the operation of our treaties is consistent with the expectation of the 
United States and its treaty partners that treaties should reduce or 
eliminate double taxation of income, not eliminate all taxation of 
income. If a current or prospective treaty partner does not tax a 
particular category of U.S.-source income earned by its residents, 
either because of a general tax exemption or a special tax regime, 
reduction of U.S. withholding tax on that category of income may not be 
appropriate.
    We also must consider whether anti-abuse mechanisms already within 
our treaties are operating properly. Because U.S. tax treaties are 
intended to benefit only residents of either the United States or the 
treaty partner, U.S. income tax treaties include detailed limitation on 
benefits provisions, to prevent the misuse of treaties by residents of 
third countries. Those limitation on benefits provisions are important 
for ensuring that a resident of a third country cannot benefit 
inappropriately from a reduction in U.S. withholding tax by structuring 
a transaction, including a transaction designed to generate deductible 
payments, through a treaty country. One of Treasury's key tax policy 
goals in modernizing our network of existing tax treaties is to bring 
the limitations on benefits provisions in all our treaties up to 
current model standards so as to remove the opportunity for such 
misuse.
    Reporting Requirements. In many inversion transactions the 
company's shareholders are required to recognize gain. Current Treasury 
regulations generally require Form 1099 reporting to the IRS of the 
gross proceeds from any sale for cash effected by a broker in the 
ordinary course of its business. However, there are no similar 
reporting obligations in the case of an inversion where a shareholder 
exchanges stock of one corporation for stock in another corporation. We 
intend to establish a Form 1099 reporting requirement for stock 
transfers in inversions and other taxable reorganization transactions. 
Requiring reporting of these transactions will increase the IRS's 
access to information about the transactions. It also will serve to 
remind shareholders of the tax consequences to them from the company's 
transaction and of their obligation to report any gain.
    Other Areas of Further Study. There are two other areas where we 
believe that further study is needed and we have begun careful 
consideration of these areas.
    A comprehensive review of the corporate organization and 
reorganization rules is needed in light of the increasing pressure put 
on these rules through the larger and more complicated international 
restructuring transactions that are becoming commonplace. The corporate 
organization and reorganization rules, as well as the other related 
rules affecting corporations and their stock and option holders, were 
written largely for purely domestic transactions. Section 367, and the 
lengthy regulations there under, modify those rules for application in 
the case of cross-border transactions. With the increasing 
globalization of both U.S. companies and foreign companies, these rules 
are being applied more frequently and to larger and more complicated 
cross-border transactions. It is critical that the rules governing 
cross-border reorganizations keep up with these developments. The 
current cross-border reorganization rules are something of a patchwork, 
developed and revised over the last twenty years. One focus in this 
reconsideration of the current-law rules will be on achieving greater 
consistency in treatment across similar transactions, in order to avoid 
both traps for the unwary and opportunities for taxpayers to exploit 
the rules to reach results that are not intended. Moreover, clearer 
rules will help provide greater certainty to taxpayers and the 
government in this complex area.
    A careful review also is needed of the income-shifting issues that 
arise in the context of the several inversion transactions that have 
involved insurance and reinsurance companies. The initial 
reincorporation outside the United States typically has been 
accompanied by a shift of some portion of the existing U.S. insurance 
business through reinsurance with a related foreign affiliate. An 
evaluation must be made as to whether the use of related party 
reinsurance permits inappropriate shifting of income from the U.S. 
members of a corporate group to the new foreign parent and its foreign 
affiliates, and whether existing mechanisms for dealing with such 
related party transactions are sufficient to address these 
opportunities. In this regard, further analysis is appropriate to 
consider and evaluate the approaches used by our trading partners in 
taxing insurance companies, including, for example, the use by some 
countries of a premium-based tax that captures within the country's tax 
base all business written on risks within the country.
    Finally, we must continue our work to address the U.S. tax 
disadvantages for U.S.-based companies that do business abroad relative 
to their counterparts in our major trading partners. The U.S. 
international tax rules can operate to impose a burden on U.S.-based 
companies with foreign operations that is disproportionate to the tax 
burden imposed by our trading partners on the foreign operations of 
their companies. The U.S. rules for the taxation of foreign-source 
income are unique in their breadth of reach and degree of complexity. 
Both the recent inversion activity and the increase in foreign 
acquisitions of U.S. multinationals are evidence that the competitive 
disadvantage caused by our international tax rules is a serious issue 
with significant consequences for U.S. businesses and the U.S. economy. 
A comprehensive reexamination of the U.S. international tax rules and 
the economic assumptions underlying them is needed. As we consider 
appropriate reformulation of these rules we should not underestimate 
the benefits to be gained from reducing the complexity of the current 
rules. Our system of international tax rules should not disadvantage 
U.S.-based companies competing in the global marketplace.
    As we work to address these important issues, we must keep our 
focus on the overarching goal of maintaining the attractiveness of the 
United States as the most desirable location in the world for 
incorporation, headquartering, foreign investment, business operations, 
and employment opportunities, in order to achieve an ever higher 
standard of living for all Americans.
    [The attachment is being retained in the Committee files.]

                               

    Chairman THOMAS. Thank you very much, Ms. Olson. As I said 
in my opening remarks, one, for the fact that you issued a 
study which may or may not have been serendipitous in terms of 
its timing, but it was still, nevertheless, very useful. 
Second, your testimony is very specific, and again, that is 
refreshing, because you have offered some very specific 
remedies to a specific problem.
    You also state in your testimony on page two, the first 
full paragraph there, that the Treasury preliminary report also 
discusses the need to address the U.S. tax disadvantages that 
are caused for U.S.-based companies because of U.S. tax 
treatment of their foreign operations. We must evaluate our tax 
system, particularly our international tax rules, relative to 
those of our major trading partners to ensure that the U.S. tax 
system is competitive. That sounds like a fairly broad 
statement about the need to examine far more fundamentally our 
tax code than the specifics that you provided in your testimony 
focused on inversions.
    As you know, we have embarked on trying to put together a 
tax package to respond to, because we are required to respond 
to the WTO decision on the fact that our foreign sales 
structure is considered a subsidy. Could you give us some 
specifics of what you meant by that paragraph in terms of what 
it is that we should be focusing on, and are there other areas 
in which, for want of a better term, inversions have occurred 
or might occur that would not necessarily be captured by the 
specifics that you have provided, or that since we are looking 
at the way in which we deal with corporations that are involved 
internationally, other tax aspects that perhaps we should at 
least begin to lay on the table?
    I know that is a very broad question, and obviously, the 
Chair will appreciate whatever verbal response you can give, 
but I am anticipating that this may involve a more extensive 
written response to the question, which you will provide us 
with over the next few days.
    Ms. OLSON. All right. Thank you. First of all, of course, 
the U.S. operates a worldwide system of income tax, which means 
that U.S. companies with foreign operations are subject to tax 
in the United States on the income from those foreign 
operations. The double tax that can result from that is 
addressed by our foreign tax credit system, but the foreign tax 
credit system is extremely complicated. It has a number of 
limitations and many companies find that they are not able to 
make full use of the foreign tax credits to offset the double 
taxation.
    In addition, we have subpart F of the tax code, under which 
we impose current U.S. tax on a number of foreign activities of 
U.S. companies with foreign subsidiaries without regard to 
whether or not that income is actually distributed to the U.S. 
parent. That is another area of the Tax Code that requires a 
look, because in that realm in particular, a number of our 
major trading partners do not tax that income at all, let alone 
tax it currently.
    In addition, we need to look at our interest allocation 
rules, which function almost opposite of the way that the 
interest rules function with respect to foreign-owned 
companies, and they sharply limit U.S. companies' ability to 
use foreign tax credits.
    Chairman THOMAS. That means, then, that obviously, if we 
are looking at this one particular example which has come to 
the attention, for want of a better term, of the popular press, 
it is more or less on the cliche of the tip of the iceberg of 
things that we need to look at, which then takes me to the 
bottom of page two in terms of your testimony in which you say 
a narrow policy response to the inversion phenomenon may 
inadvertently result in a tax code favoring the acquisition of 
U.S. operations by foreign corporations and the expansion of 
foreign-controlled operations in the United States at the 
expense of domestically managed corporations.
    Would it not be ironic if we are attempting to resolve the 
problem of U.S. companies going foreign to remain U.S. 
companies if we created a change in the law which made it more 
advantageous for foreign corporations to acquire U.S. 
corporations. What did you mean specifically and to what 
reference is this a narrow policy response directive?
    Ms. OLSON. Well, if we passed legislation, for example, 
that only imposed sharper rules, stricter rules on companies 
that had inverted, then that would mean that companies that 
started, for example, in Bermuda or Luxembourg or some other 
foreign country or currently foreign-owned companies would have 
tax advantages over U.S. companies that might seek to invert. 
So if we just focus on the inverted companies, we may create 
some real discontinuities in the tax code that would advantage 
foreign-owned companies and we want to avoid that.
    I want to mention one other thing on the question that you 
asked previously. You asked about inversion transactions that 
might be occurring that might not be caught by the proposals 
that we have laid out today and one of those is the insurance 
transactions, which have been occurring for some time, 
involving inversion transactions into Bermuda. Those would not 
be captured by the rules that we have talked about here because 
that is not a problem associated with mis-pricing. At least so 
far as we know, the transactions have been priced at arms' 
length market prices. What we try to capture within the U.S. 
tax base is income, and so we try to appropriately measure 
income in making sure that we have got arms' length prices.
    So long as those transactions, which include a move to 
Bermuda followed by reinsurance of U.S. risks into Bermuda, are 
appropriately priced, they would not be captured by the current 
rules in the tax code, and so for that we need to perhaps take 
a more fundamental look at the direction of the tax code and 
whether or not it makes sense in that area to continue to try 
to tax on the basis of income or whether we should be looking 
at something more along the lines of what some of our trading 
partners do, which is to focus a tax on premiums.
    Chairman THOMAS. If I understand what you are saying, as 
companies involve themselves internationally or international 
companies involve themselves in the United States, if you base 
your tax system on the income, you are going to be chasing 
these corporations all over the world and examining the 
structures that they offer amid different taxing structures 
around the world to try to figure out how we would extract what 
would be an appropriate tax on the income, and maybe that is 
probably not the best way to go in terms of trying to produce 
revenue in an appropriate amount and that we should look at a 
different way of dealing with companies that are dealing with 
insurance.
    Would this be unique to insurance or would it have 
relevance to other corporations as well? That is, that pursuing 
the income of the corporations may not be the most meaningful 
way to raise appropriate revenue on U.S. activities?
    Ms. OLSON. In many ways, our study and the Internal Revenue 
Code, in general, the complexity of it reflects our continuing 
dissatisfaction with our attempts to define income. We keep 
slapping new rules on to chase this, that, or the other thing 
and it makes it extremely complicated, and in the end, somebody 
always finds a way around it and then we come back to try once 
again to define income so that we feel that we have 
satisfactorily captured within the U.S. base the amount that we 
want captured.
    Chairman THOMAS. At least in terms of the example that you 
raised, insurance companies, just give me a brief review again 
of what might be suggested. I do not believe you are offering 
this as a policy today, but you are using it as an example of 
the difficulty of trying to tax income. What could be an option 
that would replace the corporate income tax on insurance 
companies would be what?
    Ms. OLSON. It would be a tax on the premiums written by the 
insurance companies, which is the way that some of our trading 
partners tax the insurance business.
    Chairman THOMAS. Premiums in the United States?
    Ms. OLSON. Premiums written within the United States, and 
that way, what you would capture within the tax base is all of 
the risks written in the United States.
    Chairman THOMAS. Your concern about too narrow a response 
obviously means we would lead perhaps to some unanticipated 
consequences because of the ongoing drive to be the lowest-
price competitor, and where the tax code comes into place, we 
had better be careful of making a change in one area because it 
may have repercussions in other areas that we have not 
anticipated, and that, of course, requires, then, a broader 
look to make sure that if we do make a move, we understand what 
are the relevant ancillary consequences of decisions that we 
make, which means we have a bit of a dilemma because we have a 
relatively immediate problem in dealing with these corporate 
inversions as we have begun to understand them, especially with 
the Treasury Department study, and the need, as you indicate, 
to look at a number of other areas that taxes might be changed, 
which clearly would not be a short-term response to the 
immediate problem, and that is part of the dilemma, I think. 
How do you deal with the immediate problem while you are 
looking at the larger concerns that may require a more in-depth 
and a more broadly-based tax modification?
    Thank you very much for your testimony. Does the gentleman 
from New York wish to inquire?
    Mr. RANGEL. Thank you, Mr. Chairman.
    I regret, as much as you would have wanted to avoid the 
conflict that we have today between the full Committee hearing 
testimony on what is a complex tax issue and what is a real 
important tax issue on the Floor. Through no fault of your own, 
the Members of this Committee find ourselves before this panel, 
recognizing that a lot of U.S. companies have announced that in 
order to avoid U.S. income taxes during a time of war, that 
they will leave the United States and seek a tax haven 
elsewhere. So there has to be long- and short-term 
consequences, and we had thought this matter was going to be in 
front of the subcommittee. The Chair has decided it is 
important enough to be in front of the full Committee.
    We also thought that since at least two Members of the 
Congress had information that they could bring to us to say 
what impact this would have, both of them being from 
Connecticut, Mrs. Johnson and Mr. Maloney, that they would be 
able to share some light on this subject matter, and we have 
learned that notwithstanding the request made by Congressman 
Maloney, that has been denied and he will not be allowed to 
testify in front of the full Committee.
    I have been here 32 years. I have never heard of a Member, 
a sitting Member of this body's request to testify being turned 
down. It is an election year and it is probably a good reason, 
but we will find out what it is about.
    Second, we have a bill on the Floor to make permanent the 
estate tax repeal, which I have been advised in the next 10 
years, if you include debt service, is going to cost us $1 
trillion. We all are trying to find ways to preserve Social 
Security, Medicare, prescription drugs, but in this political 
year, make no mistake about it, to Members of this Committee, 
it is a very, very important issue because we have 
jurisdiction.
    So we really think--we beg you to reconsider, because of 
the witnesses, because of the audiences, and because this is 
not going to work, that just because we are in the minority 
that you expect us to be two places at one time. I am supposed 
to manage the bill on the estate tax repeal at the same time. I 
feel some sense of responsibility as the senior Member to see 
which way the testimony is going on this complex issue before 
us.
    Now, I know you do not want it to have this conflict, and I 
do not either, but I will ask you to consider postponing this 
meeting until after we complete our work on the Floor, and 
before I put it into a motion, I will ask you to respond 
whether you would consider it.
    Chairman THOMAS. I appreciate the gentleman's presentation. 
I do want to make sure that all of us understand what the facts 
are and what the time line is.
    The Chair intended to have a full Committee hearing on this 
subject just as we had a full Committee hearing on FSC, to set 
the tone so that we could then examine the more specific 
aspects of areas, as we are now doing on the foreign sales 
corporation. We had an initial hearing. There was no Member 
panel at that particular hearing, and we moved forward, 
notwithstanding the fact there is legislation in dealing with 
foreign sales corporation tax changes. There was no appeal by 
the minority at that time about how unfair it was that Members 
were not allowed to testify.
    The letter from Members requesting testimony arrived at the 
majority office after the minority staff was notified that, as 
was the case in the foreign sales corporation hearing, there 
would be no Member panel. I want to emphasize that. The hearing 
requesting testimony was received after we notified the 
minority staff that there would be no Member panel, and the 
assumption clearly is, once we decided that was not going to be 
the case, then you tried to get a letter in, which you now just 
used as justification for the requirement that the Members be 
heard.
    The Chair said in his opening statement that we are 
obviously going to have a series of hearings on this. I am 
quite sure if I turn to the Chairman of the Select Revenue 
Subcommittee that he would respond in a positive way to the 
desire to have Members in front of the Subcommittee because we 
are not denying anyone who wants to be heard.
    In addition to that, this hearing is similar to every other 
hearing that we have had in which the Committee call for the 
hearing indicates written testimony can be received from any 
individual, entity, Member, or otherwise, and it will be made a 
part of the record, so that the record would never be less than 
complete unless, of course, individuals wished not to submit 
the written testimony.
    We are holding this initial hearing in exactly the same 
format as we held the foreign sales corporation full Committee 
hearing. We have the same structure that we had at that time 
and then we will move forward examining the specifics just 
exactly the same way that we are doing with the foreign sales 
corporation.
    Mr. RANGEL. Mr. Chairman, I ask unanimous consent that this 
Committee allow Congressman Maloney to testify.
    [Objections were voiced.]
    Chairman THOMAS. Objections are heard.
    Mr. RANGEL. Mr. Chairman, I move that this Committee allow 
Congressman Maloney to testify.
    Chairman THOMAS. There is no such thing as a motion.
    Mr. RANGEL. Mr. Chairman, I----
    Chairman THOMAS. There is a unanimous consent of the 
Committee rules being in order, but there is not a motion that 
is in order at a hearing.
    Mr. RANGEL. I ask unanimous consent that the Committee 
recess until such time as the conflict that we have with the 
business on the Floor and the business before this hearing is 
resolved.
    [Objections were voiced.]
    Chairman THOMAS. Hearing objection, and the Chair would 
note that there is no conflict. The measure that is the 
jurisdiction of this Committee is not now in front of the Floor 
and that it is entirely appropriate for this Committee to 
continue to meet. The Ranking Member's concern about Members 
managing their time would probably be more appropriate when, in 
fact, the measure is before us on the Floor. It is not before 
us on the Floor, and we could be moving forward with the 
hearing rather than continuing this discussion.
    Mr. KLECZKA. Will the Chairman yield on that point?
    Mr. RANGEL. Mr. Chairman, as we talked, the rule which sets 
the guidelines in which this important Committee on Ways and 
Means tax issue before the Floor is being debated, as you know, 
you and I participate in testifying before the Rules Committee, 
so that is of concern to us. In addition to that, we really 
think that notwithstanding the request, when it was made, that 
allowing a Member 5 minutes to testify, whether it is a man or 
woman, Republican or Democrat, is just a courtesy. If we are 
not going to get any consideration at all, then I have to be 
forced to move to adjourn formally this hearing.
    Chairman THOMAS. The gentleman has moved to adjourn. There 
is no debate on the motion to adjourn but there is a vote. All 
those in favor, say aye.
    Those opposed?
    In the opinion of the Chair, the noes have it. The noes 
have it----
    Mr. RANGEL. I ask for a roll call vote.
    Chairman THOMAS. The Clerk will call the roll.
    The CLERK. Mr. Crane?
    Mr. CRANE. No.
    The CLERK. Mr. Crane votes no.
    Mr. Shaw?
    Mr. SHAW. No.
    The CLERK. Mr. Shaw votes no.
    Mrs. Johnson?
    Mrs. JOHNSON OF CONNECTICUT. No.
    The CLERK. Mrs. Johnson votes no.
    Mr. Houghton?
    [No response.]
    The CLERK. Mr. Herger?
    [No response.]
    The CLERK. Mr. McCrery?
    Mr. McCRERY. No.
    The CLERK. Mr. McCrery votes no.
    Mr. Camp?
    Mr. CAMP. No.
    The CLERK. Mr. Camp votes no.
    Mr. Ramstad?
    [No response.]
    The CLERK. Mr. Nussle?
    [No response.]
    The CLERK. Mr. Johnson?
    [No response.]
    The CLERK. Ms. Dunn?
    [No response.]
    The CLERK. Mr. Collins?
    Mr. COLLINS. No.
    The CLERK. Mr. Collins votes no.
    Mr. Portman?
    Mr. PORTMAN. No.
    The CLERK. Mr. Portman votes no.
    Mr. English?
    Mr. ENGLISH. No.
    The CLERK. Mr. English votes no.
    Mr. Watkins?
    Mr. WATKINS. Pass.
    The CLERK. Mr. Watkins passes.
    Mr. Hayworth?
    Mr. HAYWORTH. No.
    The CLERK. Mr. Hayworth votes no.
    Mr. Weller?
    [No response.]
    The CLERK. Mr. Hulshof?
    Mr. HULSHOF. No.
    The CLERK. Mr. Hulshof votes no.
    Mr. McInnis?
    Mr. McINNIS. No.
    The CLERK. Mr. McInnis votes no.
    Mr. Lewis?
    Mr. LEWIS OF KENTUCKY. No.
    The CLERK. Mr. Lewis votes no.
    Mr. Foley?
    Mr. FOLEY. No.
    The CLERK. Mr. Foley votes no.
    Mr. Brady?
    [No response.]
    The CLERK. Mr. Ryan?
    Mr. RYAN. No.
    The CLERK. Mr. Ryan votes no.
    Mr. Rangel?
    Mr. RANGEL. Aye.
    The CLERK. Mr. Rangel votes aye.
    Mr. Stark?
    Mr. STARK. Pass.
    The CLERK. Mr. Stark passes.
    Mr. Matsui?
    Mr. MATSUI. Aye.
    The CLERK. Mr. Matsui votes aye.
    Mr. Coyne?
    [No response.]
    The CLERK. Mr. Levin?
    Mr. LEVIN. Aye.
    The CLERK. Mr. Levin votes aye.
    Mr. Cardin?
    Mr. CARDIN. Aye.
    The CLERK. Mr. Cardin votes aye.
    Mr. McDermott?
    [No response.]
    The CLERK. Mr. Kleczka?
    Mr. KLECZKA. Aye.
    The CLERK. Mr. Kleczka votes aye.
    Mr. Lewis from Georgia?
    [No response.]
    The CLERK. Mr. Neal?
    Mr. NEAL. Aye.
    The CLERK. Mr. Neal votes aye.
    Mr. McNulty?
    Mr. McNULTY. Aye.
    The CLERK. Mr. McNulty votes aye.
    Mr. Jefferson?
    [No response.]
    The CLERK. Mr. Tanner?
    Mr. TANNER. Aye.
    The CLERK. Mr. Tanner votes aye.
    Mr. Becerra?
    Mr. BECERRA. Aye.
    The CLERK. Mr. Becerra votes aye.
    Mrs. Thurman?
    Mrs. THURMAN. Aye.
    The CLERK. Mrs. Thurman votes aye.
    Mr. Doggett?
    Mr. DOGGETT. Aye.
    The CLERK. Mr. Doggett votes aye.
    Mr. Pomeroy?
    [No response.]
    The CLERK. Mr. Houghton?
    [No response.]
    The CLERK. Mr. Herger?
    [No response.]
    The CLERK. Mr. Ramstad?
    [No response.]
    The CLERK. Mr. Nussle?
    [No response.]
    The CLERK. Mr. Johnson?
    [No response.]
    The CLERK. Ms. Dunn?
    [No response.]
    The CLERK. Mr. Weller?
    [No response.]
    The CLERK. Mr. Brady?
    [No response.]
    The CLERK. Mr. Coyne?
    [No response.]
    The CLERK. I'm sorry, Mr. Watkins passed.
    Mr. WATKINS. No.
    The CLERK. Mr. Watkins changes his vote from pass to no.
    Mr. McDermott?
    [No response.]
    The CLERK. Mr. Lewis from Georgia?
    [No response.]
    The CLERK. Mr. Jefferson?
    [No response.]
    The CLERK. Mr. Pomeroy?
    [No response.]
    The CLERK. Mr. Chairman?
    Mr. STARK. Clerk?
    The CLERK. Yes?
    Mr. STARK. How am I registered?
    The CLERK. Mr. Stark is recorded as pass.
    Mr. STARK. Off pass, please, onto aye.
    The CLERK. Mr. Stark changes from pass to aye.
    Mr. Chairman?
    Chairman THOMAS. No.
    The CLERK. Mr. Chairman votes no.
    Chairman THOMAS. The Clerk will announce the vote.
    The CLERK. Sixteen noes, twelve ayes.
    Chairman THOMAS. There being 16 noes, 12 ayes, the motion 
is not agreed to.
    Mr. KLECZKA. Mr. Chairman?
    Chairman THOMAS. The gentleman from Wisconsin?
    Mr. KLECZKA. Inquiry of the Chair. You indicated to Ranking 
Member Rangel that the bill to repeal the estate tax was not 
currently on the Floor, and the Chairman is correct. We are 
debating the rule which precedes the bill. Is it the Chairman's 
intention that once the bill proper comes up, the Committee 
will recess so we can participate in the debate on this 
legislation?
    Chairman THOMAS. I would tell the gentleman that any Member 
who wishes to participate in a debate or go somewhere else is 
not required to attend this hearing.
    Mr. KLECZKA. Well, but Mr. Chairman, this----
    Chairman THOMAS. This hearing will go forward.
    Mr. KLECZKA. This hearing is important enough that the 
Members should be here, also. I am at a loss as to why the 
Chairman would schedule this hearing and send the bill to the 
Floor at the same time. I am somewhat suspect that maybe this 
hearing should overshadow what we are doing on the Floor so the 
public does not know we are providing a big giveaway to the 
wealthy of the wealthy on the House Floor. That is my 
suspicion----
    Chairman THOMAS. I tell----
    Mr. KLECZKA. Nevertheless, Mr. Chairman----
    Chairman THOMAS. I tell the gentleman----
    Mr. KLECZKA. We might think we are powerful on this 
Committee, but we still----
    Chairman THOMAS. Get your point out.
    Mr. KLECZKA. Despite that, cannot be in two places at once.
    Chairman THOMAS. I understand that. This is a very 
difficult job----
    Mr. KLECZKA. This is a pretty big Committee, but we have 
not mustered that trick.
    Chairman THOMAS. It is a complex job and oftentimes we are 
forced to make decisions on a priority basis, and----
    Mr. KLECZKA. Priority schmiority, Mr. Chairman. We could 
have had this hearing yesterday.
    Chairman THOMAS. I understand----
    Mr. KLECZKA. We could have had it tomorrow. We could have 
had it Tuesday.
    Chairman THOMAS. I will respond to the gentleman that this 
hearing has been scheduled for some time. The Chair is not in 
control of the scheduling of the Floor.
    Mr. KLECZKA. Oh, do not give us that. You knew damn well 
when that bill was coming up.
    Chairman THOMAS. I understand the gentleman's difficulty in 
dealing with the complex world.
    [Laughter.]
    Mr. KLECZKA. No, the problem is being in two places at 
once, okay? Now, maybe Mr. Thomas can do that and walk on water 
at the same time, but I think the bulk of this Committee has 
not been able to do that.
    Chairman THOMAS. If the gentleman has finished----
    Mr. KLECZKA. The truth does hurt, sir, and I----
    Chairman THOMAS. If the gentleman is finished with his 
parliamentary inquiry, which it was not, and the Chair would--
--
    Mr. KLECZKA. It was only an inquiry of the Chair. It was 
not parliamentary.
    Chairman THOMAS. Fine. The Chair has responded to the 
inquiry.
    Now, does anyone wish to ask questions of the Treasury 
Department based upon what the Chair considers some of the 
finest testimony that has been offered under any Administration 
as a specific guide to assist this Committee in dealing with 
the very difficult problem in front of us?
    The gentleman from Illinois?
    Mr. CRANE. Thank you, Mr. Chairman.
    Ms. Olson, has the Treasury Department surveyed any of the 
companies that have inverted or been acquired by a foreign 
company and asked them what changes to our tax laws would have 
kept them a domestic company?
    Ms. OLSON. Yes, Mr. Crane, we have spoken with a number of 
companies over the course of our study of the inversion 
transactions to learn what was motivating the transactions and 
have identified some of the things that I discussed in response 
to my question from Mr. Thomas regarding the subpart F rules, 
the complexity of the foreign tax credit rules, the interest 
allocation rules. Those are things that particularly complicate 
and make it expensive for U.S. companies to compete against 
their foreign competitors in the same lines of business.
    Mr. CRANE. Would you not agree that current tax law, like 
the 30 percent withholding tax on the dividend income received 
by offshore investors in U.S. mutual funds has the effect of a 
punitive export tax, and does this force U.S. mutual funds 
offshore in order to be competitive against foreign investment 
funds?
    Ms. OLSON. That is an issue that we are looking at and we 
will continue to look at that and I appreciate you raising the 
question.
    Mr. CRANE. I understand that some of the highest average 
worker wages are paid by the investment management industry 
here in the United States. As a matter of national public 
policy, would we not prefer as a Nation to employ those workers 
in financial services firms here in the United States rather 
than shipping high-quality jobs offshore? By keeping this 
economic activity in the United States, would we not enhance 
the collection of U.S. tax revenues? Instead of exporting 
products, we are exporting high-paying jobs. What kind of 
national public policy is that?
    Ms. OLSON. It sounds to me like one we should change 
quickly.
    [Laughter.]
    Mr. CRANE. Finally, in light of the economic devastation 
from September 11 that hit the financial services industry 
particularly hard, would not correcting this flaw in U.S. tax 
policy assist in putting some of the victims back into quality 
jobs?
    Ms. OLSON. That is certainly something we can take a look 
at.
    Mr. CRANE. Thank you.
    Chairman THOMAS. Does the gentleman from California, Mr. 
Stark, wish to inquire?
    Mr. STARK. Thank you, Mr. Chairman.
    Ms. Olson, if the Chair had allowed Congressman Maloney to 
testify, you would have learned that the Boston Globe, in 
referring to Congresswoman Johnson, suggested that her proposal 
for a moratorium was so sneaky and pernicious that no one could 
argue that it was anything but a phony way to avoid taxes and 
could not argue that it was good for the United States or 
anybody except the executive officers of companies who do it, 
or like the Stanley Works, plan to do it. So why should we have 
a temporary basis when a flat-out ban was needed?
    Then, of course, Mr. Maloney speaks to the workers and the 
common people in his district, unlike Mrs. Johnson, who only 
talks to the executives and stockholders, of which she is one 
of the Stanley Works. In talking to one of the retirees, 
Congressman Maloney determined that this retiree at the Stanley 
Works would be facing a tax bill of $17,000. As any retiree 
could tell you, that is a huge amount to pay, and particularly 
in the face of Mrs. Johnson supporting the privatization of 
Social Security and the privatization of Medicare. That would 
leave this Stanley Works machinist with precious little.
    Now, again, as I say, because you did not have the 
opportunity to hear from Congressman Maloney, who is concerned, 
vitally concerned about the people in his new district, could 
you tell me why we would allow the Stanley Works machinist to 
wait with this hanging over his head like the Sword of Damocles 
while the Republicans privatize Social Security and Medicare 
and then subject him to a tax bill which for him is 
substantial, while the executives at Stanley would be getting 
$30 and $40 million in extra compensation? Can you explain why 
the Boston Globe would have called Mrs. Johnson's moratorium 
sneaky and pernicious?
    Ms. OLSON. First, I would say that I think that trying to 
put up a Berlin Wall in response to these transactions is 
something that is unlikely to work and likely to have harmful 
effects on the U.S. economy. If we were unable to craft a 
response to the inversion transactions that would take the 
juice out of the transactions, remove the reasons for doing 
them quickly, then it would seem to me that approaching it from 
the standpoint of a moratorium, a temporary move in that 
direction might be appropriate.
    What we have put forward today is what we think is a set of 
proposals that will go a long ways toward eliminating the 
impetus for the inversion transactions and so we think that is 
a preferable route to a moratorium. A moratorium would be 
preferable to putting up a complete block on these kinds of 
transactions because they are just not going to work, and they 
are going to have other effects that are going to be harmful 
for the economy.
    Mr. STARK. What is not going to work, Ms. Olson?
    Ms. OLSON. I am sorry?
    Mr. STARK. What will not work?
    Ms. OLSON. An approach such as saying companies just cannot 
move. Number one, people will find ways to get around it, and 
number two, if you target something solely at inversion 
transactions, what you are then ignoring is the fact that 
companies can start offshore, that foreign companies can 
acquire U.S. companies and achieve the same results, and that 
is not good for the economy.
    Mr. STARK. Is it better for the economy to have them 
invert?
    Ms. OLSON. No. We definitely do not want them inverting. 
That is why we have tried to come up with a----
    Mr. STARK. So we could stop that. We could eliminate that 
permanently, could we not?
    Ms. OLSON. That is definitely what we would like to see 
happen.
    Mr. STARK. So if we followed Congressman Maloney's 
approach, and the approach that most of us feel would be much 
more certain to prevent the harm coming to these workers in 
Connecticut than we would under some moratorium which might 
last for 16 or 18 months. Then we would be right back in the 
soup, would we not?
    Ms. OLSON. No, I do not think we would be back in the soup 
because the reason to do a moratorium is to have time to 
consider fully what you ought to do to----
    Mr. STARK. Nothing gets considered in this Congress, Ms. 
Olson----
    Ms. OLSON. I am afraid there is, Mr. Stark----
    Mr. STARK. You are seeing that. They will not even allow 
Members of Congress who are experts in this field, who have a 
concern for the workers in Connecticut, like Congressman 
Maloney, to testify, only to protect the inadequacy of the 
representation that is given to them by Congresswoman Johnson. 
That is the problem we have in this Congress.
    Chairman THOMAS. The gentleman has the right to say 
whatever he chooses to say.
    Mr. STARK. Thank you, Mr. Chairman. I wish that that were 
extended to all Members of Congress.
    [Laughter.]
    Chairman THOMAS. The gentleman can get on the Committee. If 
the gentleman is willing to give up his seat to allow the other 
Member on the Committee, he can express himself right now.
    Mr. STARK. We could operate with a certain amount of 
courtesy and decency and get rid of the fascist----
    Chairman THOMAS. The gentleman's time has expired. Does 
anyone else wish to respond? That comment does not need to have 
a response.
    The gentleman from Florida?
    Mr. SHAW. Ms. Olson, I would join the Chairman in 
complimenting you on a very clear and precise description of 
the problem. I think Mr. Stark was getting into it. Clearly 
stated, does the legislation filed by Mr. Maloney, H.R. 3922, 
solve the problem that we are trying to solve?
    Ms. OLSON. No, we do not believe it does solve the problem 
we are trying to solve. We think it would miss a lot of things. 
It would have other effects, and those other effects could be 
very harmful for the economy.
    Mr. SHAW. Thank you. I think, Mr. Chairman, some of the 
comments that have been made from the other side of the aisle, 
I think fully explain why we should not turn these hearings 
into political contests between someone on the Committee and 
someone not on the Committee. It would absolutely, I think, be 
a tragedy if hearings of this Congress were to stoop to that 
level so that we ended up having these type of spats every 
other year during election years. I think that is very 
unfortunately. I would, frankly, compliment the Chairman for 
holding firm on that.
    I have a question regarding the stock transactions. This is 
the trading of American incorporated stock for foreign 
incorporated stock. As I recall from your comments, that is a 
taxable gain, is that not correct?
    Ms. OLSON. Yes, it is. There is tax on the shareholders 
when they exchange the stock in the U.S. company for stock in a 
Bermuda company.
    Mr. SHAW. Would it result in a stock loss, also, if the 
stock was below what the stockholder paid for it?
    Ms. OLSON. No. The loss is not recognized.
    Mr. SHAW. The loss is not recognized. How about stock 
options held by corporate employees? Is that taxable if the 
exchange is made for an option on a foreign stock?
    Ms. OLSON. Assuming it is an option covered by section 83, 
no, it is not treated as property, so it would not be treated 
as a taxable exchange.
    Mr. SHAW. We could clearly make it taxable?
    Ms. OLSON. Yes, we could.
    Mr. SHAW. Thank you. Thank you, Mr. Chairman.
    Chairman THOMAS. I thank the gentleman. Does the gentleman 
from California, Mr. Matsui, wish to inquire?
    Mr. MATSUI. Thank you, Mr. Chairman.
    Ms. Olson, one of the concerns that I have regarding the 
testimony you just gave--first of all, let me just say this. 
Mr. Neal and Mr. Maloney's bill basically, and correct me if I 
am wrong, but just the bare essentials would be that if a 
company reincorporates offshore but maintains essentially its 
shareholders and there is no change or very little change in 
shareholders, that company then will be treated for tax 
purposes as a U.S. company? It seems to me that that is pretty 
straightforward. It does not add a lot of complications in it, 
which seems to make a lot of sense, given the kind of offshore 
reincorporation that is being anticipated now. I say that and 
perhaps when you answer some of my questions, you might want to 
respond to that.
    The concern I have is that in Mr. O'Neill's comments in the 
press release when the Treasury Department's preliminary report 
was issued, I will just quote. ``When we have a Tax Code that 
allows companies to cut their taxes on their U.S. business by 
nominally moving their headquarters offshore, then we need to 
do something to fix the Tax Code.'' It sounds like we either 
move to a value-added tax or a national sales tax or perhaps 
lower U.S. corporate taxes as a way to do this, and, of course, 
that would do it. We can eliminate U.S. corporate taxes and 
there is no question in that situation that you would probably 
not see inversion.
    On the other hand, I could see a lot of corporations 6 
months later saying our environmental laws are just too 
stringent and it might be better just to take companies 
offshore and have them open up there because we can save 
hundreds of millions of dollars over the next decade by doing 
that, or labor standards, or any other standards. Maybe our 
antitrust laws are too stringent, so we will just move some of 
the businesses offshore for that purpose.
    I guess that is a consequence of globalization, and we all 
recognize that is happening. We cannot change that. We do not 
want to change it. It obviously lifts all boats.
    I think the answer you are giving basically will allow 
corporations to make that case of lower taxes for almost every 
other U.S. regulation or U.S. law that we have to maintain U.S. 
standards in terms of our country and what we stand for, 
national character. We are playing, to some extent by making 
this argument, right into the hands of those people that I 
disagree with that demonstrated in Seattle, Washington.
    I would hope that, somehow, you can try to come up with 
something that might have a little bit more weight to it, 
because I am afraid that that argument will be used by 
everybody. I mean, it is a very dangerous position, I think, if 
you extend it beyond where we are.
    I would like some of your thoughts on this, because I think 
there is a value in discussing the larger issue of the impact 
of globalization on U.S. regulations and U.S. laws. There is no 
question that at the National Oceanic and Atmospheric 
Administration discussions, this will be a major issue. We are 
going to get into competition policies, obviously with the GE-
Honeywell deal, with the recent European Union complexity in 
terms of how they view antitrust laws and how we do with 
respect to Microsoft.
    I think we are going to have to discuss these things, and 
somehow, the Congress and the American public is going to have 
to be well aware of the direction we are going. I think this is 
just the tip of the iceberg that we are seeing, and to suggest 
that we just eliminate U.S. corporate taxes or we lower U.S. 
taxes is not the answer because we can make that case for 
almost everything in terms of what we stand for as a Nation.
    Ms. OLSON. Thank you, Mr. Matsui. You are absolutely right. 
I want to first address the Neal and Maloney bill. We are not 
enthusiastic about any kind of a bill that would just kind of 
erect a blockade against companies going because we think that 
it would produce other ways of doing the same thing.
    This bill--you have heard said before, I am sure, that tax 
lawyers are among the most creative people alive and if you 
erect some kind of a rule, they will find their way around it. 
The Neal-Maloney bill, I think, is one that people would fairly 
quickly find their way around, and because of that and because 
of the other ways of achieving the same effects that the 
inverted companies are achieving, we do not think that is the 
right direction to go. So we think it is better to focus on the 
underlying problems and try to fix the underlying problems.
    With respect to the questions about our tax system in 
general, I am sure you have read the press about the Secretary 
directing us to begin thinking about tax reform, and that is 
something that we have underway. One of the things that is 
clear when you spend a lot of time looking at the tax code is 
that basing our tax system on income is something that is 
inherently very difficult to do. It is a very complicated 
process to figure out how you appropriately measure income.
    What I know the Secretary wants us to do is not to think 
about anything that reduces revenues, but rather to find the 
most efficient way of collecting for the government the 
revenues that it needs to operate. So one of the things that we 
may want to explore is whether there are alternatives to an 
income tax on business tax that might more efficiently collect 
the revenues that we need from that sector of the economy to 
fund government, and when we do that, I think it is critically 
important that we look at what is going on in our major trading 
partners.
    I think that the quality of life that we have here in the 
United States is surpassed nowhere and that is a natural magnet 
for business to the United States. I think the concern about 
quality of life also means that the countries that we have to 
be most concerned about are our major trading partners and 
whether our rules are in step with our major trading partners.
    Professor Michael Graetz in a book that he wrote a few 
years ago observed that in looking at our tax system and in 
particular international tax reform, we could no longer merely 
contemplate our own navel, and I think that is exactly right. 
We have to think more broadly, as you have suggested, about how 
other countries tax things, what their other rules are like on 
the antitrust side, the environmental side, et cetera. I think 
our focus will be mainly on our major trading partners whose 
systems are, in many respects, similar to ours, but in 
important respects differ from ours.
    Mr. MATSUI. Thank you.
    Chairman THOMAS. The gentleman's time has expired.
    Mr. MATSUI. Mr. Chairman, reluctantly, given what Chairman 
Rangel has said earlier, or Ranking Member----
    Chairman THOMAS. The gentleman's time has expired.
    Mr. MATSUI. I want to make a preferential motion.
    Chairman THOMAS. Does the gentlewoman from Connecticut wish 
to inquire?
    Mr. MATSUI. Mr. Chairman, I make a preferential motion. Mr. 
Chairman, I would like to make a preferential motion, a 
privileged motion at this time, in that----
    Chairman THOMAS. All you have to do is move.
    Mrs. JOHNSON OF CONNECTICUT. Thank you, Mr. Chairman.
    Mr. MATSUI. I move to adjourn, Mr. Chairman.
    Chairman THOMAS. The gentleman from California moves to 
adjourn. All those in favor, say aye.
    Those opposed.
    In the opinion of the Chair, the ayes have it. The 
Committee is adjourned.
    [Whereupon, at 12:26 p.m., the hearing was adjourned.]
    [Questions submitted from Mr. Neal to Ms. Olson, and her 
responses follow:]

                                    U.S. Department of the Treasury
                                               Washington, DC 20220

    1. Henry Paulson, the chief executive officer of Goldman Sachs, 
this week lamented the fact that faith among U.S. investors in 
corporate executives is at an all-time low, and that this lack of 
confidence was forestalling a recovery in our U.S. financial markets. 
Paulson said, ``I cannot think of a time when business over all has 
been held in less repute.'' However, his concerns are not necessarily 
shared by other corporate executives. John Trani, the chief executive 
officer of Stanley Tools also said this week of his decision to move 
Stanley to Bermuda, ``If you are taking your stewardship seriously, I 
think you have to do what I did.'' And he added if he had it to do over 
again, he would have done it earlier.
    Does the Treasury Department share the concerns of Mr. Paulson? 
Does the Treasury Department believe that corporations fleeing for 
offshore tax havens will harm the image of corporate America? Further, 
does Treasury believe that any such perceptions of greed or disloyalty 
will lead to a lack of investor confidence hurting our U.S. financial 
markets?

    The Treasury Department is very concerned about U.S.-based 
multinational companies moving their place of incorporation to outside 
the United States in order to reduce their U.S. income taxes. These so-
called inversion transactions provide a substantial reduction in taxes 
through a transaction that is complicated technically but virtually 
transparent operationally. Our tax law should not operate to permit 
that to occur. As Secretary O'Neill has said, ``When we have a tax code 
that allows companies to cut their taxes on their U.S. business by 
nominally moving their headquarters offshore, then we need to do 
something to fix the tax code.''
    An immediate response is needed to eliminate the juice from these 
inversion transactions. We must eliminate the ability to engineer ways 
to inappropriately reduce the U.S. tax on income earned in the United 
States. The response to these transactions should be broad enough to 
address the underlying differences in the U.S. tax treatment of U.S.-
based companies and foreign-based companies, including the ability to 
reduce the U.S. corporate-level tax on income from U.S. operations. 
Inappropriate shifting of income from the U.S. companies in the 
corporate group to the foreign parent or its foreign subsidiaries 
represents an erosion of the U.S. corporate tax base. It provides a 
competitive advantage to companies that have undergone an inversion or 
otherwise operate in a foreign-based group. Moreover, exploitation of 
inappropriate income-shifting opportunities erodes confidence in the 
fairness of the tax system.

    2. This week's major newspapers feature the scandal enveloping 
Tyco, a former U.S. company now headquartered in Bermuda. Back in 1999, 
Tyco argued before the SEC that it should not be bound by SEC rules 
with regard to shareholder proposals because it was not incorporated in 
the U.S. More recently, a Stanley public statement warns, ``It may be 
difficult for you to enforce judgments obtained against Stanley Bermuda 
in the U.S. courts.
    Does the Treasury Department have a concern that U.S. investor 
rights, including those of state pension funds and employee 
organizations, may be diminished by the exodus of former U.S. 
corporations to tax havens?

    Because this question regarding investor protections involves 
matters outside of my area of expertise, I would refer you to the 
Securities and Exchange Commission.

    3. The SEC filing of Stanley states, ``It is intended that Stanley 
Bermuda's business will be centrally managed and controlled in 
Barbados.'' However, Stanley has stated that the move to Bermuda is to 
lower U.S. taxes on U.S.-source income.
    Does Treasury have a concern that the use of Barbados in this 
situation will be in order to exploit treaty provisions which might 
allow a company to avoid U.S. taxes on U.S.-source income as well? Does 
Treasury have the same concern with the use of Luxembourg by Accenture 
and PWC, in addition to being based in Bermuda?

    The Treasury Department is concerned about the possible use of 
income tax treaties to inappropriately reduce U.S. taxes on U.S. source 
income. To address this concern, we are reviewing and evaluating our 
tax treaties to identify any inappropriate reductions in U.S. 
withholding tax that provide opportunities for shifting income out of 
the United States. We must ensure that our treaties serve the intended 
purpose of reducing or eliminating double taxation of income, not 
eliminating all taxation of income. Treaties that do not operate 
consistently with this goal will be modified to do so. We also must 
examine whether anti-abuse mechanisms already within our treaties are 
operating properly. Because U.S. tax treaties are intended to benefit 
only residents of either the United States or the treaty partner, U.S. 
income tax treaties include detailed provisions to prevent the misuse 
of treaties by residents of third countries. One of Treasury's key tax 
policy goals in modernizing our network of existing tax treaties is to 
bring the limitations on benefits provisions in all our treaties up to 
current standards so as to remove the opportunity for such misuse.

    4. The reinsurance transaction to tax haven parent corporations is 
designed specifically to avoid U.S. tax on U.S.-source income. This is 
true regardless of whether there has been an inversion by the insurance 
companies involved. This is distinguishable from other cases where 
companies are primarily avoiding U.S. tax on foreign-source income. So 
in the case of reinsurance, there is no broader tax policy question of 
whether our tax code should permit foreign-based reinsurers to avoid 
U.S. tax on U.S.-source income.
    Does the Treasury Department share the concern that insurance 
companies are using related-party reinsurance transactions to avoid 
U.S. tax on U.S.-source income, a clear an egregious tax avoidance 
situation? Do you agree that a general fix on inversions will not solve 
the problems of tax avoidance by reinsurance? And, after 3 years of 
study and evaluation of this specific issue, what specifically do you 
recommend to eliminate the reinsurance abuse if you do not support the 
provisions of the Johnson-Neal bill, H.R. 1755?

    The Treasury Department is concerned about the use of related party 
reinsurance to avoid U.S. tax on U.S.-source income. In particular, the 
use of related party insurance may permit the shifting of income from 
U.S. members of a corporate group to a foreign affiliate. Existing 
mechanisms for dealing with insurance transaction are not sufficient to 
address this situation. In this regard, further analysis may be 
appropriate to consider and evaluate approaches to address the problems 
presented by related party reinsurance. Such analysis should include an 
examination of methods used by our trading partners in taxing insurance 
companies, including, for example, the use of some countries of a 
premium-based tax that captures with the country tax base all business 
written on risks within the country.

                               

    [Submissions for the record follow:]

                        Statement of the AFL-CIO

    The AFL-CIO is pleased to have the opportunity to express our 
concerns about American companies reincorporating to tax havens such as 
Bermuda. We commend Chairman Thomas and Ranking Member Rangel for 
holding these important hearings.
    A growing number of companies are seeking to ``reincorporate'' from 
the U.S. to tax haven countries to avoid paying taxes on non-U.S. 
income. In general, the disadvantages of these reincorporations 
outweigh the advantages for shareholders because these reincorporations 
reduce the legal protections given to shareholders and also reduce 
shareholders' ability to hold companies, their officers and directors 
accountable in the event of wrongdoing.
    In light of highly-publicized recent events at other publicly 
traded companies such as Enron and Tyco International, worker pension 
funds have become more sensitive to issues of corporate accountability. 
We want to be sure we are able to seek appropriate legal remedies on 
behalf of our worker beneficiaries in the event of any corporate 
wrongdoing--when companies elect to incorporate in Bermuda our ability 
to do so is limited.
    We believe this trend represents a significant threat to 
shareholders and the pension funds of working people. These 
reincorporations can diminish shareholders' rights, and set in motion a 
``race to the bottom'' that generally lowers the standards of corporate 
accountability.
    On June 14th, Nabors Industries is seeking shareholder approval to 
reincorporate to Bermuda. A coalition of institutional investors--the 
Amalgamated Bank, the AFL-CIO, the Central Laborers' Pension Fund and 
the Laborers' International Union of North America--are opposing the 
move based on concerns about its adverse impact on shareholder rights 
and doubts over the economic benefits of the reincorporation. The 
principle reason Nabors gives for reincorporating is lower tax bills, 
although Nabors does not quantify the savings. In our effort to 
preserve shareholder rights and corporate accountability at Nabors, we 
have gained the support of several influential public pension funds, 
and investment management community is becoming increasingly concerned 
about the effects of these reincorporations on shareholder rights.
    Delaware is the state of incorporation for 60% of Fortune 500 
companies, according to the Delaware Division of Corporations. We 
believe that so many companies choose to incorporate in Delaware 
because it has an advanced and flexible corporate law, expert 
specialized courts dealing with corporate-law issues, a responsive 
state legislature and a highly-developed body of case law that allows 
corporations and shareholders to understand the consequences of their 
actions and plan accordingly. Bermuda, by contrast, does not even have 
published reports of legal cases, making it difficult to determine how 
the courts have ruled on corporate law issues. It is also difficult to 
obtain access to books on Bermuda law, since public law library 
resources are almost non-existent. We believe the stability, 
transparency and predictability of Delaware's corporate-law framework 
are superior to Bermuda's and provide advantages to shareholders.
    While many investors have concerns about aspects of corporate law 
statutes and the interpretation of those statutes in Delaware, and 
shareholder activists have long worried that incorporation in Delaware 
represented a race to the bottom, Delaware law is clearly superior to 
Bermuda law from a shareholder perspective.
    Reincorporation in Bermuda substantively reduces shareholder rights 
and corporate accountability. In those areas of the law under which 
shareholders continue to enjoy the same rights--for example federal 
securities law--shareholder's substantive rights may not be effected by 
the reincorporation, but their procedural ability to enforce those 
rights is weakened.
    By incorporating in Bermuda companies may make it more difficult 
for shareholders to hold companies, officers and directors legally 
accountable in the event of wrongdoing. It is crucial that shareholders 
have ability to pursue legal remedies to deter wrongdoing. If a company 
reincorporates to Bermuda, it may be more time consuming and expensive 
to hold that company or its officers and directors accountable in U.S. 
courts for several reasons.
    A judgment for money damages based on civil liability rendered by a 
U.S. court is not automatically enforceable in Bermuda. The U.S. and 
Bermuda do not have a treaty providing for reciprocal enforcement of 
judgments in civil matters. A Bermuda court may not recognize a 
judgment of a U.S. court if it is deemed contrary to Bermuda public 
policy, and Bermuda public policy may differ significantly from U.S. 
public policy.
    Unlike Delaware, Bermuda does not generally permit shareholders to 
sue corporate officers and directors derivatively--on behalf of the 
corporation--to redress actions by those persons that harm the 
corporation. Shareholder derivative suits recognize that a corporation 
is unlikely to pursue claims against the same officers and directors 
who control it and provide, we believe, a critical mechanism for 
remedying breaches of fiduciary duty, especially breaches of the duty 
of loyalty. Derivative litigation also, in our opinion, serves to 
protect the market for corporate control and thus promotes efficiency 
and accountability.
    Bermuda law differs from Delaware law in ways that may limit 
shareholders' ability to ensure accountability and participate in 
corporate governance. Bermuda law requires unanimous written consent of 
shareholders to act without a shareholders' meeting. Delaware law 
contains no such prohibition, although it allows companies' charters to 
limit the right. In the event a Delaware company does elect to include 
such a provision in its charter, shareholders can request that the 
board initiate a charter amendment to remove it.
    Unlike Delaware law, Bermuda law does not require shareholder 
approval for a corporation to sell, lease or exchange all or 
substantially all of the corporation's assets. Thus, a Bermuda company 
can significantly change its business without seeking shareholder 
approval.
    At Bermuda companies like Tyco and Global Crossing, shareholders 
appear to have been unable to assert the kinds of legal claims for 
breach of fiduciary duty one would expect to see given what has 
occurred at those companies.
    In addition, when worker funds have attempted to exercise basic 
shareholder rights under federal securities laws, Tyco has taken the 
position that those laws did not apply to Tyco in the same way they 
applied to U.S. incorporated companies.
    It concerns us that many of these transactions have been structured 
in a way that executives receive large payments in connection with the 
reincorporations. The combination of these structures and reduced 
accountability suggest that management may have other reasons to 
reincorporate besides tax benefits.
    We understand there is bi-partisan support for a legislative 
response to this problem, and we encourage Congress to take swift 
action. The AFL-CIO is in full support of the legislation introduced by 
Rep. Neal (H.R. 3884).
    Beyond our shareholder concerns, we believe that it is unpatriotic 
for corporations to place a larger burden on other taxpayers while 
still benefiting from the stability and privileges this country 
provides. America's working families pay their taxes, and expect that 
American corporations will do the same. Simply put, reincorporation is 
a poor decision and should be reevaluated by all who promote good 
corporate citizenship and governance.
    The AFL-CIO urges this Committee and this Congress to support 
legislation that puts a stop to these corporate inversions. The AFL-CIO 
looks forward to working with you in the coming days on this important 
task.

                               

                                      Coalition for Tax Competition
                                          Alexandria, VA 22310-9998
                                                     April 24, 2002
The Honorable William Thomas
Chairman
Committee on Ways and Means
United States House of Representatives
1102 Longworth House Office Building
Washington, DC 20515

    Dear Chairman Thomas:
    American-based companies must pay tax to the IRS on income earned 
in other nations. This ``worldwide'' system of taxing corporate income 
is very anti-competitive, causing many companies to give up their U.S. 
charters and instead become foreign-based companies. These 
``expatriations'' are legal, but have become controversial. Lawmakers 
likely will choose from two options in deciding how best to respond to 
this development.
    One option is tax reform. Lawmakers could take a number of steps to 
make the internal revenue code more competitive. The U.S. corporate 
income tax rate, for instance, is the fourth highest in the developed 
world. Lower tax rates would make America more attractive. Policy 
makers also could eliminate the corporate alternative minimum tax. 
Another option is to reduce the tax bias against investment by shifting 
from ``depreciation'' to ``expensing.'' Last but not least, Congress 
could junk ``worldwide'' taxation and instead shift to a 
``territorial'' system that would tax companies only on their U.S. 
income.
    The other option is to preserve ``worldwide'' taxation and instead 
impose restrictions on the ability of companies to re-charter in other 
jurisdictions.
    The first option--tax reform--is the correct answer. If bad tax law 
is driving companies to re-charter in other jurisdictions, the obvious 
solution is to improve U.S. tax law. This market-based approach will 
make America more competitive. Fiscal protectionism, by contrast, is 
bad policy. We all understand that high-tax California should not be 
allowed to stop companies from moving to low-tax Nevada. We also should 
understand that the federal government should not be able to stop 
companies from escaping bad U.S. tax law.
    This issue already has been clouded by demagoguery. Some assert 
that companies choosing to re-charter in other jurisdictions will evade 
or avoid U.S. tax. This is not true. All corporations, regardless of 
where they are based, pay tax to the IRS on all profits they earn in 
the United States. Some also claim that ``expatriation'' is unpatriotic 
and hurts America. This is nonsense. Re-chartering helps U.S. workers 
and U.S. shareholders since the newly formed company still maintains 
its U.S. operations, but now is able to more effectively compete with 
businesses that operate overseas.
    Corporate relocation is yet another reason why lawmakers should fix 
the internal revenue code. Companies are relocating because excessive 
tax burdens and worldwide taxation make it very difficult for U.S.-
chartered firms to compete. Instead of making a bad system even worse 
by imposing more burdens on U.S.-based companies, lawmakers should 
reform the tax system. Lower tax rates and territorial taxation are 
just two of many options that would improve the internal revenue code.
            Sincerely,

    Andrew F. Quinlan, President, Center for Freedom and Prosperity
                Daniel Mitchell, Senior Fellow, Heritage Foundation
           Veronique de Rugy, Fiscal Policy Analyst, Cato Institute
              Paul Beckner, President, Citizens for a Sound Economy
               David R. Burton, Senior Fellow, Prosperity Institute
  James Cox, Executive Director, Association of Concerned Taxpayers
        Stephen J. Entin, President, Institute for Research on the 
                                              Economics of Taxation
         Tom Giovanetti, President, Institute for Policy Innovation
     Kevin Hassett, Resident Scholar, American Enterprise Institute
                  Lawrence Hunter, Chief Economist, Empower America
            Charles W. Jarvis, Chairman, United Seniors Association
        Karen Kerrigan, Chairman, Small Business Survival Committee
                    James L. Martin, President, 60 Plus Association
                    Edwin Moore, President, James Madison Institute
                            Steve Moore, President, Club for Growth
         Grover Glenn Norquist, President, Americans for Tax Reform
                          John Pugsley, Chairman, Sovereign Society
                   Richard Rahn, Senior Fellow, Discovery Institute
                   Gary and Aldona Robbins, Fiscal Associates, Inc.
    Tom Schatz, President, Council for Citizens Against Government 
                                                              Waste
      Eric Schlecht, Director of Congressional Relations, National 
                                                    Taxpayers Union
         Fred L. Smith, President, Competitive Enterprise Institute
       Lewis K. Uhler, President, National Tax Limitation Committee
         Paul M. Weyrich, National Chairman, Coalitions for America
                        Christopher Whalen, Whalen Consulting Group
    * Organizational affiliations are included for identification 
purposes only.

cc.  Senate Majority Leader Trent Lott
  Senator Max Baucus
  Senator Charles Grassley
  House Majority Leader Richard Armey
  Representative William Thomas
  Secretary Paul O'Neill
  Dr. Glenn Hubbard
  Dr. Larry Lindsey

    [Identical letter was sent to Ranking Member Rangel.]

                               

Statement of the Hon. Richard Blumenthal, Connecticut Attorney General, 
                         Hartford, Connecticut
    I appreciate the opportunity to speak on the issue of corporate 
inversions, a hyper-technical term for corporations exploiting tax law 
loopholes and corporate directors and management profiting and 
protecting themselves from proper accountability.
    I urge your support for legislation such as H.R. 3884, the 
Corporate Patriot Enforcement Act that would permanently close a 
loophole in our laws that permits corporations to abandon America and 
abrogate their moral responsibility to this country.
    Long-time American corporations with operations in other countries 
can avoid paying tens of millions of dollars in federal taxes by the 
device of reincorporating in another country, thereby becoming a 
``foreign company'' under our tax laws that does not pay taxes on 
profits from its foreign operations. How do they become a ``foreign 
company''? They simply file incorporation papers in a country with 
friendly tax laws, open a post-office box and hold an annual meeting 
there. They need have no employees in that country or investments in 
that country--in short, no financial stake there at all. It is a sham, 
a ``virtual'' foreign corporation--and our tax laws not only allow this 
ridiculous charade, they encourage it. This is a tax law that has run 
amok. It is a tax loophole that must be slammed shut.
    Bermuda may seem close geographically and familiar in language and 
customs, but it might as well be the moon in terms of legal rights and 
protections for shareholders. In pitching reincorporation, management 
has repeatedly misled shareholders--failing to reveal the real long 
term costs, and concealing even the short term financial effects.
    Apologists for this loophole say that the corporation must do this 
to ``compete'' on a global scale with foreign-based corporations whose 
countries do not assess the same level of corporate taxes as American 
companies. What they ignore is the fact that those countries do not 
provide the kinds of governmental services and legal protections as the 
United States does. So these corporations become ``foreign'' companies 
in name only to reduce their federal taxes, yet keep their businesses 
in the United States to benefit from the very services and protections 
those taxes pay for.
    These ``foreign competition'' arguments are the same ones used to 
weaken our tough air and water pollution standards and worker 
protections and benefits. The bottom line: America should not 
compromise its standards just so corporations can earn higher profits, 
and certainly America should not have tax laws that encourage 
corporations to move a few filing cabinets to other countries and call 
them a corporate headquarters.
    Connecticut has learned this lesson the hard way from Stanley 
Works, the most recent--and potentially the most notorious--corporation 
to attempt to avoid taxes through this corporate shell game. Stanley 
Works is a proud American company that is based in the industrial town 
of New Britain, Connecticut. For more than 150 years, it has been a 
manufacturer of some of the best-known American-made tools.
    Over the past 20 years, however, it has moved a lot of its 
manufacturing overseas where cheaper labor means more profits. In fact, 
it has moved so much of its operations that it was in danger of losing 
its ability to claim that its products were made in America, a major 
selling point. Several years ago, there was an attempt to weaken the 
standards for claiming products are ``made in the USA''. This proposed 
rule would have allowed corporations to use the ``made in the USA'' 
label on products that were mostly made in other countries, with only 
the finishing touches applied here. It was nothing less than an attempt 
to create the ``veneer'' of American craftsmanship. I, along with many 
others, strongly opposed this weakened standard and it was eventually 
withdrawn.
    It is no surprise then that this same company would attempt to sell 
its American citizenship for $20-30 million pieces of silver. By 
reincorporating in Bermuda, hundreds of millions of dollars in profits 
from its foreign divisions would be tax-exempt in the United States. 
Stanley Works, of course, is not the only company to use this tax law 
loophole. Cooper Industries, Seagate Technologies, Ingersoll-Rand and 
PricewaterhouseCoopers Consulting, to name but a few others, have also 
become pseudo-foreign corporations for the sole purpose of saving tax 
dollars.
    While profits may increase as a result of this foreign 
reincorporation gimmick, there are some significant disadvantages to 
shareholders that may not be readily apparent to them. Shareholders 
must exchange their stock in the corporation for new foreign 
corporation shares--generating capital gains tax liability. So while 
the corporation saves taxes, employees and retirees who hold shares are 
now unexpectedly facing significant capital gains tax bills. Some must 
sell many of the new shares in order to pay the capital gains tax--
reducing the dividend income they were counting on for their 
retirements.
    At the same time, corporate executives and other holders of 
thousands of shares of the corporation will receive huge windfalls in 
stock options as the stock price rises because of increased profits. 
Stanley Works estimates that its stock may rise by 11.5% after re-
incorporation in Bermuda. That increase results in a $17.5 million gain 
in CEO John Trani's stock option value while shareholders are facing 
$150 million in capital gains taxes. Smaller shareholders, of course, 
do not have huge stock option gains that they can use to pay the 
capital gains tax.
    Incorporating in another country may also restrict shareholder 
rights because that country's laws may not be as protective of 
shareholders as the United States. This issue is not apparent to many 
shareholders because they may look at re-incorporation as a merely 
technical move with only corporate tax implications. The company's 
headquarters remains in the United States so shareholders may think 
that American laws will still apply. Management has been in no rush to 
clarify the weakening, even eviscerating of shareholder rights to hold 
management accountable.
    Taking advantage of corporate tax loopholes, corporations, 
including Stanley Works, typically reincorporate in Bermuda. Bermuda 
law differs from the corporate law of most states in several very 
important respects.
    First, there is the simple problem of the opacity of Bermuda law. 
Even sophisticated shareholders may have extreme difficulty in 
obtaining information about Bermuda law and evaluating the impairment 
of their rights under Bermuda law. Bermuda does not even maintain an 
official reporter of its court decisions. We have learned from the 
Enron scandal the danger for shareholders, employees and regulators of 
shielding important corporate information from public scrutiny. The 
movement of corporations to a place where the legal rights of 
shareholders are severely constrained and confused--indeed at best 
unclear--is a matter of grave concern.
    Corporations proposing to move their place of incorporation from 
the United States to Bermuda, such as Stanley, often tell shareholders 
that there is no material difference in the law. But from what we have 
been able to learn about Bermuda law--and divining Bermuda law is no 
easy task--this claim is certainly not accurate. There are several 
important aspects of Bermuda law that greatly diminish shareholder 
rights.
    For example, Bermuda law lacks any meaningful limitations on 
insider transactions. Connecticut law, like the law of most states, 
imposes significant restrictions on corporate dealings with interested 
directors of the corporation--the kind of restrictions that appear to 
have been violated in the Enron debacle. Those protections appear to be 
absent under Bermuda law.
    Bermuda law also fails to provide shareholders with any decision-
making authority on fundamental changes in the corporation. Connecticut 
law, like statutes of most states, requires that shareholder approval 
be obtained before the corporation may sell or dispose of a substantial 
portion of the assets of the corporation. Bermuda law contains no such 
requirement.
    Similarly, Bermuda law permits shareholder derivative lawsuits in 
only very limited circumstances. Derivative lawsuits are an essential 
protection for shareholders. In the United States, shareholders may 
bring actions on behalf of the corporation against officers and 
directors seeking to harm the corporation. The availability of 
derivative lawsuits is a profoundly important tool to protect 
shareholders from the malfeasance and self-interest of officers and 
directors. It is a central tenet of American corporate governance. This 
form of protection is apparently all but unavailable under Bermuda law. 
In addition, there are serious questions about the enforceability of 
U.S. judgments in Bermuda. There is presently no treaty with Bermuda 
that ensures the reciprocity of judgments. Thus, a person who has 
successfully prosecuted a federal securities claim or products 
liability lawsuit in the United States against the corporation, for 
example, may be unable to enforce that judgment against the corporation 
in Bermuda. Bermuda courts have the right to decline to enforce an 
American judgment if they believe it is inconsistent with Bermuda law 
or policy. Bermuda may be not just a tax haven, but also a judgment 
haven.
    Finally, a Bermuda incorporation will greatly impede my office or 
any state Attorney General in protecting the public interest and 
safeguarding shareholder rights including the state's--stopping a 
shareholder vote, for example, if shareholders are provided with 
misleading information. Earlier this year in Connecticut, Stanley Works 
had issued conflicting statements to 401k shareholders. The first 
statement said that failure to vote would be counted as a ``no'' vote. 
The second one said that failure to vote would allow the 401k 
administrator to cast a ballot consistent with the 401k plan. My 
office, representing the state of Connecticut as a shareholder, filed 
an action in state court that halted the vote because of the tremendous 
confusion caused. Whether I could have taken a similar action had 
Stanley Works been incorporated in Bermuda is at best unclear.
    The misstatements made by Stanley Works management were so 
misleading and potentially deceptive, that I have requested a full 
investigation by the Securities and Exchange Commission (SEC) and an 
order delaying any revote until such an investigation is complete. I am 
awaiting a response from the SEC.
    Some corporation proxy statements may seek to assure shareholders 
that the new corporation bylaws will restore some of these lost 
shareholder rights. This substitute is simply inadequate. If corporate 
bylaws were sufficient to protect shareholder rights, we would not need 
federal and state securities laws.
    In sum, reincorporation in another country like Bermuda is not in 
the best interests of American shareholders. Corporate CEOs, whose 
compensation is typically tied to short-term gains in stock price or 
cash flow, often gain millions in additional pay stemming directly from 
the tax savings obtained by these moves and will be better able to 
engage in insider transactions. They are less exposed to shareholder 
derivative lawsuits and federal securities action. They are shielded 
from shareholders seeking to hold them accountable for misjudgments or 
malfeasance. The incentive for corporate officers to make the move to 
Bermuda is obvious. But it is patently detrimental to the interests of 
ordinary shareholders, and to the United States, to leave this loophole 
available for exploitation.
    I urge the Committee to first approve legislation that will 
permanently close this loophole and then determine whether our tax laws 
need to be changed to address inequity concerns that have been raised. 
The Treasury Department's preliminary report listed several areas for 
review, including rules limiting deduction for interest paid on foreign 
related debt, rules on valuations on transfers of assets to foreign 
related parties and cross-border reorganizations. I do not endorse any 
specific proposal for tax law change, or even necessarily general 
change itself. What I endorse strongly and unequivocally is the need 
for closing this destructive loophole, as HR 3884 would do. The status 
quo is unacceptable.

                               

                                                 DIMON Incorporated
                                      Danville, Virginia 24543-0681
                                                       June 4, 2002

Via e-mail
[email protected]

Congressman Bill Thomas
Chairman of the Committee on Ways and Means
c/o Committee on Ways and Means
1100 Longworth House Office Building
Washington D.C.

    Gentlemen:
    [1] I am writing you concerning your review of corporate inversions 
and U.S. international competition.
    [2] I am Vice President of Taxes for DIMON Incorporated 
(``DIMON''). DIMON is a NYSE multinational tobacco leaf dealer (symbol 
``DMN''). We source, process and trade in tobaccos from more than 40 
countries all over the world. I am a CPA and lawyer and have an LLM in 
Taxation from Georgetown Law Center. Prior to joining DIMON, six years 
ago, I was a Senior Manager in the Washington National Tax Practice of 
PricewaterhouseCoopers LLP in Washington DC for ten years.
    [3] I have been following the recent corporate inversions with some 
interest because I am aware of how our U.S. corporate tax system 
punishes U.S. based multinational companies. Every day DIMON competes 
with non-U.S. tobacco traders who have the ability to move funds and 
structure transactions more efficiently than DIMON can because DIMON is 
a U.S. corporation and they are not. This punishment arises from 
Congressional fiat. Specifically, the source of the trouble can be 
found in three places in the Internal Revenue Code (Title 26): (1) 
Subpart F (Sections 951 through 972), (2) Foreign Tax Credit rules 
(Sections 901 through 908) and (3) Corporate Alternative Minimum Tax 
rules (Sections 55 through 59). The collective force of these 
provisions have driven U.S. companies, such as McDermott, Helen of 
Troy, Tyco, White Mountain, and Stanley Works to consider 
reincorporating outside the U.S.A.
    [4] What concerns me especially is the hysterical reaction by 
members of Congress regarding these corporate inversions. Some members 
of Congress have referred to corporate inversions as ``unpatriotic''. 
Other members refer to inversions as a ``tax loophole''. In a press 
release accompanying the announcement of proposed remedial legislation, 
Senator Charles E. Grassley said ``These expatriations aren't illegal, 
but they're sure immoral. During a war on terrorism, coming out of a 
recession, everyone ought to be pulling together. If companies don't 
have their hearts in America, they ought to get out.'' Representative 
Richard E. Neal's anti-inversion Bill, introduced on March 6, 2002, was 
proposed to be effective immediately for those corporations that 
expatriate after an effective date clearly chosen for political 
reasons-- September 11, 2001. Similarly, a recently proposed Bill to 
combat inversions was introduced as the ``Uncle Sam Wants You Act of 
2002.'' The controversy over inversions may also become an issue in 
upcoming Congressional elections.
    [5] What as been ignored in these comments is that corporate 
inversions are fully taxable events under I.R.C. Section 367(a). White 
Mountain, for example, estimated that their inversion into Bermuda 
would generate a current tax expense of approximately $40m. Stanley 
Works estimated it would cost its shareholders approximately $120m. 
These significant short-term costs are generally justified as necessary 
to allow the inverting company to position themselves to compete better 
in the international arena. Specifically, the long-term benefit is that 
an inversion allows the inverted company to reinvest every dollar of 
profit earned in growing their business outside the U.S.A., instead of 
paying 35 cents to the U.S. Treasury and only having 65 cents to invest 
in growth. This is because the existing rules under Subpart F are 
overreaching.
    [6] Most people who are not tax professionals are surprised to 
discover that if a subsidiary of a U.S. based company sells a product 
manufactured in Brazil to a customer in Poland, for example, the profit 
on that sale is fully and currently taxable in the U.S., even if U.S. 
management had no involvement in the transaction and if the funds are 
permanently reinvested outside the U.S.A. This strange outcome results 
from the Subpart F rules concerning Foreign Base Company Sales Income, 
which can be found in I.R.C. Section 954(a)(2). If the U.S. 
multinational corporation wants to reinvest those profits in growing 
their markets outside the U.S.A., it must do so after paying 35% in 
taxes to the U.S Treasury. The U.S. taxpayer's non-U.S. competitor does 
not have that added cost. Therefore, due to the U.S. tax rules the cost 
of capital for a U.S. company is 35% greater than their competitor. In 
order to invest $1 the U.S. company must earn $1.54, while its foreign 
competitor only needs to earn $1.
    [7] If the U.S. taxpayer corporation wants to repatriate the 
profits from abroad to provide for growth in the U.S. in theory foreign 
tax credits are available to offset any U.S. taxation on the 
repatriation of dividends. The problem is that under corporation 
alternative minimum tax rules (I.R.C. Section 59) the foreign tax 
credits can only offset 90% of the alternative minimum tax. Therefore 
the corporation will always have to pay tax if it repatriates profits, 
even if those profits are being taxed under the nondeferral rules of 
Subpart F (in other words, the money is not in the U.S. to pay the 
tax). This also sounds strange and unusually complex to a non-tax 
professional, and it should. Additionally, the basketing rules under 
Section 904 create many traps whereby there can be U.S. taxation if the 
timing of the dividend is not carefully planned.
    [8] Why punish U.S. based multinational corporations? What is the 
policy behind laws that encourage companies to leave the U.S? Why 
encourage great American companies like IBM and Coca Cola to move out 
of the United States? Members of both the House of Representatives and 
the Senate thus far have introduced six separate Bills to combat the 
perceived abuses related to inversion transactions. All of the Bills 
rely primarily on the technique of treating the new foreign corporate 
parent as a domestic corporation for United States federal tax 
purposes, although one of the most recent Bills also uses other 
measures to combat ``limited'' inversion transactions. All of the Bills 
focus on a hypothetical transaction where (1) a foreign corporation 
acquires stock or substantially all of the property of a domestic 
corporation or partnership, and (2) more than 50% or 80% of the stock 
of the foreign corporation, determined by vote or value, is held by 
former shareholders of the domestic corporation or partnership. Several 
of these bills provide an exception if substantial business operations 
also leave the United States. Four of the Bills were introduced by 
House Members and two of the Bills were introduced by Senators. They 
are as follows:

        H.R. 3857, introduced by Representative McInnis on March 6, 
        2002, effective for transactions after December 31, 2001.
        H.R. 3884, introduced by Representative Neal and others on 
        March 6, 2002, effective for transactions completed after 
        September 11, 2001, and would also apply after 2003 to 
        transactions completed on or before September 11, 2001. This 
        Bill is known as the ``Corporate Patriot Enforcement Act of 
        2002.''
        H.R. 3922, introduced by Representative Maloney on March 11, 
        2002, effective for transactions completed after September 11, 
        2001 (and certain pre-September 11, 2001, transactions).
        H.R. 4756, introduced by Representative Johnson on May 16, 
        2002, effective for transactions completed after September 11, 
        2001 and not to apply to transactions beginning after December 
        31, 2003. This Bill is known as the ``Uncle Sam Wants You Act 
        of 2002.''
        S. 2050, introduced by Senator Wellstone and others on March 
        21, 2002, effective for taxable years of any ``inverted 
        domestic corporation'' beginning after December 31, 2002, 
        without regard to whether the corporation became an inverted 
        domestic corporation before, on, or after such date.
        S. 2119, introduced by Senators Baucus and Grassley and others 
        on April 11, 2002, effective for transactions occurring on or 
        after March 21, 2002 (and the pre-approval process would be 
        effective for certain transactions occurring before March 21, 
        2002). This Bill is known as the ``Reversing the Expatriation 
        of Profits Offshore Act `` (the ``REPO Bill'').

    [9] The House Bills and the Bill introduced by Senator Wellstone 
are essentially the same, in that they all seek to prevent a 
transaction whereby a domestic corporation or partnership expatriates 
in order to avoid U.S. income tax. Each of these Bills provides that a 
foreign corporation will be treated as a domestic corporation if (1) a 
foreign corporation acquires directly or indirectly substantially all 
of the properties held directly or indirectly by the domestic 
corporation, and (2) former shareholders of the domestic corporation 
receive more than 80% of the foreign corporation's stock. The 80% 
threshold is reduced to 50% if the foreign corporation has no 
substantial business activities in the country of its organization and 
is publicly traded and the principal market for the public trading is 
in the United States. The way to avoid the lower threshold is to move 
assets and jobs to a foreign location and re-list the Corporation on 
the London Stock Exchange. This, of course, promotes an even more 
radical exodus from America. The Bills also cover transactions in which 
a foreign corporation acquires directly or indirectly substantially all 
of the properties constituting a trade or business of a domestic 
partnership and the foregoing requirements are otherwise satisfied.
    [10] The REPO Bill introduced by Senators Baucus and Grassley is 
more comprehensive and appears to build on the concepts used by the 
others. This Bill targets two types of transactions--``pure'' inversion 
transactions and ``limited'' inversion transactions. In a ``pure'' 
inversion transaction, (1) a foreign incorporated entity acquires, 
directly or indirectly, substantially all of the properties of a 
domestic corporation (or a domestic partnership) in a transaction 
completed after March 20, 2002; (2) after the acquisition, the former 
shareholders (or partners) of the domestic corporation (or partnership) 
hold 80% or more of the vote or value of the stock of the foreign 
corporation; and (3) the foreign corporation, including its ``expanded 
affiliated group,'' does not have substantial business activities in 
its country of incorporation. Under the REPO Bill, in a ``pure'' 
inversion transaction, the new foreign parent corporation would be 
deemed a domestic corporation for U.S. tax purposes. The solution is to 
move ``substantial business activities'' out of the United States into 
the country of incorporation.
    [11] A ``limited'' inversion transaction is similar to a ``pure'' 
inversion transaction except that the shareholders of the domestic 
corporation obtain more than 50% and less than 80% of the vote or value 
of the stock of the foreign corporation. ``Limited'' inversion 
transactions also include a ``pure'' or ``limited'' inversion 
transaction completed on or before March 20, 2002. Under the REPO Bill, 
in a ``limited'' inversion transaction, the foreign corporation will 
not be treated as a domestic corporation, but there are a number of 
other consequences: (1) no offsets such as NOLs or other credits could 
be applied to reduce tax on gain realized by a domestic corporation on 
the inversion transaction or on subsequent transfers of stock or 
property to related foreign persons; (2) for 10 years after the date of 
the inversion transaction (or, if later, January 1, 2002) the domestic 
corporation and its U.S. affiliates would be required, at such time as 
may be specified by the IRS, to enter into annual pre--approval 
agreements as specified by the IRS to ensure the integrity of the 
earnings stripping, gain and loss and intercompany pricing rules of 
Sections 163(j), 267(a)(3), 482, and 845 for each taxable year within 
that 10-year period; and (3) the earnings stripping rules would be 
revised in order to eliminate the 1.5 to 1 debt-to-equity threshold and 
reduce the taxable income offset from 50% to 25%. The REPO Bill would 
also amend Section 845 to expand the reallocation authority of the IRS 
over related party reinsurance agreements to include adjustments 
necessary to reflect the proper ``amount,'' as well as ``source and 
character,'' of taxable income of each of the parties. The Section 845 
amendment would apply whether or not an inversion transaction has 
occurred, effective for risks reinsured in transactions after April 11, 
2002.
    [12] These bills promote bad policy. They would not only encourage 
American companies to reincorporate outside the U.S.A., they would also 
encourage the headquarters and jobs to leave with the corporation. The 
reason they would encourage American companies to reincorporate abroad 
is because none of these bills address the problem. Companies are not 
inverting to non-U.S.A. locations because their management is 
unpatriotic and immoral. They are inverting because the U.S. tax code 
is punishing them. None of these bills address the overreaching effect 
of Subpart F and the costs of corporate alternative minimum tax.
    [13] The solution is not to further tax fully taxable transactions. 
It is to make the U.S. corporate income tax regime less punitive to 
multinational corporations. The way to do this is as follows:

         LRepeal corporate alternative minimum tax,
         LRepeal or significantly reduce the reach of Subpart F
         LGreatly simplify the basket rules under the foreign 
        tax credit provisions Section 904, or change the rules to 
        exclude foreign income from taxation, similar to the 
        ``participation exemption'' most European countries use.

    [14] These changes could be funded, at least partially, from the 
windfall from repealing the ETI regime, which has been deemed to 
violate GATT.

                               * * * * *

    [15] I hope these comments are helpful in your efforts to stem 
corporate inversions and enhance U.S. international competition. Please 
do not hesitate to contact me at (434) 791-6734, or via e-mail at 
[email protected], to discuss this matter further.
            Respectfully submitted,
                                                        Greg Bryant
                                            Vice President of Taxes

                               

Statement of Gary Hufbauer, Reginald Jones Senior Fellow, Institute for 
                        International Economics
    Chairman Thomas and members of the Committee, thank you for 
inviting me to comment on ``corporate inversions''. An inversion occurs 
when a U.S. parent corporation with foreign subsidiaries (controlled 
foreign corporations, or CFCs) reorganizes itself in the following 
manner. First it creates a new foreign parent corporation (FP), based 
in a low-tax country such as Bermuda. The U.S. operations then become a 
subsidiary corporation to FP. The former foreign subsidiaries (CFCs) of 
the U.S. parent corporation also become subsidiaries of FP. Ingersoll 
Rand, Noble Corporation and Stanley Works are among recent corporate 
inversions.
    Inversions are motivated both by the U.S. parent corporation's 
desire to reduce the burden of U.S. taxation on the activities of its 
foreign subsidiaries and by its desire to partake in the delights of 
earnings stripping. The core issue is not U.S. taxation of income from 
business activity transacted entirely within the United States; rather 
the core issues are U.S. taxation of income from business activity 
entirely outside the United States (the extraterritorial income 
problem) and the U.S. deduction for interest paid by U.S. corporations 
to foreign parent corporations (the earnings stripping problem).
    Back in 1975, when I was Director of the International Tax Staff in 
the U.S. Treasury Department, J.L. Kramer and I co-authored an article 
titled ``Higher U.S. Taxation Could Prompt Changes in Multinational 
Corporate Structure''.1 Congress was then debating severe 
limits on the foreign tax credit for oil and gas income, and 
elimination of deferral. We argued that such changes might prompt 
corporate expatriation (now called corporate inversion) on a large 
scale--thus defeating the purpose of the proposed tax laws. The 
proposals died in the Congress, and corporate expatriation drifted from 
the public policy debate. But it did not drift from the minds of clever 
tax attorneys. Every time tax regimes change in the United States or 
abroad, tax advisors take a fresh look at corporate structures to see 
whether reorganizations could save a pot of money.
---------------------------------------------------------------------------
    \1\ International Tax Journal, Summer 1975.
---------------------------------------------------------------------------
    Sure enough, over the last three decades, the United States has 
created a tax atmosphere that encourages inversions, but not in the way 
we feared back in the 1970s. Instead, other legislative changes in the 
1980s and 1990s gradually made the United States less desirable as a 
location for parent corporations (the extraterritorial income problem). 
Meanwhile, foreign corporations with U.S. corporate subsidiaries 
discovered that the best way to gather income from their U.S. 
operations was through interest payments, not dividends (the earnings 
stripping problem). Lately, some U.S. corporations have decided that 
they, too, would like to take advantage of earnings stripping.
    In the Reagan era, the United States sharply lowered its corporate 
tax rate, initially making the United States a very attractive place to 
do business. But other industrial countries soon got smart, and lowered 
their corporate tax rates as well. Today, the United States is the 
fourth highest corporate tax rate country in the OECD (counting both 
federal and sub-federal taxes), exceeded only by Japan, Belgium and 
Italy.2 If all OECD countries had the same system for taxing 
foreign subsidiaries, this fact alone would make the United States an 
undesirable location for parent corporations. If the same parent 
corporation were located not in the United States, but in another 
industrial country such as Canada, the United Kingdom, or the 
Netherlands, the parent country tax burden on foreign subsidiary income 
would be lower.
---------------------------------------------------------------------------
    \2\ Chris Edwards, ``New Data Show U.S. Has Fourth Highest 
Corporate Tax Rate'', Cato Institute Tax and Budget Bulletin, April 
2002.
---------------------------------------------------------------------------
    Other tax facts reinforce this basic point. Most importantly, the 
norm among industrial countries is de jure or de facto exemption 
systems for dividends received by parent corporations from most of 
their foreign subsidiaries (those that are actively engaged in 
business, not just off-shore pocketbooks). By contrast, the U.S. 
worldwide tax system taxes the dividends received from foreign 
subsidiaries, but allows a foreign tax credit. This is a lot more 
complicated, and often results in additional tax paid by the parent 
corporation.
    Peculiar features of the U.S. foreign tax credit limit also make 
the United States a less desirable location for parent corporations. 
The United States has an absurd method for allocating parent company 
interest expense to foreign source income, and the net result is to 
reduce the parent corporation's allowable foreign tax credit. Unlike 
other countries, the United States attributes a substantial portion of 
R&E expense to foreign source income, and this too reduces the 
allowable foreign tax credit.
    Continuing the list of disadvantages, the United States disallows 
deferral for so-called ``base company income''--income earned by a 
foreign subsidiary for handling export transactions between members of 
a corporate family. In other words, base company income is taxed 
currently under Subpart F of the Internal Revenue Code. Other 
industrial countries, for the most part, either exempt base company 
income from home country taxation, or permit deferral.
    Meanwhile, the WTO has ruled against the Foreign Sales Corporation 
and Extraterritorial Income Exclusion Act. If these provisions are 
simply repealed, that will be another negative score for the United 
States.
    Finally, there's the competitive tax disadvantage to the U.S. 
parent corporation that competes, in the U.S. domestic market, with a 
foreign parent corporation that conducts its business through a U.S. 
subsidiary. The foreign parent can ``strip'' the earnings of its U.S. 
subsidiary by using a capital structure high in debt and low in equity. 
Interest paid to the foreign parent is a deductible expense for the 
U.S. subsidiary; and after interest is paid, hardly any earnings may be 
left for the U.S. corporate tax. The U.S. parent can't play the same 
game, because it files a consolidated return with its U.S. 
subsidiaries, and interest payments within the corporate family simply 
net out. But if the U.S. parent inverts, the newly created foreign 
parent can strip the earnings of its U.S. subsidiaries.
    With all these tax disadvantages, it's not surprising that some 
U.S. parent corporations are jumping ship. Inversions are just the tip 
of the iceberg. Less noticeable, but more important, foreign 
multinationals are acquiring U.S. companies at a much faster clip than 
the other way around. Taxes are not the only reason, but they are a 
contributing force. So long as the U.S. tax system is unfriendly to 
parent corporations, and friendly to foreign parent corporations, there 
will be a strong tendency for multinational companies to locate their 
headquarters elsewhere. This will show up in the way mergers and 
acquisitions are structured, the balance between debt and equity in 
U.S. subsidiaries, the headquarter choices made by firms of the future, 
and in more U.S. corporate inversions. Purely from a tax standpoint, 
few attorneys today would recommend putting the headquarters of a 
multinational firm in the United States. Why subject your foreign 
subsidiaries to the U.S. worldwide tax system? Why deny yourself the 
advantages of earnings stripping?
    Congress can make inversions more difficult by ``look-through'' 
provisions, such as those proposed by Senator Baucus and Senator 
Grassley, or by raising the toll-taxes under Sections 351 and 367. 
Congress can deter earnings stripping by applying a stricter debt/
equity ratio to inverted corporations under Section 163(j). But such 
remedies do not address the underlying problem--the fact that, from a 
tax standpoint, the United States is not a good location for 
headquartering a multinational corporation.
    The extraterritorial income dimension of the underlying problem can 
only be addressed by centering U.S. corporate taxation on business 
activity within the territorial borders of the United States, and 
exempting the activities of foreign subsidiaries engaged in trade or 
business abroad. The earnings stripping dimension can only be addressed 
by applying the same debt/equity ratio test to all U.S. subsidiaries of 
foreign parent corporations, whether the foreign parent is an inverted 
U.S. parent, or a foreign parent home-grown in another country.
    In my opinion, it's far more important for the United States to 
retain its position as the nerve center for multinational corporations 
than to collect whatever revenue is gathered from the activities of 
foreign subsidiaries by the cumbersome U.S. system of taxing worldwide 
income. And it would be foolish for the United States to enact new tax 
provisions (such as a discriminatory earnings stripping rule) that 
would give foreign multinationals a leg up when competing in the U.S. 
market.
    Where headquarters are located, key corporate functions of 
strategy, law, finance, distribution and R&E activity are likely to 
follow. For the high-skilled, high-tech society of 21st 
century America, these are critical functions. Corporate inversions are 
not the fundamental problem; they are simply the wake-up call.

                               

 Statement of the Hon. James H. Maloney, a Representative in Congress 
                     from the State of Connecticut
    Chairman Thomas, Ranking Member Rangel, and members of the 
Committee, thank you for holding this hearing. It is my sincere hope 
that the Committee will move quickly to pass H.R. 3884, the ``Corporate 
Patriot Enforcement Act of 2002'' (commonly referred to as the Neal-
Maloney bill), bring it to the floor of the House, and end the 
outrageous corporate expatriation tax dodge, both immediately and 
permanently.
    So called ``corporate expatriates'' are former US companies who set 
up paper headquarters in tax havens in order to avoid US taxes. For 
little more than the cost of a post office box in an offshore tax haven 
like Bermuda, US companies are trying to avoid millions of dollars in 
federal income taxes. Some of these expatriates are even using third 
countries, with which the US government has tax treaties, in order to 
avoid paying virtually ALL of their tax obligations.
    These companies continue to reside in the United States, take 
advantage of our infrastructure, our education system, our water 
systems, federal, state, and local services such as police, fire, and 
public schools, and, of course, they still rely on the protection of 
our courageous Armed Services, here at home, and around the world. The 
only difference is: they now get it all for free, while US citizens and 
loyal US companies are paying the bill. Some of America's largest 
corporations have engaged in such transactions, including Tyco, 
Ingersoll-Rand, and Global Crossings. Ironically, some of these same 
companies have large contracts to provide goods and services to the 
Federal Government. Now they are saying they don't want to pay their 
fair share of US taxes. This is outrageous, and must be permanently 
stopped.
    These Bermuda tax avoidance schemes are especially unpatriotic in 
light of our current economic and national security situation. We are 
now seeing a major, growing budget deficit. The Wall Street Journal 
reported on June 4, 2002 that the federal deficit could total as much 
as $200 billion next year. The huge federal surplus we had only a year 
ago has been wiped-out. Corporate expatriates contribute to the 
growing, long-term budget deficit problem. Critical programs like 
Social Security and Medicare are in serious jeopardy just as the 
largest generation in the history of this country is getting ready to 
retire. In addition, as our country continues its war on terrorism, and 
makes efforts to improve homeland security, all or our citizens, 
elected officials, and corporations should remain united and committed 
to defending our homeland and eliminating terrorism. Corporate 
expatriates are saying that profit gained from tax avoidance is more 
important than the security and well-being of our country.
    As I am sure you have heard, this tax scheme outrage is happening 
in my home state of Connecticut. In September 2001, Stanley Works 
announced that it was closing its last hardware manufacturing facility 
in New Britain and moving it to China. In February, Stanley Works 
followed-up with an announcement that its board had approved a plan to 
re-incorporate in Bermuda.
    More and more companies are contemplating such moves as aggressive 
consultants and legal firms try to sell their clients this unpatriotic 
tax dodge. In an effort to stem the tide, Congressman Richard Neal of 
Massachusetts and I introduced legislation on March 6, 2002, to close 
the expatriate tax loophole. Our legislation is quite simple. It states 
that if you are, in fact, a domestic US corporation, you are subject to 
US corporate income tax, wherever you locate your nominal headquarters. 
Importantly, our legislation, with an effective date of September 11, 
2001, will end this unfair tax dodge permanently.
    A second important provision of our legislation would restore the 
tax obligations of those companies that expatriated before 9/11. Our 
legislation would give such companies until 2004 to come into 
compliance. This provision, in turn, ensures that all US corporations 
play by the same rules, with no one having a tax advantage.

    The US Treasury Department, while recognizing the problem, has 
argued that we need to study the issue. Others have proposed a tempoary 
measure that would only extend through the end of 2003.
    We must not wait. Certainly, the tax system needs to be reformed. 
But there is no reason that fixing the immediate problem needs to be 
contingent upon reforming the entire system. If your house, which may 
be in need of remodeling, also has a fire in the attic, you don't do 
the remodeling first. Instead, you put out the fire immediately, and 
then move on to the longer range tasks. This is precisely the case 
here: we need to put out the raging fire of this expatriate tax abuse--
and then move on to remodel our tax code. The calls for delay or a 
study are nothing but sham excuses for failing to take the action so 
obviously and urgently required. 
    So also in regard to any temporary measure: a nationally-syndicated 
Boston Globe columnist recently wrote, ``. . . the proposal for a 
moratorium is so sneaky and pernicious. . . . No one can argue why 
phony expatriation to avoid taxes is good for the US or good for 
anybody except the executive officers of companies who do it. So why 
have a moratorium when a flat-out ban is what's needed?'' (May 28, 
2002). I strongly agree. These tax schemes are a cancer on the American 
tax code. They need to be eliminated now. Every day we wait, the 
situation only gets worse. And you certainly would not start treatment 
for cancer and then abruptly stop after 12 months. You work to get rid 
of the problem once and for all! Of course, a temporary measure may 
seek to serve as an election year gimmick--but it does not solve the 
problem. A temporary measure is a clear breach of our responsibility to 
act effectively in the interest of the American people.
    In addition, the proposed temporary legislation would not apply to 
those companies that expatriated before September 11, 2001. Why would 
we allow those who expatriated before September 11, 2001, to continue 
to escape their tax obligations? We certainly should not allow 
expatriated companies to maintain indefinitely a tax advantage over 
American companies that are loyal to our country. In contrast to the 
temporary measure, the Neal-Maloney bill fixes the problem permanently, 
and restores all US corporations to a uniform, level tax policy.

    It should be stressed that these expatriate tax schemes are 
seriously detrimental to many of the companies' own shareholders. 
Corporations are supposed to act in the interests of their 
shareholders; here they are not. Under these expatriation schemes, 
individual shareholders will have to recognize capital gains taxes on 
the value of their shares at the time of reincorporation, and make 
immediate payment of those taxes to the IRS. For example, Stanley Works 
has admitted that if they were to reincorporate in Bermuda it would 
cost their shareholders $150 million in immediate capital gains taxes. 
Thus, Stanley is merely shifting its tax burden to individual 
shareholders. The New York Times recently reported on the scope of this 
slight-of-hand, stating, ``[e]ven if their shares rose 11.5%, they [the 
Stanley shareholders] will barely break even after taxes'' (May 20, 
2002).
    For the smaller investors, retirees, and those nearing retirement, 
this will be an especially onerous burden--one they cannot afford. One 
retired Stanley Works machinist shared with me that he would face an 
estimated tax bill of $17,000. As any retiree will tell you, having to 
pay a bill of that magnitude threatens their financial security when 
they need it most. For those facing these payments, where will they get 
the resources to pay the tax? They will be forced to borrow the money 
from a bank, take out a second mortgage, dip into their 401Ks (thereby 
incurring additional taxes and penalties), or take other detrimental 
action This tax shift from corporations to individuals is patently 
unfair and must be stopped now and permanently.

    Finally, the New York Times recently reported that the Stanley 
Works CEO ``. . . stands to pocket an amount equal to 58 cents of each 
dollar the company would save in corporate income taxes in the first 
year.'' (May 20, 2002) That is $17.4 million of an estimated $30 
million in `savings' out of the US Treasury, and into the CEO's 
personal checking account. In the same story, the NY Times reported 
that the Stanley CEO is also eligible for additional stock options 
under the current plan, and that he could gain another $385 million by 
exercising those options.
    Let's close this loophole and stop this unfair shift of taxes from 
corporations to individuals. The Neal-Maloney bill is the solution to 
the problem. The legislation is straight-forward: if you are, in fact, 
a domestic US corporation, you are subject to US corporate income tax, 
wherever you locate your nominal headquarters. Secondly, our 
legislation would recapture those companies that have already 
expatriated by giving them until 2004 to come into compliance. This 
provision ensures that all US corporations are playing by the same 
rules, and that no one has a tax advantage. Our legislation will end 
this unpatriotic tax dodge once and for all. I urge immediate action on 
H.R. 3884, the Neal-Maloney bill.

                               

 Statement of Steven C. Salch, Partner, Fulbright & Jaworski, L.L.P., 
                             Houston, Texas
    Mr. Chairman and Members of the Committee:
    My name is Steven C. Salch. I sincerely appreciate the invitation 
to appear before you today and discuss with you the subject of 
corporate inversions. The statements and views I will express today are 
my own personal views and do not represent the views of the law firm, 
its clients, or any association or professional organization of which I 
am a member.
    Later this month, I will celebrate my 34th anniversary as a lawyer 
with the Houston, Texas office of Fulbright & Jaworski L.L.P. Prior to 
joining that firm, I was a tax accountant for a major energy company 
then located in Dallas, Texas. I am a former Chair of the Section of 
Taxation of the American Bar Association and am currently the Fifth 
Circuit Regent of the American College of Tax Counsel. I have been 
involved with international commercial, regulatory, and tax issues 
since I entered into the private practice of law in 1968. As you might 
expect from a Texas lawyer, a good deal of my practice has focused on 
the energy industry and financial and service sectors relating to that 
industry. However, over the years I have represented both domestic and 
foreign clients in the agriculture, construction, manufacturing, 
distribution, financial, and service sectors regarding their operations 
in this country and abroad. My testimony today is predicated on that 
experience and background.
    This Committee and its Subcommittee on Select Revenue Measures have 
undertaken a formidable task: rationalizing the U.S. income tax 
system's treatment of foreign operations in an era of globalization of 
business and financial resources and the enhanced competition that 
creates for contracts, sales, financial services, and jobs.
    Looking back today, it is hard to imagine that the United States 
once imposed restrictions of direct foreign investments by U.S. 
businesses and an interest equalization tax on foreign borrowings. 
Forty years ago, the Congress, at the urging of the Kennedy 
administration, enacted Subpart F of the Code,1 which in its 
original form essentially eliminated deferral for U.S. businesses that 
utilized certain foreign business structures to reduce their foreign 
tax liability while simultaneously deferring the lower-taxed foreign 
income from current U.S. income tax. Starting a decade later in 1971, 
the Congress and the Executive Branch have endeavored to level the 
playing field between U.S. businesses and their foreign competitors 
within the constraints presented by our income tax system, multilateral 
international agreements, and bilateral treaties, while concurrently 
endeavoring to preserve the U.S. income tax base, through a variety of 
statutory mechanisms.
---------------------------------------------------------------------------
    \1\ Unless otherwise noted, references to the ``Code'' are 
references to the Internal Revenue Code, 26 USC, then in effect, and 
references to ``section'' are to sections of the Code.
---------------------------------------------------------------------------
    As we all know, the export incentive elements of those efforts have 
consistently been found to be contrary to GATT or WTO, in large measure 
because of the different manner in which those trade agreements regard 
the application of territorial tax systems employed by most other 
countries, as contrasted to the worldwide tax system the United States 
employs to tax the income of resident business taxpayers. Consequently, 
a U.S.-based business with multinational operations today generally 
faces a higher rate of worldwide income taxation of its net income than 
does a foreign-based competitor with the same operations, business 
locations, and employee locations. The reason for this difference 
generally is that the foreign competitor will not be subject to U.S. 
federal income tax on its income from sources without the United States 
that is not effectively connected with a U.S. trade or business or 
attributable to a U.S. permanent establishment and also will not be 
subject to income taxation in its base country on foreign business 
income (income from business operations outside its foreign base 
company).
    Under a pure territorial tax system the business revenues derived 
from outside the foreign residence country of the foreign business do 
not sustain taxation by its country of residence. More significantly, 
perhaps, many foreign countries do not share the same concern about 
external structures that permit their resident businesses to minimize 
their business income tax burden in other countries in or with which 
they do business.2 Over two decades ago, one of my foreign 
friends from what was then a fairly popular base country characterized 
his country's exemption of income from direct foreign business 
investments as ``pragmatic'' and intended to ``facilitate the expansion 
of both the base country revenue and employment by attracting base 
companies and at the same time permit resident companies to be 
extremely competitive in foreign markets.''
---------------------------------------------------------------------------
    \2\ That low level of concern about business taxation does not 
extend to individual taxation or passive investment income taxation, 
however.
---------------------------------------------------------------------------
    For over 34 years, I have worked with U.S. businesses seeking to 
minimize their cost of capital and maximize their net after-tax 
earnings by managing the combined U.S. and foreign effective tax rate 
on their business income. During that same period, I have worked with 
foreign businesses seeking to achieve the same goals by minimizing the 
U.S. income taxation of their U.S. operations or foreign taxation of 
their third-country business operations. On one hand, the latter group 
of clients is generally easier to serve since in many instances their 
U.S. and foreign business revenues were not taxed in their home 
countries, while on the other it is somewhat more challenging to 
explain that the U.S. will tax foreign operating revenues of their U.S. 
subsidiaries or foreign subsidiaries of those subsidiaries. It doesn't 
take foreign clients a long time to appreciate that, as a general rule, 
they should not have operating foreign subsidiaries below their U.S. 
subsidiaries or conduct non-U.S. operations through U.S. subsidiaries.
    At the same time, it has always been trying to explain to a U.S. 
businessperson or entrepreneur that they will be competing with foreign 
businesses that enjoy the benefits of VAT rebates on exports and what 
are explicitly or effectively territorial systems with largely 
unrestricted opportunities to minimize foreign taxation of their 
business income. As economies become more intertwined and competition 
increases around the globe, these experiences have become more trying.
    Here is an example of a typical situation and concerns that the 
Code's approach to income taxation of foreign business operations 
produces.
    Company X and its subsidiaries, domestic and foreign, are in a 
service industry. Over the years, their customers' activities have 
become increasingly focused on foreign business opportunities. As a 
result, the percentage of the gross revenue and income that Company X 
and its subsidiaries derive from performing services outside the United 
States has grown. It now is more than 50% of their gross revenue from 
operations and generally is projected to either remain at that level or 
increase over the foreseeable future. Company X competes with other 
U.S. firms and with foreign-based companies. Within the last six 
months, Company X was unable to achieve an acquisition of substantially 
all the assets of Company A, a domestic company whose business would 
complement Company X's operations with over 60% of its operating income 
from foreign operations, because foreign Company Z offered a cash price 
that was substantially more than the price Company X thought was 
feasible based on its targeted goals for return on capital and concerns 
about maintaining share value in an equity marketplace environment that 
is becoming increasingly discriminating. Company X's Board asks its 
management to analyze the situation and report back on the failed bid.
    Company X's analysis indicates that Company Z has a lower tax rate 
on operations than Company X, or indeed any of Company X's U.S. 
competitors. One of the reasons is that Company Z does not pay tax in 
its home country on income from foreign operations or foreign 
subsidiaries. Another reason is that Company Z's home country's 
exemption of Company Z's foreign operational income from tax permits 
Company Z to conduct its foreign operations in the manner that 
minimizes taxation by other countries. While other factors, such as 
higher employment taxes and office rental, partially offset the tax 
savings, Company Z has a higher rate of return on invested capital than 
Company X, largely because of the tax differential.
    When Company X's personnel applied Company Z's after-tax rate of 
return from operations to Company A, the result was a price that was 
actually higher than the price Company Z paid for Company A. Thus, if 
Company Z is able to achieve its pre-acquisition rate of return with 
respect to Company A's business, the acquisition should actually 
increase the value of Company Z since the acquisition price, though 
higher than Company X could pay, was based on a lower rate of return 
than Company Z actually achieves. Company X's analysis showed that 
under Company Z's ownership the only portion of the operations of 
Company A that would continue to pay U.S. corporate income tax were 
those that served the U.S. market exclusively.
    In that regard, since Company Z had purchased Company A's assets, 
all the intellectual property of Company A was now owned by a foreign 
corporation that would charge and receive an arm's length royalty from 
Company A's U.S. operations (determined pursuant to the section 482 
regulations) that would be deductible for federal income tax purposes 
and be exempt from U.S. withholding tax by virtue of a bilateral income 
tax treaty. The income derived from the foreign operations of Company A 
would no longer by subject to U.S. federal income tax or state income 
tax.
    Company X's CEO reported to the Board that Company Z was in the 
process of downsizing Company A's U.S. workforce by terminating 
personnel in the research, engineering and design, procurement, and 
administrative areas because those tasks would be performed by existing 
staff of Company Z in foreign locations for a fee paid by the U.S. 
operations. Manufacturing jobs in Company A would remain in the U.S. as 
needed to serve the U.S. plants. What was not known was how long those 
plants would all remain active to provide goods for foreign markets, as 
well as the domestic U.S. market. The CEO commented that it was likely 
Company X would see a decline in sales to what was Company A as Company 
Z's foreign engineers and procurement specialists began specifying 
foreign supplier's components, including those of Company Z and its 
affiliates, whenever customers did not specifically request open 
sourcing or Company X components.
    Company X's Board quickly grasped the concept that Company X's rate 
of return on invested capital, and presumably its share price, would 
increase if Company X could restructure so that it's income from 
foreign operations was not subject to U.S. corporate income taxation. 
The question was whether that could be achieved. That's when the 
outside tax and investment banking experts were brought into the 
picture.
    They suggested to Company X's Board that it should effectively 
reincorporate itself as a Bermudian company and utilize a domestic 
holding company to own its U.S. operations. The transaction would 
involve the U.S. shareholders exchanging Company X shares for shares of 
a Bermuda company (``BCo''). That exchange would trigger realization of 
any built-in gain in the Company X shares, but not loss. While precise 
data were not obtainable, in view of the decline in the stock prices 
over the past several years, the investment bankers advised that it was 
probable that there were a great many shareholders who had losses and 
the amount of gain for stockholders who had held Company X shares for 
more than three years would be relatively low.
    Company X's foreign subsidiaries would be held by a foreign 
subsidiary of BCo. The existing intercompany pricing policies of 
Company X and its affiliates would continue to be observed by BCo and 
its foreign subsidiaries and the U.S. holding company. The U.S. holding 
company would continue to operate the U.S. fixed facilities. With 
proper attention to the Code provisions regarding effectively connected 
income, the income produced by BCo and the foreign subsidiaries should 
not be subject to U.S. corporate income tax, other than withholding on 
dividends distributed by the U.S. holding company. The savings achieved 
by eliminating U.S. corporate income taxation on BCo and its foreign 
subsidiaries significantly enhance BCo's return on capital and 
hopefully, its share price. It also makes BCo more competitive with 
Company Z and other foreign firms.
    This example is what I refer to as the classic or straight 
inversion. It was employed for the first time approximately 70 years 
ago. Approximately 30 years ago I obtained from the IRS a private 
letter ruling that dealt with inversion issues. For various non-tax 
reasons that transaction did not go forward. Subsequently McDermott did 
invert and Congress tightened the Code to assure that there was an exit 
fee for similar transactions. Subsequent inversions have likewise 
generated legislative amendments designed to prevent others from 
pursuing a similar transaction without additional cost.
    The recent increase in proposed inversion transactions and 
corresponding publicity have caught the attention of the Treasury 
Department and both the House and the Senate. One result is that a 
number of members and senators have proposed legislation to address or 
suppress inversions in several different ways.
    I respectfully submit that one of the problems with several of the 
pending anti-inversion legislative proposals is that they have 
effective dates that would extend to transactions that were done 
decades ago. Not all inversion transactions in the past were undertaken 
solely or perhaps even principally for U.S. tax reasons. To go back 
into the past and attempt to determine which ``old and cold'' 
inversions that were entirely legal when they were implemented, should 
now be penalized, strikes me as unfair, unsound, and overkill.
    I also submit to you that the classic or straight inversion is not 
a ``tax shelter,'' ``abusive transaction,'' ``job loser,'' or 
``unpatriotic.'' As the foregoing example illustrates, the classic 
inversion generally is motivated by systemic features of the Code and a 
discontinuity between those features of our law and comparable features 
of the tax laws of other countries. The classic inversion does not 
reduce U.S. tax on U.S. source business revenue, except insofar as 
section 482 dictates that there be an arm's length charge for 
intercompany transactions in which the foreign affiliate is a provider 
to a U.S. business.
    The example also shows that in the simplest terms, the classic 
inversion is all about numbers that investors and investment bankers 
translate into stock prices or purchase prices of businesses. In that 
context, preserving U.S. ownership of business, a classic inversion can 
also directly and indirectly save U.S. jobs and business that would be 
lost if the same business came under foreign ownership.
    I realize that Congress needs time to study and develop solutions 
to the systemic issues, including the export issue and the WTO. 
However, I am concerned that unless Congress can also enact a 
moratorium on foreign purchases or acquisitions of U.S. businesses, a 
moratorium on inversions that precludes U.S. businesses with 
substantial foreign operations from engaging in the classic inversion 
will merely provide foreign purchasers an opportunity to extend their 
present competitive advantage in purchasing and operations during the 
moratorium period. No matter what your views may be on inversions, I 
hope you can all agree that result would not be desirable.
    If classic or straight inversions were the only type of inversion 
transaction that we are seeing, I'm not sure we would all be here today 
for this purpose. We are also seeing transactions that are derivative 
of the classic inversion in some respects but go beyond it. One such 
derivative generally involves companies that do not have or reasonably 
anticipate substantial business income from foreign sources. A simple 
inversion does not produce a tax benefit for those companies because 
the systemic issue is not present in the absence of foreign source 
income. Thus, any tax savings that are achieved are a result of 
something else and are achieved with respect to U.S. source income. 
Transactions that fit that description are the transactions I believe 
the Committee and the Treasury Department should scrutinize carefully. 
However, any solutions should apply equally to both domestically and 
foreign owned U.S. businesses, in order to avoid the inadvertent 
creation of an additional competitive advantage for foreign owned 
businesses.
    Some inversion transactions implicate bilateral income tax 
conventions to which the United States is a party. If in scrutinizing 
those transactions, the Congress determines that there are issues that 
require action, I hope the Congress will provide the Treasury 
Department with an opportunity to address those issues in negotiations 
with the other countries that are parties to the treaties in question, 
rather than unilaterally overriding those treaties. Treaties work for 
U.S. businesses and are beneficial to international business and 
financial transactions. Thus, it is in everyone's best interest to 
permit the normal treaty negotiation or renegotiation process to occur 
in an orderly fashion, rather than jeopardize an entire treaty over any 
single issue or transaction.
    It is a part of our American culture that we will compete on a 
level playing field with anyone, anytime, and anyplace. Once the 
playing field was local. Then it became regional, and later it became 
national. Today the playing field is international, and our rules are 
not the only rules in play. Thus, we need to be vigilant that others do 
not adopt rules that unfairly penalize our businesses seeking to 
operate abroad. We also need to be vigilant that our rules neither 
penalize U.S. businesses operating abroad nor grant an unfair advantage 
to foreign businesses operating here.
    Mr. Chairman, classic inversions are not ``the problem.'' They are 
symptoms that indicate a systemic problem exists. I urge the Committee 
and the Congress to seek a solution that cures those systemic problems 
as the best means of alleviating the symptoms. At the same time, 
Congress and the Treasury should also address variations of classic 
inversions that achieve savings by reducing taxation of U.S. source 
business income and assure that any remedial measures apply equally to 
domestic and foreign investors.
    Mr. Chairman, thank you again for the opportunity to appear today. 
I will be pleased to respond to any questions.

                                
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