The increasingly global scope of U.S. business has a variety of dimensions. In trade, the overall level of exports plus imports has risen steadily and substantially in recent decades, increasing from 16% of U.S. gross domestic product (GDP) in 1976 to 29% of GDP in 2016. Cross-border investment is growing even more dramatically. In 1976, the ratio of U.S. private assets abroad to GDP was 0.20; by year-end 2016 the ratio was 1.42. The bulk of the increase in outbound investment has been portfolio investment—investment in financial assets such as stocks and bonds without the active conduct of overseas business operations. But foreign direct investment by U.S. firms—actual foreign production by U.S.-owned companies—has increased too, rising from a ratio of 0.12 of GDP to 0.44 of GDP between 1976 and 2016. It is the taxation of U.S. business operations that has been the recent focus of policymakers, and that has raised the question of basic tax reform in the international sector: Is the current U.S. system for taxing U.S. international business appropriate in this age of globalized business operations, or is reform needed? Moreover, along with the increasing scope of international investment activities, there is a growing opportunity for tax shelters that take advantage of low-tax foreign jurisdictions. How might revisions in the tax system exacerbate or address these tax shelter issues? The current U.S. system is a hybrid construct, embodying a mix of opposing jurisdictional principles. Not surprisingly, the mixed system—in conjunction with foreign host-country taxes—poses a patchwork of incentive effects for U.S. firms and their global operations, in some cases taxing foreign operations favorably and creating an incentive to invest abroad, and in other cases imposing high tax burdens and posing a disincentive to overseas investment. In still other cases, the system presents a rough tax neutrality toward overseas investment. It is perhaps the hybrid nature of the system that has led to calls for reform. Prescriptions for a "good" tax system vary, and the hybrid system satisfies none of them fully. This report describes and assesses the principal prescriptions that have been offered for broad reform of the international system. It begins with an overview of current law and possible revisions. It then sets the framework for considering economic efficiency as well as tax shelter activities. Finally, it reviews alternative approaches to revision in light of those issues. There are two alternative, conceptually "pure," principles on which countries base their tax in the international setting: residence and territory. Under a residence system, a country taxes its own residents (or domestically chartered resident corporations) on their worldwide income, regardless of that income's geographic source. Under a territorial or source-based system, a country taxes only income that is earned within its own borders. In practice, no country uses a pure residence-based tax; historically, virtually all countries tax income foreign investors earn within their borders (although they may grant tax holidays in some cases as an inducement to investment). Many countries, however, have a territorial or source-based tax (although they may tax some foreign-source income under anti-abuse rules). The United States uses a system that taxes both income of foreign firms earned within its borders and the worldwide income of U.S.-chartered firms. Despite these nominal residence features, however, U.S. taxes do not apply to the foreign income of U.S.-owned corporations chartered abroad. As a result, a U.S. firm can indefinitely defer U.S. tax on its foreign income if it conducts its foreign operations through a foreign-chartered subsidiary corporation; U.S. taxes do not apply as long as the foreign subsidiary's income is reinvested overseas. With some exceptions, U.S. taxes apply only when the income is remitted to the U.S.-resident parent as dividends or other intra-firm payments such as interest and royalties. The deferral feature reduces the effective U.S. tax burden on foreign income and imparts an element of territoriality to the system. It also results in a dichotomous structure for taxing overseas business income: deferral in the case of foreign-subsidiary income and current taxation in the case of branches of U.S.-chartered corporations. The bulk of active business investment by U.S. firms is through foreign-chartered subsidiaries. Along with deferral, another basic feature of the U.S. system is the foreign tax credit. The United States taxes worldwide income on either a current or deferred basis, but it also allows credits for foreign taxes paid on a dollar-for-dollar basis against U.S. taxes otherwise owed. This treatment avoids the double taxation that would otherwise apply and concedes the first right of taxation to the country of source. In effect, the United States gives the foreign host country the first opportunity to tax the income and collects only what tax is left (up to its own rate) after the foreign host country collects its share. When the foreign tax is higher than the U.S. tax, the credit is limited to the U.S. tax that would be due on the foreign income. The purpose of the limit is to protect the U.S. domestic tax base—without it, foreign countries could impose very high taxes without discouraging inbound U.S. investment because the cost of the higher taxes would be shifted to the U.S. Treasury. With the limitation, if foreign taxes exceed the U.S. tax that would be due, the excess foreign taxes cannot be credited. Foreign tax credits that exceed this limitation are termed excess credits . Currently, foreign tax credits are allowed on what is sometimes termed an overall basis, so that income and tax credits from all countries are combined. This treatment allows for cross-crediting , in which credits paid in excess of U.S. tax in one country may be used to offset U.S. tax in a country in which the foreign tax is lower than the U.S. tax. To prevent abuse, tax credits are divided into baskets that separate passive income easily shifted to low-tax countries. Currently, two baskets exist, one for active income and one for passive income. More than half of foreign-source active business income is earned by firms with overall excess credits. Cross-crediting can also occur across types of income. For example, royalties are subject to current U.S. taxes and are generally deductible by firms in foreign jurisdictions, but they are considered foreign-source income. As a result, they are shielded from tax in many cases by excess credits. To address tax avoidance by shifting passive income into low-tax jurisdictions, Subpart F restricts the applicability of deferral in some situations. Subpart F provides that U.S. stockholders (e.g., parent firms) of foreign corporations are subject to current U.S. tax on certain types of subsidiary income, whether or not the income is repatriated. Only stockholders owning at least 10% of subsidiary stock and only subsidiaries that are at least 50% owned by 10% U.S. stockholders are subject to Subpart F. Countries that have territorial tax systems generally also have some type of anti-abuse provision to protect their tax bases. Tax deferral results in heightened importance for the system's rules for dividing income between related firms; the more income a firm can assign, for tax purposes, to a foreign subsidiary in a low-tax country, the lower its overall tax burden. The current system generally requires firms to set hypothetical transfer prices , which are required to approximate the prices two firms would agree on if they conducted their transactions at arm's length. The system is complex and difficult to administer. The foreign tax credit's limitation also places pressure on the system's rules for determining the source of income ( sourcing rules). Because firms can only credit foreign taxes against the portion of taxable income attributable to foreign sources, taxpayers must assign both revenue and costs to either domestic or foreign sources. Although the tax code contains rules for making such allocations, they are likewise complex and difficult to administer. In sum, the United States taxes its resident corporations on their worldwide income but permits indefinite deferral of active business income earned through foreign subsidiaries. Where U.S. taxes apply, foreign tax credits alleviate double taxation but are limited to offsetting U.S. tax on foreign income. Subpart F is designed to deny deferral to what is generally passive income. Because the current U.S. tax system is a mix of a worldwide system and a territorial system, the fundamental tax reform issue is whether moving toward either pure system—a territorial or worldwide residence-based regime—would be an improvement. Moving toward a territorial system would involve permanently exempting most foreign-source active business income. (Most territorial proposals, however, would continue taxing passive income, as under current law's Subpart F.) Moving toward a worldwide tax would eliminate the deferral benefit and might also entail further restricting cross-crediting by increasing the number of baskets for the foreign tax credit limit. Some revisions that maintain the current system but tighten the rules for deductions include proposals to disallow certain deductions of the parent company (such as interest) that reflect the share of income that is deferred. The report defers discussion of the precise changes fundamental reform would entail. First, however, it explains the tools economists have developed for evaluating the various international tax systems. The term competitiveness has often been invoked in the debate about U.S. policy in a global economy, including discussions of U.S. tax policy. In economic analysis, however, it is not countries that are competitive; it is companies that are. A company generally thinks of itself as competitive if it can produce at the same cost as, or a lower cost than, other firms.