US Taxation of Multinational Corporations: What Makes Sense, What Doesn't

President Barack Obama proposes to translate his rhetoric directed against "tax breaks to corporations that ship jobs overseas" into new tax measures that will penalize investment abroad by US-based multinational corporations (MNCs). Hufbauer and Kim believe that the United States should not try to constrain the overseas operations of these firms. Instead, the United States should reform its enormously complex tax system at home and create a business-friendly environment. Tax reform should be designed to boost both the domestic and international activities of US-based MNCs and bring more foreign investment to American shores. To that end, tax reform should target fundamental issues rather than populist sound bites. The United States maintains a complicated tax system with multiple loopholes but accompanied by high statutory corporate rates, at about 39 percent (federal plus state). Team Obama should simplify the corporate tax regime and lower the federal marginal (i.e., statutory) tax rate to 25 percent or less. The United States should also adopt a territorial approach to the taxation of "active income" earned by foreign operations of US-based MNCs. In other words, the United States should end any US taxation of active income earned by subsidiaries operating abroad. Shifting from a worldwide tax system to a territorial system would ensure that the United States remains an attractive location for MNC headquarters--since the active business income of foreign subsidiaries would no longer be subjected to a residual US corporate tax. The authors also recommend ways to deal with abuse of transfer pricing, and they support another tax holiday, at a 5.25 percent repatriation rate, both to gain revenue and to make it easier for corporations to raise cash in the midst of the financial crisis.