November 5, 2015

Mega-Merger Rekindles Debate Over Corporate Taxes

SMITH BRAIN TRUST — Two massive drug companies, New York-based Pfizer and Dublin-based Allergan (maker of Botox), are discussing a merger that could end up being the biggest in a year of blockbuster combinations: The new company would have a market value of more than $300 billion. The merger also reignites debate over the corporate tax rate in the U.S., given that Pfizer's CEO has made it clear that a chief goal of the plan is to cut Pfizer's tax rate.

Though Pfizer is twice the size of Allergan, the new company would have its headquarters in Dublin, where the corporate tax is 12.5 percent, compared with 35 percent in the U.S. Because it pays that higher rate, Pfizer has been competing against foreign companies “with one hand tied behind our back," CEO Ian Read said.

In 2014, President Obama blasted corporate inversions — moving headquarters abroad, for tax purposes — as "unpatriotic," and the Treasury Department introduced new rules to make them harder to pull off. But as long as powerful economic incentives exist, companies will find a way around regulations, says Michael Faulkender, a finance professor at the University of Maryland's Robert H. Smith School of Business.

“Most U.S. companies use complex accounting techniques to avoid the full 35 percent corporate tax rate," Faulkender says. "But that hardly means there isn't a problem. Any money spent on lawyers and accountants and bankers to structure those transactions is a deadweight loss. It's unproductive economic activity." He says the tax also encourages U.S. companies to keep profits overseas, to avoid the tax.

In theory, bringing the corporate tax in line with that of peer nations is a goal that Democrats and Republicans share. One sticking point is that Republicans want to combine corporate tax reform with reform of taxes on individuals — "rightly, in my view," says Faulkender — while President Obama wants to address the corporate tax as a separate issue. Progress on the issue is unlikely until 2017, according to one key Republican House leader.

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