Global Crackdown on Corporate Taxes Will Hurt U.S. Stocks

As governments get more aggressive about curbing sweetheart deals that allow many U.S. companies to drastically lower their corporate taxes, it will take a big bite out of their profits - and that's bad news for stocks.

Monday the European Commission demanded that Luxembourg submit documents pertaining to that nation's cozy tax relationship with Inc. (Nasdaq: AMZN).

Last week the EC published the preliminary results of an investigation it is making into Apple Inc.'s (Nasdaq: AAPL) similar tax deal with Ireland, saying it amounted to "unlawful state aid."

corporate taxes

And a preliminary report on the EC's investigation of the arrangement that Starbucks Corp. (Nasdaq: SBUX) has with the Netherlands to avoid corporate taxes is expected any day now.

But those three companies are only the trickle before the flood.

Over the past two decades, dozens of U.S. companies, most of them tech and big pharmaceutical companies, have set up shop in low-tax countries as part of a strategy to avoid corporate taxes.

It's all perfectly legal, too. Profits are funneled from countries with higher tax rates to the country with the lower tax rate. In many cases, the company doesn't even pay that rate, as special deals lower the amount of corporate tax owed to stunningly small amounts.

For example, in the European Union, Apple not only avoids the higher tax rates outside of Ireland, it doesn't pay anywhere near that nation's statutory rate of 12.5%. The corporate tax Apple actually paid was less than 2%, which has saved the tech giant some $6 billion dollars over the past three years.

Companies Ignored the Signs of a Corporate Tax Crackdown

That a clampdown is happening now come as no surprise; the Organization for Economic Cooperation and Development (OECD) presented a two-year plan to curb the avoidance of corporate taxes in the summer of 2013.

Both companies and the markets have paid little attention to the OECD proposals, however, assuming that the government cooperation required to implement it would never happen.

But the EC investigations are happening, and should be on the radar of U.S. companies. Just last month the OECD unveiled several more proposals aimed at cutting down corporate tax havens.

The new OECD recommendations "will thwart many of the aggressive tax practices that companies engage in today," said Algirdas Semeta, the European Commission's taxation commissioner. "They will ensure that countries work together to protect tax bases, rather than tug against each other to the benefit of corporate tax dodgers."

National governments may not like cooperating with each other, but when it comes to corporate taxes they have a tremendous incentive - revenue. Virtually every major economy is struggling, and governments are saddled with carrying enormous debt.

International cooperation doesn't seem so far-fetched when it's the only way to capture billions of dollars in now-lost tax revenue.

Make no mistake: this train is headed straight for Wall Street. And the worst part is, it's a lose-lose situation for the U.S.

Why the Crackdown on Corporate Taxes Is Especially Bad for the United States

Overall, the United States has nothing to gain from a global crackdown on corporate tax avoidance and a great deal to lose.

Because most of the "offenders" are U.S. companies shuffling around profits made in foreign countries, most of the recovered taxes will go to those foreign countries, not the U.S. Treasury.

The U.S. government will be left with the issue of repatriation - getting the U.S. corporations to bring more than $2 trillion of profits home so it can be taxed here at the world's highest corporate tax rate of 35%.

A global crackdown on corporate tax avoidance will only increase resistance to repatriation unless Congress finds the courage to reform U.S. corporate tax law.

But as unlikely as that seems, it could become part of the conversation going on now about putting a stop to tax inversion deals, in which U.S. companies buy a foreign company and move their headquarters there to escape U.S. corporate taxes.

Meanwhile, U.S. companies - and U.S. stocks - will take the brunt of the hit as the global crackdown picks up steam.

According to Bloomberg, corporate tax avoidance schemes keep as much as $100 billion a year flowing to companies' bottom lines. It's not hard to imagine what might happen to stocks should the bulk of that money vanish.

For example, 20% of Bristol-Myers Squibb Co.'s (NYSE: BMY) adjusted earnings per share in 2012 came from corporate tax reduction strategies.

"It's clear that the tax bills of many multinationals are going to go up," Peter Vale, a tax partner at accounting firm Grant Thornton's Dublin office, told Bloomberg.

The problem is that a higher tax bill necessarily will eat into profits, as the only other way for companies to recoup the lost money is to raise prices, cut wages, or squeeze suppliers - all of which most companies already do as much as they dare.

The list of companies that will be affected is loaded with big names...

The Major U.S. Stocks to Be Hit by Corporate Tax Crackdown

In addition to the three companies already under investigation by the EC, dozens of companies are vulnerable to a crackdown on corporate tax avoidance schemes.

Here's a list of a few of the biggest names:

  • Microsoft Corp. (Nasdaq: MSFT)
  • Google Inc. (Nasdaq: GOOG)
  • Hewlett-Packard Co. (NYSE: HPQ)
  • General Electric Co. (NYSE: GE)
  • Yahoo! Inc. (Nasdaq: YHOO)
  • Bristol-Myers Squibb Co. (NYSE: BMY)
  • Abbott Laboratories (NYSE: ABT)
  • Pfizer Inc. (NYSE: PFE)
  • Merck & Co. (NYSE: MRK)
  • Johnson & Johnson (NYSE: JNJ)
  • Adobe Systems Inc. (Nasdaq: ADBE)
  • eBay Inc. (Nasdaq: EBAY)
  • Oracle Corp. (NYSE: ORCL)
  • Seagate Technology Plc. (Nasdaq: STX)

Follow me on Twitter @DavidGZeiler.

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About the Author

David Zeiler, Associate Editor for Money Morning at Money Map Press, has been a journalist for more than 35 years, including 18 spent at The Baltimore Sun. He has worked as a writer, editor, and page designer at different times in his career. He's interviewed a number of well-known personalities - ranging from punk rock icon Joey Ramone to Apple Inc. co-founder Steve Wozniak.

Over the course of his journalistic career, Dave has covered many diverse subjects. Since arriving at Money Morning in 2011, he has focused primarily on technology. He's an expert on both Apple and cryptocurrencies. He started writing about Apple for The Sun in the mid-1990s, and had an Apple blog on The Sun's web site from 2007-2009. Dave's been writing about Bitcoin since 2011 - long before most people had even heard of it. He even mined it for a short time.

Dave has a BA in English and Mass Communications from Loyola University Maryland.

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