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 Amazon.com 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."
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.