Does Kevin Hassett Understand Transfer Pricing?

October 12, 2017
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Howard Gleckman does:

It is true that bringing US corporate rates in line with our trading partners may reduce incentives for improper transfer pricing. But there is a flaw in Hassett’s argument: While these practices are aimed at reducing tax lability, they do not represent real economic activity. And limiting income shifting won’t significantly increase domestic employment.

He was noting this presentation:

Kevin Hassett, chair of President Trump’s Council of Economic Advisers, argued today that the corporate tax cuts in the Sept. 27 Republican Unified Framework would boost overall economic growth. How? In large part because its corporate tax rate reductions would encourage firms to shift jobs from overseas to the US. But the claim is unsupported by the evidence. In a speech at the Tax Policy Center today, Hassett said that the GOP plan would not only increase domestic employment but also raise worker wages by an average of $7,000. That is quite a promise, but after unpacking his argument, it seems improbable at best. His claim: Making statutory US corporate tax rates competitive with the rest of the developed world would encourage firms to stop inappropriate transfer pricing, corporate inversions, and other income-shifting practices. Half of the US trade deficit, he said, results from transfer pricing.

Half of our trade may come from related party transactions and in some cases, transfer pricing manipulation may be significant. But to claim that half of our trade deficit is due to non-arm’s length pricing seems to be quite the stretch. Let me also suggest that this corporate inversion discussion is a distraction as all that does is to turn the tax system into a territorial one where the repatriation tax disappears. Isn’t ending the repatriation tax one of the Republican proposals? OK – we might see a lot of foreign sourced profits coming back home but this simply means shareholders get their dividend checks sooner. Any claim that it would dramatically increase investment is not only bad finance but also rejected by the evidence from our last experiment with a repatriation tax holiday. Gleckman also notes:

the territorial tax system that the Big Six outline contemplates could further encourage US firms to shift revenue to lower-tax jurisdictions since that model would exempt the income of foreign subsidiaries from US tax.

While this could be an issue with ending the repatriation tax, other nations have addressed this by more aggressively enforcing their transfer pricing rules. We could do the same if the Republican Party decides it is time to properly staff the IRS.

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