SPRING 2016 NEW YORK UNIVERSITY SCHOOL OF LAW COLLOQUIUM ON TAX POLICY AND PUBLIC FINANCE Corporate Inversions and the Unbundling of Regulatory Competition Eric Talley Columbia Law School January 19, 2016 4:00-5:50 p.m. Vanderbilt Hall-208 SCHEDULE FOR 2016 NYU TAX POLICY COLLOQUIUM (All sessions meet on Tuesdays from 4-5:50 pm in Vanderbilt 208, NYU Law School) 1. January 19 – Eric Talley, Columbia Law School. “Corporate Inversions and the Unbundling of Regulatory Competition.” 2. January 26 – Michael Simkovic, Seton Hall Law School. “The Knowledge Tax.” 3. February 2 – Lucy Martin, University of North Carolina at Chapel Hill, Department of Political Science. “The Structure of American Income Tax Policy Preferences.” 4. February 9 – Donald Marron, Urban Institute. “Should Governments Tax Unhealthy Foods and Drinks?" 5. February 23 – Reuven Avi-Yonah, University of Michigan Law School. “Taxation after the Crisis: Why BEPS and MAATM are Inadequate Responses, and What Should Be Done about It.” 6. March 1 – Kevin Markle, University of Iowa Business School. “Income Shifting Incentives and Implicit Taxes.” 7. March 8 – Theodore Seto, Loyola Law School, Los Angeles. “The Nonfalsifiability of Welfarism: Some Implications of Preference-Shifting for Optimal Tax Theory” 8. March 22 – James Kwak, University of Connecticut School of Law. “Reducing Inequality With a Retrospective Tax on Capital.” 9. March 29 – Miranda Stewart, Australian National University. “Transnational Tax Law: Reality or Fiction, Future or Now?" 10. April 5 – Richard Prisinzano, U.S. Treasury Department, and Danny Yagan, University of California at Berkeley Economics Department. "Partnerships in the United States: Who Owns Them and How Much Tax Do They Pay?" 11. April 12 – Lily Kahng, Seattle University School of Law. “Who Owns Human Capital?” 12. April 19 – James Alm, Tulane Economics Department, and Jay Soled, Rutgers Business School. “Whither the Tax Gap?” 13. April 26 – Jane Gravelle, Congressional Research Service. “Policy Options to Address Corporate Profit Shifting: Carrots or Sticks?” 14. May 3 – Monica Prasad, Northwestern University Department of Sociology. “The Popular Origins of Neoliberalism in the Reagan Tax Cut of 1981.” COPYRIGHT © 2015, VIRGINIA LAW REVIEW ASSOCIATION CORPORATE INVERSIONS AND THE UNBUNDLING OF REGULATORY COMPETITION Eric L. Talley* INTRODUCTION .................................................................................... 1650 I. FEDERAL TAXATION OF MULTINATIONAL ENTITIES: A HIGH- LEVEL PRIMER .............................................................................. 1658 A. Nominal Tax Rates ................................................................ 1659 B. Residency Rules ..................................................................... 1661 C. Worldwide Income ................................................................. 1661 D. Repatriation Reckoning ......................................................... 1663 II. CORPORATE INVERSIONS: THE NEW, NEW (OLD) MATH ............... 1672 A. Overview and Regulatory Evolution...................................... 1673 B. You Get an Inversion; YOU Get an Inversion; EVERYBODY Gets an Inversion? ......................................... 1685 C. Internal Affairs, Corporate Governance, and the Loss of Delaware Jurisprudence........................................................ 1689 III. INVERSIONS THROUGH THE LENS OF REGULATORY- COMPETITION THEORY .................................................................. 1700 A. Framework and Preliminaries............................................... 1702 B. Solving the Game (Equilibrium) ............................................ 1705 C. Variations and Robustness .................................................... 1713 1. Greater Dimensionality of Governance .......................... 1714 2. More Competing Jurisdictions ........................................ 1714 3. Non-Revenue-Maximizing Competitors and Tax “Havens” ................................................................. 1716 4. Multinational Earnings and Territorial Taxation ........... 1718 5. Unbundled Regulatory Instruments................................. 1721 * Isidor and Seville Sulzbacher Professor of Law, Columbia Law School. Email: [email protected]. Thanks to Scott Altman, John Armour, Alan Auerbach, Joe Bankman, Bobby Bartlett, Peter Canellos, Albert Choi, Mihir Desai, Dhammika Dhar- mapala, Victor Fleischer, Julian Franks, Nathan Giesselman, Vic Goldberg, Victor Goldfeld, Jeff Gordon, Andrew Hayashi, William Jordan, Kenton King, Ed Kleinbard, Julia Mahoney, Ruth Mason, Alex Raskolnikov, Edward Rock, Roberta Romano, Maribel Saez, Michael Simkovic, Steven Davidoff Solomon, Leo Strine, and seminar participants at USC, Colum- bia, Virginia, Yale, London School of Economics, Universidad de Chile, the Chinese Uni- versity of Hong Kong, the 2015 American Law and Economics Association annual meeting, and Davis Polk & Wardwell LLP for helpful comments and discussions. Yvonne Ng and Samantha Strimling provided excellent research assistance. All errors are mine. 1649 COPYRIGHT © 2015, VIRGINIA LAW REVIEW ASSOCIATION 1650 Virginia Law Review [Vol. 101:1649 6. Does Governance Really Matter? ................................... 1722 IV. SYNTHESIS AND SOME TENTATIVE REFORM PROPOSALS ............... 1725 A. Pricing Federal Governance ................................................. 1726 B. Rolling Back Federal Corporate Governance ....................... 1728 CONCLUSION ....................................................................................... 1731 APPENDIX A ........................................................................................ 1733 APPENDIX B ........................................................................................ 1748 “Even as corporate profits are as high as ever, a small but growing group of big corporations are fleeing the country to get out of paying taxes. They’re keeping most of their business inside the United States, but they’re basically renouncing their citizenship and declaring that they’re based somewhere else, just to avoid paying their fair share. [W]hen some companies cherrypick their taxes, it damages the country’s finances. It adds to the deficit. It makes it harder to invest in the things that will keep America strong, and it sticks you with the tab for what they stash offshore. Right now, a loophole in our tax laws makes this totally legal—and I think that’s totally wrong. You don’t get to pick which rules you play by, or which tax rate you pay, and neither should these companies. [S]topping companies from renouncing their citizenship just to get out of paying their fair share of taxes is something that cannot wait.” 1 -Barack Obama, President of the United States INTRODUCTION EVERAL prominent public corporations have recently embraced a S noteworthy (and newsworthy) type of transaction known as a “tax inversion.” In a typical inversion, a U.S. multinational corporation (“MNC”) merges with a foreign company. The entity that ultimately emerges from this transactional cocoon is invariably incorporated abroad, yet typically remains listed in U.S. securities markets under the erstwhile domestic issuer’s name. When structured to satisfy applicable tax requirements, corporate inversions permit domestic MNCs eventual- 1 President Barack Obama, Weekly Presidential Address: Closing Corporate Tax Loop- holes (July 26, 2014) (transcript available at http://www.whitehouse.gov/the-press-office/ 2014/07/26/weekly-address-closing-corporate-tax-loopholes). COPYRIGHT © 2015, VIRGINIA LAW REVIEW ASSOCIATION 2015] Corporate Inversions 1651 ly to replace U.S. with foreign tax treatment of their extraterritorial earn- ings—ostensibly at far lower effective rates. Most regulators and politicians have reacted to the inversion invasion with alarm and indignation, no doubt fearing the trend is but a harbinger of an immense offshore exodus by U.S. multinationals. This reaction, in turn, has catalyzed myriad calls for tax reform from a variety of quarters, ranging from the targeted tightening of tax eligibility criteria,2 to moving the United States to a territorial tax system,3 to declaring (yet another) tax “holiday” for corporate repatriations,4 to reducing significantly (if not entirely) American corporate tax rates.5 Like many debates in tax policy, there remains little consensus about what to do (or whether to do anything at all). This Article analyzes the current inversion wave (and reactions to it) from both practical and theoretical perspectives. From a practical van- tage point, I will argue that while the inversion invasion is certainly a cause for concern, aspiring inverters already face several constraints that may decelerate the trend naturally, without significant regulatory inter- vention. For example, inversions are but one of several alternative tax avoidance strategies available to MNCs—strategies whose relative mer- its differ widely by firm and by industry. Inversions, moreover, are in- variably dilutive and usually taxable to the inverter’s U.S. shareholders, auguring potential resistance to the deals. They virtually require “strate- gic” (as opposed to financial) mergers between comparably sized com- panies, making for increasingly slim pickings when searching for a dancing partner, and a danger of overpaying simply to meet the compa- 2 E.g., Stop Corporate Inversions Act of 2014, S. 2360, 113th Cong. (as proposed by Sen. Carl Levin (D-MI) and introduced, May 20, 2014). 3 Mihir