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Corporate Inversions and the Unbundling of Regulatory Competition Columbia Law School Scholarship Archive Faculty Scholarship Faculty Publications 2014 Corporate Inversions and the Unbundling of Regulatory Competition Eric L. Talley Columbia Law School, [email protected] Follow this and additional works at: https://scholarship.law.columbia.edu/faculty_scholarship Part of the Securities Law Commons, and the Tax Law Commons Recommended Citation Eric L. Talley, Corporate Inversions and the Unbundling of Regulatory Competition, VIRGINIA LAW REVIEW, VOL. 101, P. 1649, 2015; UC BERKELEY PUBLIC LAW RESEARCH PAPER NO. 2511723; USC CLASS RESEARCH PAPER NO. CLASS14-32; COLUMBIA PUBLIC LAW RESEARCH PAPER NO. 14-475 (2014). Available at: https://scholarship.law.columbia.edu/faculty_scholarship/1888 This Working Paper is brought to you for free and open access by the Faculty Publications at Scholarship Archive. It has been accepted for inclusion in Faculty Scholarship by an authorized administrator of Scholarship Archive. For more information, please contact [email protected]. TALLEY_BOOK (DO NOT DELETE) 9/18/2015 1:40 PM 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 TALLEY_BOOK (DO NOT DELETE) 9/18/2015 2:20 PM 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.” -Barack Obama, President of the United States1 INTRODUCTION EVERAL prominent public corporations have recently embraced a Snoteworthy (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). TALLEY_BOOK (DO NOT DELETE) 9/18/2015 1:40 PM 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 A. Desai, A Better Way to Tax U.S. Businesses, Harv. Bus. Rev., July–Aug. 2012, at 135, 135, 137–38; Economic Growth and Family Fairness Tax Reform Plan, United States Senate Office of Marco Rubio 1, 12 (n.d.), available at http://www.rubio.senate.gov/ public/index.cfm/files/serve/?File_id=2d839ff1-f995-427a-86e9-267365609942. 4 James Hohmann, Rand Paul Seeks Corporate Tax Deal with Obama, Politico (Jan. 20, 2015, 7:59 PM), http://www.politico.com/story/2015/01/rand-paul-corporate-tax-deal-obama-1144 13.html. 5 E.g., N. Gregory Mankiw, How to Fix the Corporate Tax? Repeal It, N.Y. Times, Aug. 24, 2014, at BU7 (advocating a 0% rate). The Obama administration’s 2016 Budget, in con- trast, proposes a more modest reduction (to 28%), paired with a flat tax on all offshore in- come, as well as a transition tax for previously earned offshore income. See Office of Mgmt. & Budget, Exec. Office of the President, Budget of the United States Government, Fiscal Year 2016, at 56–57 (2015), available at https://www.whitehouse.gov/sites/default/files/omb/ budget/fy2016/assets/budget.pdf. TALLEY_BOOK (DO NOT DELETE) 9/18/2015 1:40 PM 1652 Virginia Law Review [Vol. 101:1649 rable size requirements. They involve
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