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Tax, Trade and Harmful Tax Competition: Reflections on the FSC Controversy Reuven S

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Tax, Trade and Harmful Tax Competition: Reflections on the FSC Controversy Reuven S University of Michigan Law School University of Michigan Law School Scholarship Repository Articles Faculty Scholarship 2000 Tax, Trade and Harmful Tax Competition: Reflections on the FSC Controversy Reuven S. Avi-Yonah University of Michigan Law School, [email protected] Available at: https://repository.law.umich.edu/articles/1072 Follow this and additional works at: https://repository.law.umich.edu/articles Part of the Business Organizations Law Commons, International Law Commons, Taxation- Transnational Commons, and the Transnational Law Commons Recommended Citation Avi-Yonah, Reuven S. "Tax, Trade and Harmful Tax Competition: Reflections on the FSC Controversy (Foreign Sales Corporations)." Tax Notes Int'l 21, no. 25 (2000): 2841-5. This Article is brought to you for free and open access by the Faculty Scholarship at University of Michigan Law School Scholarship Repository. It has been accepted for inclusion in Articles by an authorized administrator of University of Michigan Law School Scholarship Repository. For more information, please contact [email protected]. Special Reports tion procedures in the case of any "subsidy ... which operates directly or indirectly to increase Tax, Trade, and Harmful exports of any product from, or to reduce imports of any product into, Tax Competition: [a contracting party's] territory."5 In addition, the article expressly Reflections on the FSC prohibits the use of any subsidy "on the export of any product ... Controversy which subsidy results in the sale of such product for export at a price by Reuven S. Avi-Yonah lower than the comparable price charged for the like product to Reuven S. Avi-Yonah is a professor of law at the buyers in the domestic market."6 A Michigan Law School. note clarifies that the exemption of an exported product from taxes borne by the like product when destined for domestic consumption (such as zero rating exports for he current controversy over II concludes that most production VAT) "shall not be deemed to be a 7 T foreign sales corporations tax havens, and some traditional subsidy." (FSCs) provides a good opportu­ and headquarters tax havens, Article XVI was significantly nity to address the broader ques­ constitute export subsidies under expanded by the Subsidies Code tion of the proper relationship the GATT. Finally,· Part III asks included in the 1994 version of the between the international income whether harmful tax competition GATT. 8 The Subsidies Code defines tax regime and the WTO. In par­ is better addressed by the WTO or "subsidy'' as including cases where ticular, can one identifY aspects of by organizations with less binding "government revenue that is international taxation that are adjudicatory power, such as the otherwise due is foregone or not subject to the jurisdiction of the OECD. It concludes that, while in collected."9 To be actionable under WTO, as reflected in the General the short term the OECD has the the GATT, a subsidy must be Agreement on Tariffs and Trade advantage, the WTO may provide "specific to an enterprise or (GATT)? This article will argue a better forum in the longer term. that there are certain aspects of current international income tax I. The GATT and Taxes practice that are subject to the There are two articles of the 1 jurisdiction of the WTO. In partic­ General Agreement on Tariffs and See generally Reuven S. Avi-Yonah, "Globalization, Tax Competition, and the ular, many of the regimes identi­ Trade that bear directly on fied by the OECD as constituting Fiscal Crisis of the Welfare State," 113 taxation.2 Article III of the GATT Harv. L. Rev. 1573 (2000). harmful tax competition should provides that "internal taxes ... 2The 1994 version of the GATT is part also be considered export subsidies should not be applied to imported of the Marrakesh Agreement Establishing under article XVI of the GATT, or domestic products so as to afford the World Trade Organization, reached at and, therefore, as being subject to protection to domestic production."3 the conclusion of the Uruguay Round of challenge under WTO procedures, Because of the reference to trade negotiations (April1994). GATT just as the FSCs were challenged Secretariat, The Results of the Uruguay products, this provision has Round ofMultilateral Trade Negotiations bytheEU. generally been understood as - The Legal Texts (Geneva, 1994) (hence­ forward GATT), i. The article is divided into three referring only to indirect taxes (i.e., excise taxes or consumption taxes 3GATT, 490. parts. Part I is a general descrip­ 4 tion of those parts of the GATT such as the VAT). However, even if See Joel Slemrod, Free Trade and Protectionist Taxation, NBER Research that relate to taxation. Part II the article is interpreted as referring to direct taxes as well, it Working Paper 4902 (1994) (while theoret­ addresses the application of GATT ically it is possible to design tax rules that rules to three types of tax havens, seems unlikely that the income have the same effect as tariffs, in practice which I have elsewhere named tax, in particular, can be used as this is difficult to achieve). "traditional tax havens," "produc­ an instrument for protecting 5GATT, 508. tion tax havens," and ''headquar­ domestic production because of the 6GATT, 509. The FSC regime was ters tax havens."1 The first type difficulty of designing income tax struck down under this provision. are the offshore tax havens, while provisions that will apply only to 7GATT, 549. foreign production. 4 the other two are what the OECD 8Agreement on Subsidies and Counter­ calls "preferential tax regimes" in Article XVI of the GATT vailing Measures, GATT 264. otherwise high-tax countries. Part provides, in general, for notifica- 9GATT, 264. Tax Notes International 18 December 2000 • 2841 Special Reports industry or group of enterprises or the promise of no taxation and It would seem that such pro­ industries."10 In addition, a specific bank secrecy; and (c) "headquar­ duction tax havens constitute subsidy is prohibited only if it is ters tax havens," i.e., regimes prohibited export subsidies under "contingent, in law or in fact ... designed to attract multinational the GATT. They generally involve upon export performance" or ''upon enterprises to locate their head­ foregone revenue (i.e., are tax the use of domestic over imported quarters in a jurisdiction by expenditures), are specific to goods."11 Annex I to the Subsidies promising no taxation (or no certain taxpayers (in fact they are Code includes an "illustrative list current taxation) of income derived frequently negotiated deals), and of export subsidies" which includes from foreign subsidiaries.16 are "in fact" contingent on export "[t]he full or partial exemption How do the GATT rules previ­ performance, because the products remission, or deferral specifically ously described apply to these or services they involve cannot be related to exports of direct three types of tax haven? The targeted at the domestic market. taxes ... paid or payable by indus­ 12 clearest application is in the case The case of traditional tax trial or commercial enterprises." of production tax havens. These havens is harder. Since there is no However, a footnote clarifies that regimes are generally "ring income tax, they do not involve this language "is not intended to "foregone revenue" or a tax expen­ limit a Member from taking diture in the traditional sense. measures to avoid the double However, traditional tax havens taxation of foreign source income 13 frequently grant exemptions to the earned by its enterprises." offshore sector from those taxes The other agreement included that they do collect (e.g., VAT). in the 1994 version of the GATT Moreover, they frequently involve that bears on taxation is the not just pure investments (which General Agreement on Trade in are presumably not covered by the Services (GATS). Because services current GATT) but, in particular, frequently involve FDI, in this case the provision of financial services, the line between trade and invest­ such as brokerage or insurance, ment is particularly blurred. targeted entirely at foreigners (and Therefore, the United States frequently ring fenced as well). inserted provisions in the GATS Thus, arguably, traditional tax that prevent it from overriding havens, or at least that part of domestic tax legislation and their activities that is more than income tax treaties applicable to FDI. In particular, the provision of national treatment for service providers can be avoided if "the difference in treatment is aimed at 10GATT, 265. ensuring the equitable and 11GATT, 266. effective imposition or collection of 12 14 GATT, 305. The list also includes a direct taxes." In addition, most provision for exemption or remission of favored nation (MFN) treatment fenced," i.e., they are designed to indirect taxes in excess of those levied on can be avoided if the difference in foster exports and, therefore, are products for domestic consumption, and treatment follows from a tax separated from the domestic defines direct and indirect taxes to include treaty.15 income tax and VAT, respectively. GATT, economy (and sometimes also not 305 n. 58. Deferral is allowed if accompa­ available to domestic investors). nied by an interest charge. Ibid. II. Application of GATT The regimes are ring fenced 13GATT, 305 n. 59. Rules to Tax Havens precisely because they are set up 14GATT, 339-340. In previous work, I have identi­ by countries with a real domestic 15 tax base that do not wish to see GATT, 340; see also GATT, 346 (no fied three types of tax havens: (a) arbitration in the case of existing tax trea­ "production tax havens," in which that base eroded by the tax conces­ ties). sions granted within the preferen­ there is a specific tax holiday or 16For further elaboration, see Avi­ other type of tax benefit designed tial regimes.
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