Closing the Billion Dollar Loophole How States Are Reclaiming Revenue Lost to Offshore Tax Havens Closing the Billion Dollar Loophole How States Are Reclaiming Revenue Lost to Offshore Tax Havens OSPIRG Phineas Baxandall, Dan Smith, Tom Van Heeke and Benjamin Davis, U.S. PIRG Education Fund Winter 2014 Acknowledgments The authors thank Dan Bucks, former Director of the Montana Department of Revenue and former Director of the Multistate Tax Commission, for providing guidance on this report’s methodology and details on state attempts to address offshore tax haven abuse. The authors bear any responsibility for factual errors. The recommendations are those of OSPIRG. The views expressed in this report are those of the authors and do not neces- sarily reflect the views of our funders or those who provided review. 2014 OSPIRG. Some Rights Reserved. This work is licensed under a Creative Com- mons Attribution Non-Commercial No Derivatives 3.0 Unported License. To view the terms of this license, visit creativecommons.org/licenses/by-nc-nd/3.0. When consumers are cheated or the voices of ordinary citizens are drowned out by spe- cial interest lobbyists, OSPIRG speaks up and takes action. We uncover threats to public health and wellbeing and fight to end them, using the time-tested tools of investigative research, media exposés, grassroots organizing, advocacy and litigation. OSPIRG’s mission is to deliver persistent, result-oriented public interest activism that protects consumers, encourages a fair, sustainable economy, and fosters responsive, democratic government. For more information, please visit our website at www.ospirg.org. Layout: Harriet Eckstein Graphic Design Cover Photo: Maksym Dykha, Shutterstock Due to an error, an earlier version of Closing the Billion Dollar Loophole was mistakenly reported to have been written and produced by OSPIRG Foundation. In actuality, OSPIRG wrote and produced Closing the Billion Dollar Loophole. Table of Contents Executive Summary 1 Introduction 4 Offshore Tax Havens Cost States Billions 6 States Can Tax Corporate Revenues Held in 9 Offshore Havens by Updating their Tax Codes Combined Reporting and the History of State Attempts to 9 Close Offshore Tax Loopholes How to Close the Water’s Edge Loophole 10 States Have Collected Tax Revenue from Closing the Water’s Edge Loophole 11 All States Should Close Offshore Tax Loopholes 13 and Recapture Revenue Lost to Offshore Tax Havens Methodology 16 Estimating Additional Tax Revenue to Be Gained by Closing 16 the Water’s Edge Loophole Calculating State Tax Revenue Lost to Offshore Tax Havens 19 Appendix A: State-by-State Tax Revenue Lost 20 to Offshore Tax Havens Appendix B: State-by-State Potential Additional Tax 21 Revenue Collected by Closing the Water’s Edge Loophole Appendix C: Full Text of Oregon House Bill 2460 22 Notes 25 Executive Summary very year, corporations use compli- treat a proportionate share of the income cated gimmicks to shift U.S. earn- that corporations book to known tax havens Eings to subsidiaries in offshore tax as domestic income for state tax purposes, havens—countries with minimal or no since it can be reasonably extrapolated that taxes—in order to reduce their state and the income arose from business activity in federal income tax liability by billions of those states. dollars. Tax haven abusers benefit from Other states can also collect some of America’s markets, public infrastructure, the revenue lost to offshore tax havens educated workforce, security and rule of by adopting policies similar to those in law—all supported in one way or another Montana and Oregon. Specifically, states by tax dollars. But they use tax havens to must: escape supporting these public structures and benefits. Ultimately, ordinary taxpay- • Close the “water’s edge” loophole by ers end up picking up the tab, either in mandating that companies include the form of higher taxes or cuts to public their U.S. profits held in offshore spending priorities. tax havens when calculating taxes. While much attention is paid to the im- In many states, companies calcu- pact of tax haven abuse on federal revenue, late their tax liability based on their offshore tax havens also reduce state revenue income held in subsidiaries incorpo- because state tax codes are often tethered rated within the water’s edge (that is, to federally defined taxable income. With within the United States). By declar- Congress often gridlocked, states should ing a statutory list of tax havens, take action to reduce the impact of offshore states can tax corporate profits held tax havens on state budgets. in tax havens that lie past the water’s edge. Montana and Oregon have passed laws to curb offshore tax haven abuse • Before closing the water’s edge loop- and collect tax revenue that otherwise hole, states must adopt “combined would be lost. These two states simply reporting,” which requires corpora- Executive Summary tions to list the profits of all their and Oregon in closing the water’s edge subsidiaries on their tax forms. Com- loophole, they could have collected an addi- bined reporting provides states with tional billion dollars in combined revenues a ready formula that can be applied to tax haven income to determine Table ES-1. Closing the Water’s Edge which portion should be taxable by Loophole Would Have Generated the state. Millions of Dollars of Additional Tax Revenue in 2012* To date, 23 states and the District of Columbia have adopted combined report- Potential ing requirements, but of these jurisdictions Additional only Montana and Oregon have also closed Tax Revenue Rank State (millions) the water’s edge loophole by creating a statutory list of tax haven countries to be 1 California $246.4 accounted for in corporate combined re- 2 New York $141.6 ports. Montana is now collecting millions 3 Texas $141.5 of dollars in additional tax revenue and 4 Illinois $108.3 Oregon is poised to do the same with its 5 Massachusetts $79.0 new law coming into force in 2014. 6 Alaska $45.8 7 Minnesota $33.0 • Closing the water’s edge loophole al- lowed Montana to collect $4.2 million 8 Wisconsin $27.6 in corporate taxes that would have 9 New Hampshire $26.1 otherwise gone uncollected in 2008. 10 Kansas $21.9 In 2010, the last year for which data 11 Arizona $20.1 are available, closing the water’s edge 12 Michigan $18.9 loophole allowed Montana to collect 13 District of $17.9 an additional $7.2 million. Columbia 14 Colorado $15.3 • After closing the water’s edge loop- 15 North Dakota $14.9 hole in 2013, Oregon’s Legislative 16 Utah $12.9 Revenue Office expects the state will 17 West Virginia $9.6 collect $18 million in corporate taxes in the 2014 tax year that would have 18 Idaho $9.4 otherwise gone uncollected. In the 19 Nebraska $7.3 2015-2017 biennium, the Legislative 20 Maine $7.2 Revenue Office expects the state will 21 Hawaii $5.5 collect an additional $42 million. 22 Vermont $4.8 Other states too should close the water’s * With one exception—Massachusetts—all revenue estimates in this table are for 2012, edge loophole. In doing so they could col- calculated using 2012 data. The Massachu- lect millions in additional tax revenue to setts figure represents the midpoint of an reduce the tax burden on other taxpayers officially calculated range produced by the or increase needed services. In addition Massachusetts Department of Revenue using to Montana and Oregon, twenty-one 2011 data. The 2012 figure calculated using our own conservative methodology ($62.1 states and the District of Columbia have million) aligns closely with the low end of the combined reporting and could implement officially calculated range for 2011 ($64-$94 this reform. If they had joined Montana million). See note 45 for more information. 2 Closing the Billion Dollar Loophole in 2012 (note that this figure was calculated havens. In 2011, offshore tax havens cost using 2012 data for all states except Massa- states an estimated total of $20.7 billion chusetts where an official, state-generated in corporate tax revenue. California lost estimate for 2011 was used instead) (see $3.3 billion to offshore tax havens—the Table ES-1). most lost by any state. States that close Closing the water’s edge loophole would the water’s edge loophole could also put be a good start for states in reclaiming a pressure on Congress to stop offshore tax portion of the state revenues lost to tax haven abuse at the federal level. Executive Summary Introduction very person and every corporation in have funded the school programs and America benefits from government would have gone a long way toward closing services—from schools to paved Colorado’s 2012 fiscal year budget gap of E 3 roads to courts and public health. We all $450 million. should contribute our share in taxes when While corporations’ use of offshore tax it comes to paying the tab. Yet even though havens has exacerbated budget and revenue America’s corporations use these govern- problems in many states, recent attention ment services, many avoid paying taxes for has been more often paid to the huge sums them by moving their profits into offshore in federal taxes that multinational corpora- havens. tions avoid by abusing tax havens; a recent Not only is the practice of exploiting academic analysis estimated that the Fed- tax havens unfair, but it strains federal eral Treasury lost $90 billion in 2008 due and state budgets. In 2011, offshore tax to corporate tax haven use.4 Since corpora- havens prevented Colorado from collect- tions pay state income taxes largely based ing approximately $246 million in taxes, on their federally defined taxable income, and—with 2012 general fund revenues the revenue losses hit states as well.