Corporate Inversions: Getting (Or Losing) An Edge In A Global Economy

The recent rise in corporate inversions has once again made headlines. As a result, the topic has reinvigorated discussion and debate over U.S. corporate tax reform. In January 2015, a Ways and Means Committee Democrats press release announced the introduction of legislation intended to further tighten restrictions on corporate inversions. This leaves us not only contemplating what appears to be an uncertain future for companies’ ability to conduct such transactions, but also considering a potential increase of inversion announcements should companies wish to complete a transaction before the implementation of new legislation.

Corporate Inversion Activity Trends

Reports from the Congressional Research Service indicate that from 1983 to present-day 2015 approximately 76 companies inverted or have announced plans to invert. Forty-seven inversions took place within the last decade with 14 of those deals inked in 2014. Several high-profile companies have received recent media attention for their corporate inversion activity announcements including Pfizer, Chiquita, AbbVie, Omnicom and Burger King. Of these corporations, only Chiquita and Burger King have successfully completed their international mergers while others have called their deals off.

It has been estimated that potentially another 10 corporations may be waiting to announce inversion transactions in the short-term. This next possible wave of announcements continues to fuel policymaker concerns and reactions about an impact on the U.S. tax base as the government’s battle against inversion transactions continues. However, given the need for U.S. corporations to find profitable ways to compete in a growing global economy, it is assumed corporate inversions done as a key business growth strategy will continue.

Defining Inversions, The Benefits and Tax Impacts

A corporate inversion is a mergers & acquisitions transaction by which a U.S. based, multinational corporation restructures. The result of the M&A activity is a change of residence and parent company status to the foreign partner company. A number of corporate inversion structures exist, however it is most common for a U.S. company to merge with a foreign one and, post-inversion, the original U.S. company becomes a subsidiary of the new foreign parent.

When used as a business strategy, corporate inversions offer U.S. multinational companies the ability to reduce what can be a significant tax burden on income earned abroad, particularly if a significant portion of income is received from foreign business activities. Under U.S. tax law, a “worldwide” tax system, income is taxed both abroad and in the country of incorporation. All other developed countries use a “territorial” tax system in which income is taxed only on domestically-earned income. By making a change of residence, a U.S. multinational corporation can take advantage of a more favorable tax structure.

The most common motivators for a company to pursue a restructuring through a corporate inversion include:

  • Lower, more favorable tax rate on earnings
  • Tax-efficient access to non-U.S. cash reserves
  • Establishes a favorable corporate profile to engage in future acquisition activity

However, it is important to note that post-conversion a U.S. corporation remains liable for tax on income earned in the U.S.

The initial surge in corporate inversions began during the late 1990s and early 2000s and can be blamed on high U.S. corporate income tax rates, the U.S. “worldwide” taxation system and a lack of restrictive guidelines that made it easier to conduct mergers via corporate inversion transactions. Beginning in 1996, a number of anti-inversion guidance regulations have been introduced and legislators and tax officials continue to work toward broader, tightened tax reform. Because it appears the U.S. government views inversions solely as tax-motivated actions, it is expected that government officials will continue to introduce new regulations until a long-term solution as part of overall tax reform can be agreed upon.

The Future of Corporate Inversions

Considering the strong, clear language simply contained in the names of proposed legislation intended to close the door on corporate inversions – Stop Corporate Inversions Act of 2014, No Federal Contracts for Corporate Deserters Act of 2014 – it seems the end of corporate inversions may be closer than ever before. It is anticipated that the Treasury and the IRS will continue to issue further guidance to limit inversions and post-inversion planning. If and when new legislation is passed, the government may also be able to take retroactive action against companies that have inverted.

Valuation Research Corporation (VRC) works with corporate tax executives to perform numerous valuations of legal entities, equity interests and underlying assets for tax planning and compliance purposes worldwide. VRC has the capabilities and knowledge needed to support requirements in both U.S. and non-U.S. jurisdictions. Our professionals have deep experience assisting clients with valuation matters related to the development and execution of international tax strategies and associated transactions.