Adam H. Rosenzweig

Can a Single Country Increase the Taxes of Multinational Corporations? Evidence from the Impact of the 1993 Corporate Tax Rate Increase on Fortune 500 Companies

There is a debate in the literature about the ability of multinational corporations to use legal mechanisms, such as transfer pricing and intercompany debt, to prevent any one country from meaningfully increasing effective tax rates (ETRs) on corporations. Evidence suggests that tremendous shifting of profits across borders is occurring, leading to calls for significant policy responses. At the same time, multinational companies are also observed relocating their headquarters or reincorporating in foreign jurisdictions, at least in part for tax reasons. This has led many to claim that international tax in a globalized world has devolved into a race to the bottom. In response, multinational organizations such as the OECD and G‐20 have called for increased multilateralism and cooperation as the last, best hope for the international tax regime. Yet, to date little has been written on the extent to which any one, single country can meaningfully increase taxes on multinational companies unilaterally through changes in rate. We contribute to this literature by designing an empirical study of whether and to what extent a largely unanticipated tax rate increase in a single country affects the ultimate tax liability of multinational corporations. We do so by examining how an actual increase in corporate tax rates in the United States impacted worldwide cash taxes for Fortune 500 companies. Using the 1 percent corporate tax rate increase enacted in 1993, which was enacted for one year without any accompanying base changes, we find that this rate increase led to an increase in worldwide cash taxes reported by multinational companies across the board. We include a number of case studies to further explore the implications of this tax increase. These case studies support the contention that little tax avoidance occurred immediately in response to the increase in the tax rate.

The Up-C Revolution

Over the past few years, a revolutionary new tax structure, known as the Up-C, has become increasingly popular, particularly in instances where an LLC is being taken public. In such an Up-C IPO, a newly formed C corporation is placed on top of the existing LLC, which continues to operate the business. Shares of the C corporation are sold to new investors, and the proceeds are used by the C corporation to buy an interest in the LLC. Meanwhile, the legacy owners of the LLC (typically, founders and private investment funds) retain their interests in the LLC, while receiving exchange rights that allow them to swap their LLC interests for equivalent-value shares of the C corporation. In addition, the legacy owners often receive the benefit of tax receivables agreements (TRAs), which provide that the owners will receive a specified percentage (usually 85 percent) of the tax benefits to the C corporation resulting from future exchanges. In combination, these features seem to provide a near-nirvana of tax efficiency. It is therefore unsurprising that the popularity of Up-Cs is growing at an exponential rate. Nevertheless, the Up-C has received very little attention in the academic literature. This paper endeavors to fill this void. It describes the complicated Up-C IPO structure (and its frequent complement, TRAs) in detail and discusses their many attractive tax features. While Up-Cs and TRAs have faced skepticism from some quarters, the paper explains that there appears to be nothing particularly nefarious about the use of Up-Cs or TRAs per se, at least from a tax policy perspective. In addition, the paper discusses some of the significant implications of the Up-C revolution, including choice-of-entity and international tax implications. We believe that ultimately the Up-C revolution will finally fulfill predictions that the advent of the LLC would fundamentally alter the landscape of business taxation in the United States, not by replacing corporations with LLCs but instead by combining the best features of both entities into a single dominant structure.