Wednesday, July 27, 2011

Big Corp Tax Loophole Closer #19: Place Legal and Advertising Deduction in the Proper Country

A typical Big Pharma Corp does a substantial portion of its Research and Development on new drugs in the US, gets a US federal and a US state income tax deduction for these R&D costs, and also a US R&D tax credit, to boot.

Then after drug discovery, it transfers the intellectual property (the drug compound) to a foreign tax haven, like Puerto Rico and Ireland, where the drug is manufactured, and thus the massive amount of profit is recognized in this tax haven.

And then a good chunk of the manufactured drugs are sold to US customers.

Much of the advertising spending occurs in the US, and thus the federal income tax deduction is taken in the US, where the tax rate is higher.

Also, later, the bulk of the legal costs related to a drug are incurred in the US, and thus the federal income tax deduction is taken in the higher-taxed US.

And again in both cases, frequently nearly all of the profit related to the drug is recognized in the low-taxed foreign tax haven.

Clearly, something is really wrong here. There’s a mismatch of the profit being recognized on the drug in the low-taxed foreign tax haven, and the advertising, legal, and many other costs related to that same drug being tax deducted in the higher-taxed US.

To correct for this clear Big Corp tax loophole, my recommendation is that the US Government should legislate in this situation for economic substance over legal form, by not allowing federal income tax deductions for these advertising, legal, and other costs related to this drug, where the majority of the profit related to this same drug, has been recognized for income tax purposes in a low-taxed foreign tax country.

And it's not just Big Pharma Corps. Many Big US Manufacturers and Big US Corps in other industries also replicate the same mismatching of where the bulk of the profit on the product or service is recognized (the low-tax foreign tax haven), and where many of the large expenses related to this same product or service are deducted (the higher-tax US).

Thus my recommendation is that the US Government should not allow federal income tax deductions for these advertising, legal, and other costs, related to a product or service, incurred by any Big US Manufacturer or by any Big US Corp in any other industry, where the bulk of the profit on this same related product or service is being recognized in a low-tax foreign tax haven.