What is Corporate Inversion and Does it Apply to Me and My Business?

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Corporate Inversion

Corporate inversion is a term that has been bandied about in the media quite a bit since the Obama Administration came to office.  This has politicized a financial tool available to corporations seeking to reduce tax payments.  In order to increase the bottom line for shareholders, a corporation basically has to fundamental options; increase revenue or decrease expenses.  Corporate inversion can be used to achieve the latter.

What is it?

Offshore holding companies and tax havens sound like something out of The Wolf of Wall Street, but they are very real concepts that have been successfully used by corporations that we traditionally think of as American, in order to pay lower taxes.  These ideas encompass the thrust of corporate inversion.  Perhaps not as glamorous as the description implies, domestic companies that receive a large amount of their income from foreign revenue streams may use corporate inversion to lower their taxes.  This is because their income is taxed in both the country that the sale occurred, as well as by the U.S. government, if they are incorporated within U.S. borders.

So what’s the problem?

The argument over the use of corporate inversion has been politicized because of the Obama Administration’s argument that this strategy is misused in an effort to avoid paying taxes (essentially pocketing money that should otherwise go to the Government,) while corporations argue that they are using a tool, sanctioned by the tax code, to spur economic growth due to higher profits.  This can be viewed as a big government/small government bureaucratic issue but the crux of the problem is determining the legality, use and restrictions on corporate inversion so that it provides the intended results without offering semi-legal tax evasion as an unintended consequence.  Domestic ownership in these companies, despite the new address, is the root of the issue.

What does the law say?

According to the United States Treasury’s website, the tax law includes penalties to dissuade misuse of corporate inversion rather than inhibit international commerce.  Specifically mergers and acquisitions are mentioned as important investments, with which domestic corporations can grow; however it is necessary to pursue these investments with business growth as the main goal rather than favorable tax consequences.  According to a press release dated this past September, the Treasury intends to continue to reduce the tax benefits of corporate inversion. 

What are the penalties?

The Treasury will levy tax penalties against the offending corporations unless certain criteria are met.  The tax penalties will be based upon the amount of ownership stake in the new company.  There are three brackets, which will determine the penalty.   According to the Treasury, they are as follows:

If the continuing ownership stake is 80 percent or more, the new foreign parent is treated as a U.S. corporation (despite the new corporate address), thereby nullifying the inversion for tax purposes. If the continuing ownership stake is at least 60 but less than 80 percent, U.S. tax law respects the foreign status of the new foreign parent but other potentially adverse tax consequences may follow. The current wave of inversions involves transactions in this continuing ownership range of 60 to 80 percent.

Is corporate inversion right for my company?

Most small businesses probably do not meet the requirements to satisfy the Federal Government’s definition of what needs to be done in order to avoid tax penalties for using this strategy.  If your business has a significant portion of business occur overseas, perhaps this is something that could provide a benefit to your balance sheet.  Please feel free to contact me by phone at (401) 383-9694 or by email and I will be happy to discuss the options available for increasing the success of your business.


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