JCT Estimates $2.6 Trillion in Offshore Corporate Earnings

"The latest estimate from JCT is further proof that our broken, outdated tax code stands in the way of increased investment and job creation in America, and our global competitors are reaping the trillions of dollars in benefits," Chairman Brady said. "Our tax code should encourage our job creators to invest in our local communities, not in other countries. That's why we need a pro-growth, 21st century tax code that encourages businesses to bring stranded income back home to reinvest in our communities -- creating new jobs, increasing wages, and growing American businesses."

"Today's JCT estimate highlights the need for comprehensive pro-growth tax reform that not only strengthens the economy, but also makes the necessary investments in our infrastructure. For too long, trillions of dollars have been stuck overseas providing no benefit to the American people. Real tax reform must encourage these corporations to bring this money back to the United States to invest in our businesses and increase wages for our workers. I look forward to working with Chairman Brady in a bipartisan way to put these dollars to effective use, while also making our businesses more competitive," said Congressman Neal.

Background:

On August 25, 2016, Ways and Means Committee Chairman Kevin Brady and Rep. Richard Neal requested from the JCT an updated estimate of the total amount of money accumulated deferred foreign earnings of foreign subsidiaries of U.S. corporations that is held offshore. On August 31, 2016, JCT Chief of Staff Thomas Barthold provided two separate estimates. The first estimate of $2.6 trillion (up from $2.3 trillion in 2012) is based on the most recent tax return data with a projection to 2015 based on ordinary growth of the world economies and corporate earnings and profits. The second estimate of $2.4 trillion (up from $1.8 trillion in 2012) is the amount reported by Audit Analytics based on data from financial statements of the publicly traded corporations in the Russell 1000.

We are writing to request an estimate of the total amount of undistributed, non-previously-taxed post-1986 foreign earnings of foreign corporations, taking into account such earnings attributable to a 10-percent U.S. shareholder of such foreign corporation. We would like this information as of the most recent date for which such an estimate can be done.

If you have questions or need additional information, please contact Barbara Angus and Brandon Casey. We appreciate your attention to this matter.

This letter is in response to your request of August 25, 2016, for an estimate of the total amount of undistributed, non-previously-taxed post-1986 foreign earnings of foreign corporations, taking into account earnings attributable to all 10-percent U.S. shareholders of such foreign corporations.

Under present law, domestic corporations generally are taxed on their worldwide income, including income earned from the direct conduct of a foreign business by the domestic corporation (by means of direct sales, licensing or branch operations in the foreign jurisdiction) or through a pass-through entity such as a partnership. Income earned indirectly by domestic corporations from the foreign operations conducted by their foreign corporate subsidiaries is generally not subject to U.S. tax until the income is distributed to the domestic parent corporation. Thus, the U.S. tax on foreign earnings of foreign corporate subsidiaries is said to be "deferred" unless it is otherwise captured by the anti-deferral regime of subpart F. U.S. corporations can claim a foreign tax credit for income taxes paid to foreign countries on any income that is taxed either because it is voluntarily repatriated or is captured by subpart F.

The ability to defer the tax on some foreign earnings creates an incentive for corporations to reduce the amount of money that they otherwise would repatriate to the parent corporation. In addition, under U.S. GAAP principles, the earnings of a foreign subsidiary are generally included in the consolidated financial statements of the U.S. parent during the period in which they are earned. However, for U.S. tax purposes, tax is deferred for earnings that are not distributed to the U.S. parent or otherwise includible, such as under subpart F. These undistributed earnings of a foreign subsidiary that are included in financial statement consolidated income but which are deferred from U.S. taxation represent a temporary difference for which a tax liability and associated tax expense is currently accrued, unless the relevant tax laws provide a means by which the investment in the subsidiary can be recovered tax-free.¹ It is generally presumed for U.S. GAAP purposes that all undistributed earnings of a foreign subsidiary will be repatriated to the U.S. parent entity.

A firm may overcome the presumption that it will repatriate all undistributed earnings of a foreign subsidiary to the U.S. parent company by providing evidence of specific plans for reinvestment of the undistributed earnings that demonstrate that remittance of the earnings will be postponed indefinitely and by demonstrating that the U.S. parent company has adequate cash flows from other sources and will not require remittances from the foreign subsidiary. These criteria required to overcome the presumption are sometimes referred to as the "indefinite reversal criteria."²

When a parent entity makes an assertion regarding its intent to indefinitely reinvest foreign earnings, and has demonstrated its ability to do so, it is required to disclose the gross amount of foreign earnings in the footnotes of its financial statements. The parent entity is also required to disclose the nature of events that would give rise to taxation of the earnings in the parent jurisdiction, as well as an estimate of the tax liability associated with the foreign earnings or a statement that providing a reasonable estimate of the tax liability is impractical.

Management of each multinational firm makes a decision and reports in its financial statement regarding its indefinite reinvestment posture based on its facts. Some firms assert indefinite reinvestment of all untaxed (that is, non-subpart F) foreign earnings. Other firms assert indefinite reinvestment of some, but not all, of their foreign earnings. However, their actual repatriation of taxable dividends in any given period may be less than the amount of earnings in respect of which they have accrued a U.S. tax liability for financial statement purposes. The decision to accrue a U.S. tax liability on foreign earnings does not indicate that earnings will be repatriated in the current year. Some firms may not assert indefinite reinvestment of any foreign earnings and therefore accrue a U.S. tax liability with respect to all these earnings irrespective of the amount of their actual repatriations. Because U.S. GAAP rules related to recognition of income and tax amounts in relation to undistributed foreign earnings are not based on whether a firm actually repatriates these earnings, financial statements may not allow clear inferences about the amount of a firm's actual repatriations.

The decision to assert indefinite reinvestment with respect to foreign earnings does not necessarily mean that the firm has not used the earnings in the United States. Specifically, it is believed that some firms have made an indefinite reinvestment assertion for financial statement purposes, even while using the earnings in the United States, whether on a temporary basis or otherwise, so long as the use of the earnings does not give rise to a current taxable inclusion for U.S. tax purposes. One example is a position taken by taxpayers that certain short-term CFC loans to the U.S. parent do not give rise to a current taxable inclusion under relevant IRS guidance, and therefore this use of earnings does not conflict with their assertion regarding indefinite reinvestment.

If a parent entity has asserted indefinite reinvestment of foreign earnings, it must record in its financial statements a tax liability in respect of undistributed earnings if it subsequently plans to or actually repatriates these earnings. To the extent that a firm's managers are concerned with increases in the firm's reported U.S. tax expense, and the corresponding decrease in the firm's earnings per share, managers may delay the repatriation of foreign earnings. Some commentators therefore have observed that the financial accounting rules provide an incentive to delay repatriations. On the other hand, the residual U.S. tax on earnings repatriations may also discourage firms from paying dividends from foreign subsidiaries to U.S. parent companies. The extent to which these tax and financial accounting rules distort decisions whether to reinvest or repatriate earnings may vary from one firm to another. The most recent year for which we have tax return data reporting the amount of undistributed post-1986 not previously taxed earnings and profits is 2012. The Statistics of Income Division of the Internal Revenue Service has reported that the end of year accumulated amount of undistributed earnings and profits for CFCs was $2.3 trillion. Given ordinary growth of the world economies and corporate earnings and profits, we estimate that undistributed post-1986 not previously taxed earnings for 2015 were approximately $2.6 trillion.

There are a couple important caveats to the estimated $2.3 trillion. First, the undistributed earnings may include more than just cash holdings as corporations may have reinvested their earnings in their business operations, such as by building or improving a factory, by purchasing equipment, or by making expenditures on research and experimentation. Second, the $2.3 trillion only includes controlled foreign corporations and only the amount attributable to any 10 percent or greater shareholder. It does not include the undistributed earnings of non-controlled section 902 corporations (so-called ("10-50 companies")). Due to differing filing requirements, data do not exist on the untaxed earnings and profits attributable to U.S. 10-percent shareholders of 10-50 companies, but we believe that the amount of these earnings is significantly smaller than the amount of untaxed earnings of CFCs, maybe less than one percent of that latter amount

Media reports of the amount of overseas earnings often rely on the amount of earnings designated on public financial statements as being indefinitely reinvested abroad. We have described above the ways in which indefinitely reinvested earnings amounts do and do not overlap with the amounts of untaxed foreign earnings. Audit Analytics estimates that publicly traded corporations in the Russell 1000 had $1.8 trillion in indefinitely reinvested earnings in 2012 and $2.4 trillion in 2015.³

I hope this information is helpful to you. If we can be of further assistance in this matter, please let me know.

² ASC 740-30-25-17.

³http://www.auditanalytics.com/blog/indefinitely-reinvested-foreign-earnings-still-on-the-rise/.