The Tangled Web of Income and Inequality

August 8th, 2012
in econ_news, syndication

Written by Gavin Kakol, GEI Associate

Econintersect:  With all the political posturing over Mitt Romney's refusal to disclose his tax return  records there has been highlighted a wider controversy over some of the wealthiest paying low tax rates.  This has evoked discussions of exactly what the important factors in this area might be.   There is debate over both the morality and legality of loopholes that result in some degree of regressive taxation, produce reduced revenues collected by the Treasury and add to income and wealth inequality - which has skyrocketed in recent years.

Follow up:

The Tax Justice Network (TJN) estimates over $32 trillion is invested into offshore tax havens and first world banks worldwide.  That's more then double the United State's GDP!  This figure excludes anything outside of finances such as: real estate, yachts, race horses, and jets.  So what draws the rich to invest outside their country?

1.  Short term currency exchange rate profits (hot money)

2.  Long term portfolio diversification

3.  Asset protection against political shifts

4.  Shady schemes such as:  money laundering, round-tripping, avoidance of import duties.

James Henry of the TJN classifies the location of offshore investment into either tax havens or first world countries.  Although there isn't a standard for what constitutes a tax haven, countries that have low tax rates and little transparency make the cut in the judgment Government Accountability Office, which  lists more than 139 countries as tax havens.  Some examples include: Bermuda, the Cayman Islands, Nauru, St. Kitts, Switzerland, Monaco, Cyprus, Gibraltar, and Lichtenstein.

First World Countries are home to large banking institutions. Countries such as the United States, United Kingdom, Switzerland, Netherlands, Belgium, and Germany fall into this category.  These locations appeal to  the wealthy because of their financial security and efficiency.

Powerful companies have been saving immense sums of money by diverting their booked profit to subsidiaries, while tax payers loose the benefit of  missed tax revenue.  According to Fortune 500 in 2007, 83  of the United State's 100 largest publicly traded companies reported having foreign subsidiaries.  Another 63 of the 100 largest US contractors have their own overseas subsidiaries as well.  It is unclear how many of these entities use their foreign interests to avoid the paying Uncle Sam; additionally, it is possible that the true number is understated, because only significant subsidiaries need be reported to the Securities and Exchange Commission (SEC).

The United States is regarded to have one of the highest corporate tax rates worldwide (39.2%), but according to Financial Accountability & Corporate Transparency (FACT) Coalition, "the joke's on anyone who actually believes that some of the largest corporations pay anything close to that figure."

The average corporation pays around 12% corporate tax, considerably below the average rate paid 50 years ago (30%).  From 2008 to 2010, thirty of the largest US corporations paid zero income tax.  Bank of America for example, paid zero income tax in 2010 after reporting 5.4 billion in pre-tax losses.  It's interesting to note that Bank of America received billions of dollars in bailout money funded by taxpayers that same year.

In 2002, Senate Finance Committee Chairman Max Baucus stated the following:

Prominent U.S. companies are literally re-incorporating in off-shore tax havens in order to avoid U.S. taxes. They are, in effect, renouncing their U.S. citizenship to cut their tax bill...This is very troubling, especially now, as we all try to pull together as a nation

A number of U.S. companies are becoming ex-patriots in order to save on taxes.  Even though these companies carry the majority of their business operations and sales within the US, they claim residence to their foreign subsidiary to avoid their domestic taxes.  General Electric, Google, Transocean and Goldman Sachs have all paid well below 12 percent tax by using their foreign interests, but a recent headline has been Apple.

Apple has marked 70 percent of its income as foreign, effectively paying just 10 percent income tax.  The American company holds 69 percent of its retail stores, 39 percent of its sales, and 54 percent of its long term assets domestically.

As stated earlier, tax havens are only part of the picture.  Banks in first world countries have increased their cross-border wealth from $5.4 trillion to 12.06 trillion in the five years leading to 2010. They now hold between 62 to 74 percent of the foreign domestic wealth, whereas tax haven countries hold around a third.  Despite the recession and bailouts for all but one (Pictet & Cie) of the world's fifty largest banks, the coffers have had an annual growth rate of 16 percent.

Half of the wealth in these financial institutions is owned by 91,000 individuals worldwide (.001 percent of the world's population).  Some of the most dominant banks in the outside the U.S. are banks that are headquartered here or do significant business in the country.  Among these:   UBS, Credit Suisse, Citigroup/SSB/Morgan Stanley, Deutsche Bank, BankAmerica/Merrill Lynch, JPMorganChase, BNP Paribas, HSBC, Pictet & Cie, Goldman Sachs, ABN Amro,  Barclays, Credit Agricole, Julius Baer, Societe General, and Lombard Odier.

While large companies and wealthy individuals profit, the share of Federal Corporate taxes in the GDP falls.  Currently 1.3 percent of the GDP is composed of corporate taxes.  Compared to 1968 (4.3 percent) or more recent 2006 (2.6 percent) the overall GDP's share of corporate tax has decreased.  Over the past 26 years congress has allowed tax loopholes to nearly double from $526.1 billion to $1,024.7 billion.

Inequality continues to escalate as the wealthy pay less in taxes than in the majority of the world.

Professor Thomas Piketty of the Paris School of Economics and Professor Emmanuel Saez of the University of California, Berkeley have done extensive work on income data that includes offshore estimates to determine exactly how disproportionate the inequality is in the United States.  Their findings suggest that the top .01 percent of the population has quadrupled their income since 1980.  The top .1 and 1 percent have tripled and doubled their income respectively.  The bottom 90 percent of the population have actually seen a decrease of 5 percent of income.

Other past estimates of inequality did not include offshore income to measure wealth.  Sylvia Allegretto of the University of California also conducted a study of wealth, but without the use of offshore information.  Her findings suggest that the top 1 percent of the population increased their incomes between 1983 and 2009 by only 1.8 percent.

Sam Pizzigati of the Institute for Policy Studies (IPS) describes the drasitically different data:

We have a huge paradox in the data: a disconnect between the data on income inequality and the data on wealth inequality.  The income data tell us there has been a truly enormous separation between the richest of the rich...the wealth data shows us no great growth in the separation.

So what could inequality spell out for the United States and the world over?

In a 2011 study conducted by Isabel Ortiz and Matthew Cummins for UNICEF, research showed that countries with high inequality suffered slow growth rates and high political tension compared to countries with less income disparities.  According to U.S. economist James Galbraith, the inequality that resulted in and from credit booms over the past two decades has resulted in significant instability that has led to the housing bubble and the Great Recession.

However, there are two sides to every argument.  According to tax attorney Jim Duggan of Chicago’s Duggan Bertsch:

There is nothing inherently illegal whatsoever with having money outside of one’s home jurisdiction...a strong argument can be made that these structures are indeed assisting in globalization as they are being invested into other countries around the world to promote development and economic growth.

He further added:

If we could figure out how to tax all this offshore wealth without killing the proverbial Golden Goose, or at least entice its owners to reinvest it back home, this sector of the global underground is also easily large enough to make a significant contribution to tax justice, investment and paying the costs of global problems like climate change.

Back in February, Michigan Senator Carl Levin introduced bill S. 2075 Cut Unjustified Tax Loophole Act.  The bill is one of numerous submitted by Levin designed to crackdown on offshore tax abuses.  Over the next ten years the act would yield a $155 billion deficit reduction. The bill to date is still in its introductory phase.


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