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posted on 19 November 2016

Donald Trump's Corporate Tax Reform Aimed At $2.6 Trillion In Profits

by David Zeiler, Associate Editor, Money Morning

Money Morning Article of the Week

President-elect Donald Trump's corporate tax reform plan is a real possibility in 2017.

Fixing flaws in the U.S. corporate tax code would have a huge impact on U.S. companies, many of whom have gotten very good at using current laws to drastically reduce their tax bills.

One of the most prominent ploys is for multinational companies to keep their foreign earnings stashed overseas. By not bringing those profits home, these companies avoid paying the 35% U.S. corporate tax.

Right now, U.S. companies have about $2.6 trillion in foreign earnings waiting to be repatriated. That amount has doubled just since 2008 and is six times higher than it was in 2002.

Donald Trump corporate tax reform

Apple Inc. (Nasdaq: AAPL) tops the list of these companies, with roughly $200 billion in cash stashed overseas. Other "tax haven" companies include Microsoft Corp. (Nasdaq: MSFT) with about $110 billion, General Electric Co. (NYSE: GE) with about $100 billion, and Pfizer Inc. (NYSE: PFE) with about $80 billion.

Other companies have become expert at exploiting tax loopholes. In some cases, these companies pay little or no tax despite making billions in profits.

Here's how they do it…

How to Make Millions in Profits - and Never Pay Taxes

According to a study earlier this year by the Government Accountability Office (GAO), 19.5% of large companies that had a profit paid zero in taxes.

Some big-name examples of profitable companies that paid zilch in taxes 2015 include General Motors Co. (NYSE: GM), United Continental Holdings Inc. (NYSE: UAL), Weyerhauser Co. (NYSE: WY), and Hewlett Packard Co. (NYSE: HPQ).

On the other hand, you can't blame companies for fighting back against the U.S. corporate tax rate of 35% - the highest in the industrialized world.

President-elect Trump's corporate tax reform would address these issues. And he has a terrific chance of getting something done when he takes office in January.

Trump's corporate tax reform proposals have much in common with those that have been floating around Congress for the past several years - and from both Republicans and Democrats.

Donald Moorehead, a tax partner in the public policy group at law firm Squire Patton Boggs, told Bloomberg the day after the election:

"The likelihood of tax reform is meaningfully greater than most tax experts would have predicted 48 hours ago. The Trump sweep materially increases the likelihood of passage of a significant tax reform package."

Here's what the Trump proposal looks like…

How Donald Trump's Corporate Tax Reform Plan Would Work

To induce companies to bring most of that $2.6 trillion in profits back to America, Trump has proposed a one-time repatriation corporate tax reduction to 10%. Even if companies returned just half of their overseas profits, that would result in a $130 billion windfall to the U.S. Treasury. Bringing back all of it, theoretically, would mean $260 billion.

To prevent companies from continuing the practice, Trump proposes a permanent reduction of the U.S. corporate tax rate to 15%, along with the elimination of almost all loopholes.

This is a key consideration because the last time there was a "tax holiday" for corporations back in 2004, companies took advantage of the much lower rate (5.25% back then) but then resumed stashing profits overseas - awaiting a future tax holiday.

Lowering the permanent corporate tax rate would give companies incentive to stop stockpiling cash overseas.

The Tax Foundation estimates the Donald Trump corporate tax plan would add 4.5% to gross domestic product (GDP) over the next 10 years, although it would add more than $2 trillion to the deficit.

The current House corporate tax reform proposal would lower the permanent rate to 20%, but would set the one-time repatriation tax reduction at 8.75%.

New York Sen. Chuck Schumer, poised to become the next Senate Minority Leader, has talked with the Republicans about the proposal and has said he's willing to make a deal.

However, the Democrats will likely push for a higher permanent tax rate. They also plan to insist on earmarking any windfall from repatriation to cover infrastructure spending.

The seeds of a deal are definitely there. In addition to fixing the corporate tax code, President-elect Trump has also made infrastructure spending a priority, though he said he wants to pay for it with tax breaks to private industry.

Trump may go along with that suggestion from Democrats to get more leverage on the House Republicans, many of whom won't like the fact that Trump's plan adds to the budget deficit.

But a deal will get done if President Trump wants it to get done.

And while this may look like a threat to the profits of many big U.S. companies, corporate tax reform would provide some surprising benefits…

How Trump Corporate Tax Reform Would Affect U.S. Companies

While the assumption is that corporate tax reform would ultimately reduce profits, that's not necessarily the case. Much will depend on exactly what the final version of the plan looks like.

Remember, President-elect Trump's proposal would add to the federal deficit, which implies a benefit to U.S. companies.

Beyond that, big companies in particular will see a major benefit from corporate tax reform. Freed from the need to keep much of their profits overseas, these companies finally will be able to put that capital to work.

Companies will have more money to invest in research and development, acquisitions, capital improvements, or returning money to shareholders in the form of dividends and stock buybacks.

The ability to put this once-trapped cash to work will serve as a catalyst to these stocks. Even those who have managed to get by without paying any taxes at all will get some boost from this.

S&P Global economists wrote in their report:

"We believe most companies never intended to have such large cash piles parked overseas, and that, if given the choice, many would prefer to repatriate cash, invest in the U.S., and limit their debt. How Corporate Cash Can Save America's Infrastructure," released last month.

Econintersect note: For more on repatriation of overseas corporate earnings, see Bannon, Repatriating Dollars And The "Trump Dollar" (Warren Mosler).

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