Changing Landscape

Ireland finds itself on the wrong side of public opinion as tax havens attain pariah status. However, the country’s low corporate tax rate means it is a hostage of multinationals, writes John Walsh.

PERCEPTION often has a way of becoming a reality. Consequently, if enough people think Ireland is a tax haven then, regardless of whether it is or not, it is a tax haven.

In an era of unprecedented fiscal consolidation and austerity across most western countries, any sort of tax avoidance is becoming an increasingly frowned-upon practice. Tax havens have attained pariah status.

The Government is adamant Ireland is not doing anything illegal and it has nothing to apologise for. But recent testimony of Google executives before Britain’s House of Commons select committee and Apple executives before a US Senate committee have put Ireland in the spotlight for all the wrong reasons.

Both of these companies are using this country as a key cog in a very complex structure that enables them to pay corporation tax on a tiny fraction of their overall profits.

For example, the Senate committee heard testimony that Apple’s Irish operations have been central to it paying virtually no tax on $44bn (€34.18bn) of taxable income.

There is a long list of companies with bases in Ireland that stand accused of similar sharp practice.

The truth is none of this is illegal. There is absolutely nothing about the Irish tax framework that contravenes international laws. But that does not mean what is happening is right.

Ireland finds itself on the wrong side of changing public opinion about the nature of multinationals. But the Government may be incapable of doing anything — not least because many of the countries pointing an accusatory finger at Ireland are even more guilty of facilitating much more aggressive tax avoidance schemes.

If Britain really wants to clamp down on unsavoury tax practices, one of the most effective options at its disposal is turning the screw on tax havens such as Jersey, the Isle of Man, and Gibraltar that operate with impunity within its jurisdiction.

Ireland’s low tax regime has served this country well. If the Government makes it less friendly, there will be plenty of countries more than willing to step in and offer their services.

However, the stakes are particularly high for Ireland. Our economy is reliant on foreign direct investment (FDI). Multinational corporations (MNC) have been responsible for the booming exports that made Ireland one of the few eurozone countries to grow over the past two years.

After the collapse of the banking sector in 2008, the domestic economy remains floored. Any threat to the FDI sector could have devastating consequences.

But, as the saying goes, you reap what you sow. This country’s growth model over the past number of decades has been predicated on attracting high levels of FDI.

The two most important policy instruments in pursuing this strategy has been a business-friendly regulatory regime and a low corporate tax.

The light-touch environment has been replaced by a much more intrusive approach over the past few years. However, the Government has steadfastly defended Ireland’s 12.5% corporate tax rate, despite mounting pressure from eurozone member states.

In many ways, the headline 12.5% corporate tax rate is at the nub of the problem. It is much lower than most other countries and, consequently, it has made Ireland the poster-child of low-tax economies.

There is perfectly valid economic rationale for having a low corporate tax rate. In any currency union, capital flows to the core countries, such as Germany and France.

Periphery countries such as Ireland need as many levers as possible to attract foreign investment. A low corporate tax rate is one of the most effective ways of achieving this.

When Berlin criticises Ireland’s 12.5% rate, it is taking an extremely one-eyed and self-serving approach to European integration. It refuses to take any measures to boost domestic consumption that would stoke economic activity and help the periphery countries. Yet it wants to remove ‘unfair tax competition’.

The main threat to Irish tax sovereignty stems from closer EU integration. The euro will collapse unless there is a move towards closer fiscal and political federalism. The Germans will no doubt use the current tax controversies as a stalking horse to push for a harmonised corporate tax rate.

And this is where the Government has to box very cleverly. Google, Facebook, Apple and all the big US multinationals were attracted here by the low headline corporate tax rate. There are other factors, including an educated workforce and access to the biggest single market in the world. But tax is by far the most important.

What is now subject to international scrutiny is not the 12.5% tax rate but complex arrangements such as the ‘double Irish’. Take Google as an example. It has registered its trademark with a Bermuda-based subsidiary. As Ireland is its EU headquarters, all sales made throughout the region are channelled through this country.

Theoretically, Google should pay 12.5% on those profits. But instead it pays a huge royalty fee to the Bermuda subsidiary for using the Google trademark. It then pays the Irish corporate tax rate on the profit minus the royalty payment, which is a fraction of the overall sum.

Bermuda is a tax haven so Google pays a minimal tax amount for its activities in that country and, in the process, avoids paying billions in taxes.

Google has to seek a concession from the Irish Revenue to use this mechanism, because Ireland does not have a direct tax treaty with Bermuda.

This is the dilemma facing the Government. It could prevent Google and Apple and other companies from diverting royalty payments to Bermuda, but this strategy is freighted with risks.

One of Ireland’s main selling points is its tax competitiveness. If these options are closed down, then these companies could easily move to more ‘friendly’ jurisdictions.

AFTER all, Ireland lags well behind the Netherlands in facilitating tax avoidance for multinationals. That is why U2 registered its holding company there a number of years ago although, according to Bono, this was for ‘tax efficiency reasons’ and obviously nothing to do with the fact that it greatly reduced the overall tax obligation.

France has a headline corporate tax rate of 33% yet the effective rate is closer to 7% when tax deductible items are included.

There is huge hypocrisy in the debate about tax fairness. Apple, Google, and Facebook are all deemed to be ‘controlled foreign corporations’ under US tax laws. The Obama administration could unilaterally close the many loopholes these companies use. But the MNC lobby is extremely influential on Capitol Hill.

Indeed, there is a view that these Senate hearings are nothing more than window dressing. Allowing MNCs to avoid billions in tax dollars is not an easy sell to the electorate.

Regardless of the legalities of the argument, there is the moral dimension. SMEs are the backbone of most economies, including Ireland’s. They are subject to much more stringent tax rules and pay a much higher proportion of their revenues in taxes.

Also, most western economies have hit the buffers. Ordinary citizens face years of higher tax burdens because of the recklessness of the banking sector. Should these same people be subsidising large multinationals as well? Public sentiment is firmly shifting on this last point. There is no doubt there will be some sort of a political backlash.

How Ireland reacts to the changing landscape will have huge implications for future success in attracting FDI.

It is very hard to swim against the tide for too long. But, by being so dependent on foreign direct investment, Ireland is limited in its options.