EU Apple Tax Ruling Stirs Fears of Revenue Loss in U.S.

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American politicians have spent years salivating over U.S. companies' stockpile of untaxed foreign profits, now more than $2 trillion and growing.

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Europe got to that money pot first.

The European Commission's ruling Tuesday that Apple Inc. must pay $14.5 billion in back taxes to Ireland marked a sharp break with the U.S. Treasury Department and further complicates efforts to forge a bipartisan deal on U.S. tax policy that had seemed plausible but remains out of reach.

To the Treasury and members of Congress, EU regulators represent a threat partly because companies could get U.S. tax credits if they pay more abroad, reducing future U.S. tax collections. The U.S. is trying to protect its claim to the foreign income even though it hasn't figured out how to tax it.

Charles Schumer of New York, the likely next Democratic Senate leader, called the EU's actions a "cheap money grab" that targets U.S. businesses.

In announcing their decision, European officials said they were following long-established laws prohibiting illegal state aid to companies.

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The dispute stems in part from the way the U.S. tax system works: It encourages companies to find as low a foreign tax rate as they can, book as much profit as possible outside the U.S. and leave the money overseas. That is what they have done, and such moves are common in the technology and pharmaceutical industries where companies transfer intellectual property outside the U.S. and accumulate profits there.

Companies based in the U.S. owe the full 35% corporate tax rate on their global profits. They get tax credits for payments to foreign governments, and they don't pay the residual U.S. tax until they bring the money home.

Consider a U.S. company that makes $1 billion in the U.K., which has a 20% tax rate. The company would pay $200 million to the U.K. and owe another $150 million to the U.S. if it repatriated the profits. The more it pays abroad, the less it pays at home.

"At its root, the commission's case is not about how much Apple pays in taxes," Apple CEO Tim Cook wrote in an open letter Tuesday. "It is about which government collects the money."

But governments collect taxes at different rates and different times, and Apple has avoided taxes on much of its European income and delayed its American tax bill on foreign profits.

European governments should get the first chance to tax those profits, said Ed Kleinbard, former chief of staff of the congressional Joint Committee on Taxation.

"I see it as the United States digging in its heels, that it is protecting its corporate champions when in fact it's claim jumping on what is really European income," he said.

Apple had $215 billion in cash and other liquid investments outside the U.S. in June, up from $187 billion last September. The company says it would pay a 33% tax rate on part of that income if it repatriated the money, suggesting it paid a single-digit rate abroad. Mr. Cook told The Washington Post recently that the company won't bring the money back "until there's a fair rate."

Until Apple changed its structure in 2015, the company used subsidiaries that slid neatly between U.S. and Irish tax laws. According to a 2013 U.S. Senate investigation, Ireland saw the companies as resident in the U.S., because they were managed and controlled from California. The U.S. considered them foreign entities not subject to immediate tax because they were registered in Ireland.

Democrats, Republicans and U.S. corporate groups all criticized the commission on Tuesday, with the Business Roundtable, a group of major-company chief executives, calling the decision an "act of aggression."

"Countries ought to be working in partnership to prevent tax evasion and crack down on the unfair practices that have eroded tax bases in the U.S. and around the world, but today's ruling could make that kind of partnership more difficult," said Ron Wyden of Oregon, the top Democrat on the Senate Finance Committee. "This ruling could set a dangerous precedent that undermines our tax treaties and paints a target on American firms in the eyes of foreign governments."

Rep. Kevin Brady (R., Texas), chairman of the House Ways and Means Committee, called the decision a "predatory and naked tax grab" that highlights the need for major policy changes.

The Treasury on Tuesday expressed disappointment in the ruling after issuing warnings against such a move for months. Treasury laid out its argument last week that European decisions against U.S. companies undermine tax treaties, set bad precedents for retroactive taxation and break with past practice. U.S. policy makers have even dangled an obscure law that allows retaliatory double taxation.

Even as they blasted the European Commission, U.S. lawmakers said they hoped Europe's move would accelerate compromises in Congress, including a one-time tax on foreign profits that would encourage companies to invest domestically or distribute money to shareholders. Under that plan, the U.S. could use the tax windfall to rebuild roads and bridges or cut tax rates.

But partisan divides over how heavily the U.S. should tax its own companies' foreign earnings still stymie efforts to revamp the corporate tax code, barring a long-elusive breakthrough on that issue and other disputes.

The U.S. hasn't decided what to do about the stockpiled profits. There is general agreement on a one-time tax during a transition to a revamped international tax system. But there is disagreement on the U.S. component of the one-time tax rate, how the money should be used and what other tax policy changes should accompany it.

Democratic presidential candidate Hillary Clinton has talked generally about using business tax changes to pay for infrastructure investment. Republican presidential candidate Donald Trump has proposed a 10% tax on the accumulated profits. House Republicans envision a transformed tax system that bases corporate taxes on the location of sales, which would favor U.S. exporters and likely cause even more international controversy.

Write to Richard Rubin at richard.rubin@wsj.com

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