Golfer Phil Mickelson makes a lot of money. He’d like to keep as much of it as possible, just like anyone would. But he got in trouble when he off-handily commented that he might have to make some life changes to avoid paying what he claimed would be 62% of his earnings to the tax man. He isn’t the only entity looking to save on taxes, companies have been making changes to avoid taxes for years. It’s a good business decision no matter what the public thinks.
Golf and Taxes
Part of Mickelson’s problem is that he lives in the high-tax state of California. So, basically, he was suggesting a move to a state without a state income tax, like Florida. Which, it so happens, is where Tiger Woods lives for the same reason. This is clear evidence that tax policy can materially effect what people do. While Mickelson has taken a lot of heat and apologized for his comments, there’s nothing wrong with what he said.
While there are some states that are looking to roll back state taxes, for example Kansas is thinking about eliminating state taxes, there is no doubt that Uncle Sam is looking for more money at the federal, state, and local levels. While the recent fiscal cliff deal will raise taxes for the wealthy, there’s just not enough money there to balance the government’s budget. More blood will be drawn from everyone, including corporate America.
Avoiding the Tax Man
Tax havens have been around for years and have been a favorite tax avoidance tool for companies for just as long. For example, moving to Bermuda at the turn of the century was a big public issue. Insurance companies like ACE Limited (NYSE:ACE) were able to protect their earnings by locating in Bermuda because of the country’s lax tax rules. Nobody seemed to care about the tax advantage so long as the insurers didn’t compete directly with U.S. based ones.
However, ACE and XL Group plc (NYSE:XL), both growing via acquisition at the time, were becoming increasingly competitive stateside. Insurers located in the United States quickly got on the phone to their friends in the government and, well, all heck broke loose. That said, neither ACE nor XL found themselves relocating back to the United States. In fact, they have since headed further afield and both are now calling Europe home.
Not the Only Ones
Insurance companies and golfers aren’t the only ones avoiding domestic taxes. As if on cue to paint corporate America as the bad guy, the media has recently dug up such notable companies as Yahoo! Inc. (NASDAQ:YHOO) and Google Inc (NASDAQ:GOOG), which are using lax overseas rules to avoid taxes.
While complicated, these companies don’t actually relocate, but have subsidiaries in tax-light countries like the Netherlands. As much revenue is then passed through the subsidiary as possible to avoid U.S. taxes. Another recent favorite is Ireland. While on the surface this may look like a horrible thing, it’s important to remember that the vast majority of companies are just following the rules, or at least trying to follow them.
Of course tax avoidance doesn’t come without a cost. For example, some technology companies, such as Microsoft Corporation (NASDAQ:MSFT), have massive cash hoards. A large portion of the money lives overseas. If Microsoft were to bring that money to the United States it would have to pay taxes on it. Needless to say, it leaves as much of that money overseas as possible.
In order to return some of that cash to shareholders via dividends and share buybacks, the company has taken on debt. This works with interest rates so low, since the tax bill of repatriating cash would be much higher than the single digit interest rates Microsoft pays. No harm done, but the company’s financial position is, in the end, weaker than it might otherwise be.
On a bigger level, Microsoft, and many others, are more likely to expand overseas than in the United States if their money is outside our boarders. For example, a new research facility with high-paying jobs could be built in California or the Netherlands. If Google’s money is in the Netherlands, guess who has a better chance of getting those high-paying jobs.
Public Black Eye, Shareholder Value
As a shareholder, seeing a company cut its tax rate is a good thing. Imagine how happy you would be if you could take home a greater percentage of your own paycheck. If your investments lower their taxes, your share of their profits gets bigger. You can’t blame them, and, perhaps, should cheer them on. As for Mickelson, when the flap blows over he’ll probably be moving closer to Woods.
The article Tax Havens originally appeared on Fool.com and is written by Reuben Gregg Brewer.
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