House Ways and Means Chairman Dave Camp has offered a detailed and thoughtful set of proposals on international tax reform, as did former Senate Finance Chairman Max Baucus in November, 2013. The proposals, however, contain a new form of subtle protectionism. They quietly aim to discourage U.S.-based multinationals from making products overseas and selling them back to the U.S. In effect, income from the sale in the United States of goods manufactured overseas by controlled foreign subsidiaries (CFCs) of U.S.-resident multinational companies would be taxed at a higher U.S. rate than other income from the same factory. Here’s how it would work: Camp—like Baucus-- would mostly or fully eliminate the taxation of dividends that these foreign subs pay to their parent company (Baucus would remove the dividend tax entirely on these repatriated earnings, while Camp would allow firms to deduct 95 percent of dividends.) To limit firms’ incentive to shift reported profits to low-tax countries, both would impose minimum taxes on new forms of income accrued within foreign subs. Camp would exempt most active profits of foreign subs, but would apply a minimum tax of 15 percent (10 percentage points below his proposed corporate rate of 25 percent), to profits attributable to their intangible assets. These are the profits that are easiest to shift to tax havens because it is so hard to establish their correct value. Baucus would have gone even further by including either 80 percent of active income in low-tax countries or 60 percent of all active income of a foreign subsidiary (Baucus proposed two different options for corporate reform, dubbed Y and Z). Camp would create a simple formula to compute intangible profits. He would assume firms earn a 10 percent rate of return on physical investments such as plant and equipment and attribute any excess returns to intangible assets such as patents or brand name reputation. The net result is that the United States, like our major trading partners, would continue to tax most foreign-source income of U.S. firms at a lower effective rate than their domestic income. We’d also follow most of our major trading partners by mostly or fully eliminating the tax on overseas income that is returned to the United States while increasing taxation of accrued foreign-source income. But here is the kicker: Camp would deny preferential U.S. tax rates for intangible profits of foreign subs for goods imported into the United States. Instead, they’d be taxed at the full domestic rate of 25 percent. Baucus would similarly deny the preferential treatment he provides to active income of foreign subs from sales to the United States by including all of these profits in current income. The following table compares the U.S. tax rates on foreign subsidiary income under current law,Baucus’s option Z assuming a 30 percent corporate rate, and Camp’s plan with its 25 percent rate.

U.S. corporate   income tax rate	Current Law	Baucus Option Z	Camp
Income of U.S.   domestic corporations	35%, 31.9% with   domestic production deduction	30%, 27.1% with   domestic production deduction	25%
Active income of foreign   subsidiaries of U.S. corporations from foreign sales	0% as accrued; 35%   when repatriated	18% as accrued	15% as accrued for   intangible income from low-tax countries; 0 for other active income with   1.25% repatriation tax
Active income of foreign   subsidiaries of U.S. corporations from U.S. sales	0% as accrued; 35%   when repatriated	30% as accrued	25% as accrued for   intangible income from low-tax countries; 0 for other active income with a   1.25% repatriation tax

  Under current law, most income accrued within foreign subs is tax-free until it is returned to the U.S. and firms escape most of this tax by retaining and reinvesting these profits over seas. The lock-in of funds overseas does impose some costs on firms, estimated at slightly over 5 percent of foreign profits by economists Harry Grubert and Rosanne Altshuler. Still, this is much lower than the net tax they would pay by repatriating the profits. Camp and Baucus remove most of this repatriation tax, thus eliminating a firm’s incentive to retain profits overseas. They’d tax foreign subsidiary income when it is earned to help prevent base erosion and income shifting. And they’d apply a higher tax rate to income of foreign subs from sales to the United States than to income of foreign subs from sales overseas. What does a discriminatory tax imposed on income from imports from U.S. firms look like in the real world? Suppose Ford and Volkswagen produce automobiles in both the United States and Germany for sale to the United States and Europe. The U.S. would impose the same corporate tax rate on income earned from either firm’s U.S. plants no matter where the cars are sold. VW would pay no U.S. tax on income from its German plant, no matter where those cars are sold. But the story would be different for cars Ford produced in its German factory. Ford would pay a higher U.S. rate on income from the cars it sold into the U.S. than on sales anywhere else in the world. This is what would happen under the Baucus plan because its tax is aimed at active income. Camp’s effective tariff would be more limited because it would apply only to intangible profits in low-tax countries. But U.S. firms that shift their profits from the use of intangibles to low-tax countries would still face a higher tax on sales to the United States than on sales overseas. Since the end of World War II, the U.S. has gradually reduced its trade barriers, lowering tariffs that impose discriminatory taxes on goods produced overseas and sold here. But Camp (and Baucus before him) includes provisions that move in the opposite direction for goods and services produced overseas by U.S.-resident multinational corporations. The proposals discourage U.S. corporations from producing overseas for the U.S. market, but apply no similar tax penalty to imports from foreign-owned corporations.