President Barack Obama made a forceful case Tuesday for stopping corporations from moving their headquarters overseas in order to avoid U.S. taxes, saying they are taking advantage of the American economic system and saddling the middle class with the bill.
These companies “renounce their citizenship, but get all of the rewards of being an American company,” Obama said at a press conference Tuesday.
Obama praised regulations issued the day before by the Treasury Department aimed at making more difficult these so-called inversions, in which U.S. companies combine with foreign firms to reduce U.S. taxes.
Tax avoidance is a global problem, Obama said, pointing to an enormous leak of documents from a Panamanian law firm that allegedly detail the offshore shell companies and tax shelters used by rich leaders around the world. “A lot of it is legal, that is exactly the problem,” he said.
The new Treasury Department rules could imperil Pfizer’s $160 billion deal to join Botox-maker Allergan and move its headquarters to Ireland in order to lower its tax bill, according to several corporate tax experts.
The inversion was expected to lower the pharmaceutical giant’s tax rate to 17 or 18 percent and save the company about $35 billion in taxes. But the rules announced late Monday could make those tax savings more difficult to achieve.
Pfizer, asked to respond to Obama’s remarks, reiterated its joint statement with Allergan released Monday evening: “We are conducting a review of the U.S. Department of Treasury’s actions announced today. Prior to completing the review, we won’t speculate on any potential impact.”
Currently, in order to take advantage of tax savings, the shareholders of the U.S. company must own less than 60 percent of the combined company. Pfizer’s shareholders would own 56 percent of the combined company, for example. But that is in part because Allergen has completed previous acquisitions of U.S. companies that have increased its size. Last year, for instance, Dublin-based Actavis completed its deal to buy Allergan for $70.5 billion, and the combined company took on Allergan’s name.
But Actavis itself was the product of several deals that effectively relocated corporate headquarters: Actavis bought New York-based Forest Laboratories for $28 billion in 2014. And in 2013, then New Jersey-based Actavis bought Warner Chilcott in a deal valued at $8.5 billion, relocating its global headquarters to Ireland and gaining a lower tax rate.
Under the new rules, stock that Allergan has issued within the past three years to acquire U.S. companies wouldn’t be included in the calculations.
Applying the new Treasury Department rule, Americans for Tax Fairness estimates that Pfizer shareholders could own about 70 percent of the new foreign company, well above the 60 percent threshold, said Frank Clemente, executive director of the advocacy group.
“It appears that the Treasury Department has issued a rule with respect to serial inverters, such as Allergan, that will wipe out the expected tax breaks Pfizer was counting on,” Clemente said.
Pfizer’s stock was up about 1 percent Tuesday, but Allergan’s shares fell more than 15 percent.
“We await formal comments from the companies but at this point we believe it is unlikely the deal will close,” Credit Suisse analyst Vamil Divan wrote in a research note sent out early this morning.
Analysts say they are unsure about the legality of the regulations, but note that the Pfizer may not want to fight a multi-year legal battle.
“The real issue isn’t so much what Allergan may prove/disprove or whether Treasury overstepped the authority … the real question is whether Pfizer reads today’s regs as reason enough to not continue to pursue the deal,” Umer Raffat, an analyst at Evercore ISI wrote in an email.
There is a $3.5 billion breakup fee written into the deal, according to a regulatory filing, but the fee would be only $400 million if it falls through due to “an adverse change in law.”
The new Treasury Department rules come as the Obama administration has struggled to stem the tide of inversions. The regulations announced Monday were the administration’s third attempt to address the issue. In addition to rules potentially affecting Pfizer, the department also took aim at one of the most attractive parts of an inversion – earnings stripping.
Using this strategy, the U.S. subsidiary of the inverted company can take on a loan from its foreign parent company. The interest payments on that debt can then be deducted from the U.S. company’s taxable income and is taxable at a low rate in the country in which the inverted firm is based. The Treasury Department wants to make the process more onerous.
Despite these new rules, Obama administration officials have continued to argue that stopping inversions will ultimately require congressional action. And business groups say inversions will continue to make financial sense as long as the U.S. corporate tax rate, 35 percent, remains the highest in the developed world.