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December 13, 2011
Apple Reports a High Tax Rate But Pays Low Taxes: Study Highlights Impact of Repatriation Tax Holiday and Transfer Pricing Rules on Apple's Tax Liability
FALLS CHURCH, VA — With Congress considering a second repatriation tax "holiday" for U.S. multinational corporations, lawmakers might want to consider a recent study by Tax Analysts' contributing editor Martin A. Sullivan showing how tech giant Apple used the 2004 holiday and transfer pricing rules to significantly reduce its U.S. tax liability for 2000-09.

The study, Apple’s High Effective Tax Rate Obscures Foreign Tax Benefits, shows how tech giant Apple pays low taxes and keeps this fact from public view. Like Google and General Electric—two companies that have been in the news this year because of their aggressive tax planning—Apple takes advantage of lax U.S. tax rules to shift profits out of the United States and greatly reduce its tax bill. But unlike these companies, Apple also takes advantage of flexible accounting rules that allow it to report large U.S. tax expense to shareholders and the public even though those taxes actually have not (and may never be) paid to the IRS.

Despite the fact that the majority of Apple’s intellectual property was created in the United States, an estimated 70 percent of its profits are booked outside the country—a profit shifting measure that reduces U.S. tax revenue significantly. Apple’s extremely low foreign effective tax rate of 1.2 percent suggests those foreign profits are not occurring in high-tax countries like Japan, France, and the United Kingdom but, rather, in foreign countries that have little or no corporate tax.

“Apple is a highly successful company whose profitability is largely attributable to its innovative technology and, more recently, to its well-managed retail stores," Sullivan wrote. “The bulk of its technology creation and retail activity is conducted in the United States. Common sense would suggest that most profits should be booked in the United States. But U.S. transfer pricing rules—based on the arm's-length standard—allow most of Apple’s profits to be booked outside the United States. This disproportionate booking of profits could easily be costing the government more than $1 billion annually.”

Sullivan emphasizes that there is no reason to believe that Apple is doing anything underhanded or shady. “Current transfer pricing rules allow companies with valuable, short-lived intangible assets to grant ownership of a significant portion of those assets to a tax-haven holding company,” he notes. “Under U.S. accounting rules, a U.S. corporation does not have to recognize future U.S. tax expense—and therefore does not have to include it in the numerator of its effective tax rate—if the corresponding foreign earnings are deemed to be permanently invested outside the United States. Most (but there are significant exceptions) U.S. multinational corporations consider all or nearly all of their foreign earnings to be permanently invested outside the United States. This allows them to avoid booking tax expense for accounting purposes on the residual U.S. tax that would be paid if they repatriated those earnings back to the U.S. parent.”

“If Congress passed another repatriation holiday and Apple repatriated these earnings, it could result in a multibillion-dollar boost to Apple’s reported earnings because a significant portion of its deferred tax liability would be eliminated,” Sullivan warns.

Martin Sullivan is a contributing editor to Tax Analysts’ daily and weekly publications and a regular blogger on Tax.com. He is also the author of Corporate Tax Reform: Taxing Profits in the 21st Century. Previously, he served on the staff of the Treasury Department and the staff of the Joint Committee on Taxation and has testified before Congress multiple times on major tax issues. He is frequently quoted and interviewed by the media; recent mentions include The New York Times, Businessweek.com, as well as appearances on ABC’s World News With Diane Sawyer, NPR's On Point, and CBS's 60 Minutes.

Media Notes: To receive a full copy of the article or to request an interview with Mr. Sullivan, please contact Jennifer Devlin at 703-876-1714 or Jennifer.devlin@cox.net.

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