Time for tax reform 2.0

Bruce E. Aust is Executive Vice President of Global Corporate Client Group at NASDAQ OMX, the world’s largest exchange company.

TERRANEA RESORT, Rancho Palos Verdes, Calif. — At the D11 conference, I am surrounded by many of the world’s most recognizable technology leaders — from seasoned veterans to twenty-something phenomenons toting the next big thing.

The great majority of what is and will be discussed on the stage here has been, naturally, innovation-related. Yet much of the off-stage chatter has been about one of the conference’s keynote speaker’s recent appearance before Congress.

At a hearing last week the U.S. Senate sought to “make an example” of Apple’s tax strategy — an attempt to shed light on the fact that one of America’s most innovative companies has also beaten the U.S. tax system not in an illegal manner, but against the purported spirit of our tax system’s “morality.” Thankfully, though, CEO Tim Cook and CFO Peter Oppenheimer didn’t take this sitting down — rather, they sounded a clarion call for addressing our flawed corporate tax structure.

Bigger than the question of morality, should be the question of global competitiveness and encouraging domestic innovation.

The tech sector is central to America’s economic success, but it’s also the largest producer of offshore cash, forced by the tax code to keep more than $556 billion overseas. Tech companies put nearly 5.9 million people to work every day and are responsible for an estimated $1 trillion — 7.1% of US GDP. Further, Tech’s direct contribution to US GDP has increased 25% since the 1990s, surpassing any other sector in that time period.

Unfortunately for the country’s economy, the current corporate tax structure punishes international success—and provides a cheaper incentive for companies to choose to pay shareholders by borrowing money and issuing debt, since interest payments are tax deductible, resulting in a cost of debt that is significantly lower than the equity cost. If Apple pays taxes on profits overseas, why do they have to pay US tax on the sales of Apple products to a Frenchman, Japanese or Russian? That profit could come back home to help companies like Apple invest in jobs here, but the tax system seeks punishment for those sales.

And because of Washington’s tax policies, Apple is not the only U.S. corporation forced to store cash offshore in the country where it is earned (Microsoft and Cisco, to name just two, have also been spotlighted). As of 2012, US non-financial firms carried a record-high of $840 billion in cash overseas.

This decision is completely rational —the painful reality is that while the US federal tax rate has remained at 35%, marginal tax rates around the rest of the world have moved lower. The United States is the only large industrialized economy that taxes corporate income with a rate exceeding 30%. Rather than taxing corporations uniformly, Congress built a tax system which provides loopholes and tax breaks that enable companies in various industries to find rates as low as 4.2%.

It’s no wonder why corporate taxes amount to a mere 1.6% of GDP; half the level collected in 1970.

The situation with Apple has awakened the American public and business community to the fact that we’re missing an opportunity here. In an age where it’s more difficult than ever to be a small business or high-growth startup company, corporate tax reform would encourage companies to spend US dollars on US soil, bolstering the economy, creating jobs and stimulating innovation. Instead, more than 58% of US corporate cash is reinvested, or simply held, in the economies of our overseas rivals.

We need to:

• Adopt a territorial tax system
• Lower the corporate tax rate in the US to be competitive with the rest of the world
• Adopt and make permanent innovation incentives, like the R&D tax credit
• Be good stewards of our debt and ensure tax reform will be revenue neutral

These actions will help maintain our position as the world’s leading country for innovation. It is time for Congress to face the inverted “morality” of its tax system and build a new one that raises money for essential government services and pays down our debt, while protecting America’s competitiveness and bolster job creation.

Bruce E. Aust has served as Executive Vice President of the Global Corporate Client Group since July 2003. Mr. Aust also has responsibility for NASDAQ OMX’s Corporate Services unit. Previously, Mr. Aust served as Executive Director and Vice President of the Corporate Client Group.

Image: Warner Bros.; illustration by Tom Cheredar