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W SJ Caterpillar's Tax Strategy Stirs Senate Debate - WSJ
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Read Preview BUSINESS Caterpillar's Tax Strategy Stirs Senate Debate
PwC Executives Put on the Spot During Hearing Following Disclosure of Emails
Email Print 11 Comments By JAMES R . H AGER TY CONNECT April 1, 2014 11:16 a.m. ET Caterpillar executives appeared before a Senate subcommittee hearing Tuesday to discuss the
company's tax strategy. From left: Rodney Perkins, a former senior international tax manager; Julie
Lagacy, vice president of the finance services division; and Robin Beran, chief tax officer. Bloomb erg
News WASHINGTON—Executives of PricewaterhouseCoopers were put on the spot at a
Senate subcommittee hearing on Tuesday by a public reading of their emails discussing
how to preserve overseas tax benefits for client Caterpillar Inc. CAT +2.54%
In one 2008 email, Thomas F. Quinn, a PwC tax partner, warned that the giant maker of
construction and mining equipment might lose tax benefits if some Swiss-based product
managers relocated to the U.S. The managers' presence in Switzerland was part of
Caterpillar's justification for recording the bulk of the profits from the overseas sales of
replacement parts there rather than in the U.S., cutting tax liabilities.
"We are going to have to create a story that will put some distance between them [the
managers] and the parts…to retain the benefit," Mr. Quinn wrote to Steven R. Williams, a
managing director at accounting firm PwC. "Get ready to do some dancing." Popular Now What's This? ARTICLES 1 Release of
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Inequality Mr. Williams replied: "What the heck. We'll all be retired when this comes up on audit."
The emails provided a moment of comic relief at a hearing of the Senate's Permanent
Subcommittee on Investigation, chaired by Sen. Carl Levin, a Michigan Democrat. Sen.
Levin released a report on Monday saying Caterpillar had deferred or avoided paying $2.4
1/4 6/5/2014 Caterpillar's Tax Strategy Stirs Senate Debate - WSJ billion of U.S. taxes under a corporate restructuring 15 years ago that shifted most of the
profits from overseas part sales to a Swiss subsidiary.
Tuesday's hearing provided a rare glimpse into the ambiguities of U.S. tax law, the
contortions some companies go through to reduce their tax bills and the high cost of
advice. The subcommittee's investigation found that Caterpillar paid more than $55
million to PwC to devise and help put into effect the tax-saving strategy. 4 France Moves to
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a TV Hit Asked by Sen. Levin to explain the emails, PwC's Mr. Quinn said, "Senator, that was a
very poor choice of words."
Regarding his emailed comments, Mr. Williams told the subcommittee, "That was also
an inappropriate use of words and an attempt at humor." The PwC executives
maintained their tax strategy advice to Caterpillar was appropriate and complied with tax
Julie Lagacy, vice president of Caterpillar's finance services division, told the panel,
"Caterpillar complies with U.S. tax laws and we pay everything we owe."
Caterpillar said its effective global income-tax rate averages 29% and is three percentage
points higher than the average for U.S. corporations. That prompted Sen. Johnson to
question whether Caterpillar was missing other opportunities to reduce its burden. "I'd be
talking to my tax managers and saying, 'What are you potentially doing wrong here?'" he
Over the past 18 months, the subcommittee has examined Apple Inc., Microsoft Corp.
and Hewlett-Packard Co., all of which defended their tax practices as legitimate. The
hearings have coincided with an international effort to find fairer and more effective ways
to assess taxes on global corporations. Many of today's tax rules were written at a time
when business was primarily domestic and tax-avoidance techniques less sophisticated.
Until 1999, Caterpillar's U.S. operations bought CAT-branded parts from mostly U.S.
suppliers and sold them to dealers overseas. Those sales incurred U.S. corporate
income taxes. After 1999, a Swiss unit bought the parts and sold them to dealers, leaving
Caterpillar's U.S. operations out of the transaction and greatly reducing the U.S. tax bill.
The subcommittee found that Caterpillar has been saving as much as $300 million a
year in U.S. taxes.
Sen. Levin questioned whether Caterpillar's maneuver complied with U.S. tax law, but
said it would be up to the Internal Revenue Service or the courts to decide.
Legal experts noted that transactions, such as shifting profits to Switzerland, must have
economic "substance," or a valid business rationale, as opposed to merely reducing tax
liability. Reuven S. Avi-Yonah, a University of Michigan law professor, testified that the
IRS could argue that Caterpillar didn't meet that test because most of the value in the
parts business was created in the U.S., not Switzerland. VIDEO 1 Anatomy of a Goal 2 Long-Distance
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Gone? Another question is whether Caterpillar's U.S. parent company receives enough royalties
from the Swiss unit to compensate itself for the profitable business it transferred to that
unit. Prof. Avi-Yonah said the IRS could argue that the royalties paid by the Swiss
subsidiary are too low, but noted that "the IRS has not generally been successful in
transfer-pricing litigation and…the Caterpillar business restructuring follows a common
model" used by many other global companies.
J. Richard Harvey Jr., a professor at the Villanova University School of Law, agreed in an
interview that the report raises tough questions, but that the IRS "is usually outgunned
when auditing [global companies] because [they] can hire the best legal, accounting and
economic talent to defend their position."
Testifying before the panel, Bret Wells, an assistant professor at the University of
Houston Law Center, said U.S. tax law "provides less guidance than it should" on how to
price transfers between corporate units.
Sen. Levin said Congress and the IRS should "stop offshore profit shifting and start
ensuring that profitable U.S. multinationals meet their U.S. tax obligations."
2/4 6/5/2014 Caterpillar's Tax Strategy Stirs Senate Debate - WSJ But Republicans on the panel turned the hearing into a discussion of whether U.S. tax
rules handicap American companies. The top U.S. corporate tax rate of 35% is higher
than other wealthy countries, and the U.S. is unusual in taxing companies on their global
income rather than just what they earn at home.
Sen. John McCain, the Arizona Republican who is the ranking minority member of the
subcommittee, said the U.S. tax code is "a factor in moving U.S. operations overseas."
Sen. Rand Paul, a Kentucky Republican, called for cutting corporate income taxes.
The U.S. code allows companies to defer tax payments on overseas income indefinitely
if they don't bring the proceeds back home. U.S. companies included in the Russell 1000
index held about $2.1 trillion of profits overseas in 2013, up from $1.1 trillion five years
before, according to an analysis by the Audit Analytics service of the Ives Group.
If Congress cracks down on tax strategies like that of Caterpillar, said Sen. Ron Johnson,
a Wisconsin Republican, more companies "would stop manufacturing in the U.S. How
would that benefit the U.S.?"
Politicians have long called on companies to invest more of that money in the U.S. to
create jobs. Mr. Avi-Yonah told the subcommittee that a cut in the top corporate tax rate
to around 20% would give companies an incentive to bring home profits.
Defending its corporate citizenship record, Caterpillar said it has increased its U.S.
workforce by 13,000 jobs, to nearly 52,000, over the past 15 years. Caterpillar said its
exports from U.S. plants last year totaled $16 billion.
Write to James R. Hagerty at [email protected]
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