One of the provisions of the new tax laws recently enacted was the elimination of the tax on corporate foreign earnings. In order to understand the economic benefits of the revised rates, and to whom these benefits will inure, some perspective on the state of affairs prior to the tax revisions will prove illuminating.
The amount of revenue generated by the foreign operations of major U.S. corporations has been simply staggering. In 2015, it was estimated that some $2.5 trillion in overseas profits were being held by some of the largest U.S. companies, including Apple Inc. (AAPL, Financial) and Microsoft Inc. (MSFT, Financial). Rather than lose approximately 35% of those earnings to taxes, many of these corporate titans decided their shareholders would be better served by leaving the money offshore and tax-free.
Now that the repatriation dam has broken, hundreds of billions of dollars are flowing back to the domestic coffers of U.S. corporations. According to congressional estimates, over the next decade, corporations can expect to save $223.6 billion in the form of reduced taxes on foreign profits. How will the money be spent and to whom will the benefits primarily accrue?
Elimination of the 35% tax on foreign earnings has brought a smile to the lips of shareholders nationwide. Indeed, stockholders seem to be the biggest beneficiaries of the new tax law as corporations intend to shower upon their shareholders manna from heaven in the form of generous and unexpected cash payouts.
Apple’s plans for the tax savings are similar to other companies. Apple’s board of directors approved a 16% boost in its quarterly dividend to 73 cents a share, up from its current level of 63 cents. The board also approved $100 billion for share buybacks.
The increased dividend payout ratio, the largest in corporate history, follows Apple ‘s announcement in January that it would repatriate most of its $269 billion in overseas cash holdings back to the U.S. after enactment of the new tax code that requires a one-time tax of 15.5% of overseas profits.
Following on the heels of Apple’s announcement, Cisco Systems Inc. (CSCO, Financial) said it would repatriate $67 billion of its foreign cash holdings to the U.S. this quarter —one of the largest repatriation plans to date.
Additionally, plans for new corporate mergers and acquisitions activity have heated up. According to Dealogic, the dollar volume of announced corporate mergers is at its highest level since 2000.
All of these financial initiatives raise the question as to whether or not the benefits of repatriation have been evenly distributed across the economic spectrum. Critics of the reduced tax rate on earnings abroad argue many large companies will use the money exclusively for share buybacks — a quick and painless way to enhance earnings per share. There is an element of truth in this contention that is buttressed by many corporations’ plans, as noted above, for allocation of the windfall savings.
Congress previously approved a one-time repatriation tax holiday in 2004, pursuant to the provisions of the American Jobs Creation Act. After enactment, there were those who questioned its effectiveness as a job-creation mechanism in light of the fact many corporations used their tax savings not for purposes of business expansion, but rather, to buy back their own stock in order to enhance their earnings per share figures.
The rejoinder to this argument is that even with the cash disbursements to shareholders, the repatriation savings plum has freed up cash that Apple and other companies could and do plan to use for research and development. The contention that the repatriation savings is a windfall for stockholders underestimates the value of other benefits to companies. With taxes on foreign income greatly reduced, executives say they will have readier access to their cash and more flexibility in how they spend it. For example, in early February, Amgen Inc. (AMGN, Financial) said it would spend three-quarters of its planned five-year, $3.5 billion capital expenditure program in the U.S., up from 50% previously, in part for construction of a $300 million plant.
Additionally, a great deal of Americans are shareholders through their mutual fund retirement plans. Even though they may not directly receive a cash payout, the value of their funds undoubtedly will be enhanced.
Ultimately, whether one believes the economic and financial benefits of repatriation are heavily skewed toward stockholders depends on whether one views the policy results as the glass being half-empty or half-full.
Disclosure: I have no position in any of the securities referenced in this article.
