Tuesday, April 1, 2014

Senators question Caterpillar tax strategy

Construction machinery giant Caterpillar avoided $2.4 billion in U.S. taxes by negotiating a corporate deal with Switzerland and shifting profits to a wholly owned Swiss subsidiary, according to testimony at a Senate hearing Tuesday.

The Peoria, Ill.-based company cut its tax bite by $8 billion through an agreement that transferred its international parts-distribution division to the subsidiary, said Sen. Carl Levin, D-Mich., chairman of the Senate Permanent Subcommittee on Investigations.

Despite the $8 billion profit shift, no Caterpillar personnel or business activities moved from the U.S. to Switzerland, and most of the firm's parts business remains in the U.S., said Levin, who chaired the hearing as Americans prepared for the annual April 15 tax-filing deadline.

"In short, most of Caterpillar's parts executives are here, most of its parts employees are here, most of its parts are designed here, most of its parts are built here, most of its parts are stored here, most of its orders are filled here and most of its parts are shipped from here," said Levin, highlighting the findings of a subcommittee report on Caterpillar's tax strategy.

"Yet most of its international parts profits go to Switzerland," said Levin.

The subcommittee's reports typically are issued by the panel's top Democratic and Republican members. But in a sign of disagreement by Sen. John McCain, R-Ariz., the panel's ranking GOP member, the findings were issued as a report by staffers for the Democratic majority.

In his opening hearing remarks, McCain said Caterpillar relies on the Swiss subsidiary to oversee the independent dealer network the company uses to supply replacement parts around the globe. He also shifted focus from the report findings to the high U.S. corporate tax rate.

"There's no doubt that that's a factor in moving operations overseas" and "parking those profits overseas rather than bringing them back to be subjected to a 35% corporate tax rate," said McCain. "This makes a compe! lling argument for broader tax reform in order to ensure our tax code is fair, competitive and a vehicle for economic growth."

Executives from Caterpillar and PricewaterhouseCoopers, the accounting giant that audits the manufacturer and was also paid approximately $55 million for working on the tax strategy, were scheduled to testify later Tuesday.

In prepared written testimony released before the hearing, Julie Lagacy, a Caterpillar vice president, said the manufacturer "takes very seriously its obligation to comply with the tax laws enacted by the Congress, by the states" and other jurisdictions.

"Caterpillar's effective income tax rate averages about 29%," relatively high among U.S. firms, said Lagacy. The company has added about 13,000 U.S. jobs in the last 15 years and "is proud to pay its fair share of taxes right here in the United States," said Lagacy.

PwC said its advice "helped Caterpillar evaluate how best to organize its expanding global operations" and align them "with carefully considered U.S. tax policies." The firm said it "maintained our independence with respect to Caterpillar at all times" and complied with all oversight rules.

The report is the latest in which the panel spotlighted strategies that Apple, Microsoft, Hewlett-Packard and other well-known U.S. corporations used sophisticated strategies to transform what would otherwise be substantial tax bills into major savings.

Many members of Congress have argued that such tax issues arise more from problems with the U.S. tax code than from Corporate America. Tax laws allow U.S.-based companies to defer taxes on reported foreign income until they bring the profits home. As a result, domestic corporations collectively holds trillions of dollars overseas.

Sen. Ron Johnson, R-Wis., questioned legal experts whose hearing testimony expressed skepticism about Caterpillar's rationale for its tax strategy. If the manufacturer were suspected of doing something improper to reduce its tax bill, that shou! ld be add! ressed by the IRS or U.S. Tax Court, "not Congress," said Johnson.

The subcommittee began examining Caterpillar after learning of a 2009 federal lawsuit by Daniel Schlicksup, an attorney who had worked on the firm's tax strategy. He charged that Caterpillar used a "Swiss Tax Structure" to shift profits overseas and a "Bermuda Tax Structure" to bring them back to the U.S. After Schlicksup raised questions, Caterpillar retaliated by forcing him into an unwanted transfer, the lawsuit charged.

Caterpillar denied all allegations in the case, which was settled in 2012.

Reaching some of the same conclusions as the lawsuit, the subcommittee report said Caterpillar negotiated an effective tax rate of 4% to 6% with Switzerland, and then created created a Swiss subsidiary called CSARL. New licensing deals enabled the subsidiary to sell Caterpillar's third-party manufactured replacement parts to non-U.S. dealers and customers without showing the proceeds as U.S. income, the report concluded.

"Caterpillar is shifting its parts profits to Switzerland, even though most of its parts operations and work is done right here in the United States," said Levin, who argued the subsidiary deals might not represent arms-length transactions.

"Nothing changed in the real world," he said, "except Caterpillar's tax bill."

Separately, the manufacturer's annual report filed in February with the Securities and Exchange Commission disclosed that the IRS has issued preliminary notices that Caterpillar owes additional federal taxes involving "certain non-U.S. operations and foreign tax credits."

"We disagree with these proposed adjustments" and will "vigorously contest" them if the IRS finalizes the preliminary assessment, Caterpillar said.

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