At a time when the nation’s finances are in a state of disrepair, one would expect the taxing authorities to step up their revenue collection efforts. But as Pulitzer Prize-winning journalist and Syracuse University College of Law Professor David Cay Johnston indicated on September 30 at the 14th annual David R. Tillinghast Lecture on International Taxation, these expectations are not realistic. In his lecture, “Faux Firms and Fairness: Taxing Capital, Trade, and Production in a Global Economy,” Johnston argued that government acquiescence in self-dealing transactions and foreign tax havens subverts revenue collection efforts to the detriment of the middle and lower classes in the United States. 

Johnston, wary of multinational corporations’ economic dominance, asserted that these firms are able to use their international reach to exploit the tax system. With 60 percent of global trade occurring within corporations, Johnston explained that transactions between related companies are especially prone to abuse. For instance, there is a risk that prices used in deals between parent companies and their foreign subsidiaries may fail to reflect market economics, thereby enabling a multinational corporation to allocate more of its taxable income to tax-friendly jurisdictions. While the Internal Revenue Service’s Advance Pricing Agreement Program is supposed to promote better oversight of these types of deals, Johnston characterized the process as broken and the product of “backroom dealing.” 

Johnston also criticized foreign tax havens, such as the Cayman Islands, for facilitating multinational corporations’ abuse of tax laws. Among the laundry list of transgressions Johnston cited: approximately 80,000 businesses are licensed in the Cayman Islands, yet few actually operate there; the Islands rank fifth in banking deposits, yet little money is on deposit there; U.S. manufacturing assets in the Cayman Islands earn 16.6 percent, yet none of these assets are to be found on the Islands. 

Johnston, who won the Pulitzer Prize in 2001 for his New York Times beat reporting exposing inequities and irregularities in the U.S. tax code, noted that the situation in the Cayman Islands is problematic because it encourages the flow of assets outside the United States, adversely impacts the labor market, and erodes the tax base. (A recent Times article on the Cayman Islands reported that with the Islands suffering their own financial crisis, the authorities have been forced to consider taxing businesses and residents.) With the United States seeing recessionary revenue shortfalls, Johnston argued that the IRS should make it a priority to remedy this problem.

Posted on October 6, 2009