Kudos to Apple’s finance lawyers, who are the Cirque Du Soleil of legal contortionism. On the eve of live testimony from CEO Tim Cook, a scathing congressional investigation of Apple’s tax dodging strategy reveals how the computer giant avoided $13.8 billion in taxes through a clever labyrinth of offshore tax havens, shell corporations, and paper shuffling.
“The ability to pay taxes of less than 2% on all of Apple’s offshore income gives the company a powerful financial incentive to engage in convoluted tax planning to avoid paying U.S. taxes,” notes the report from Senators Carl Levin and John McCain of the Permanent Subcommittee on Investigations.
The 37-page report is jam-packed with all the edge-of-your-seat thrills one would expect from a congressional report on multinational tax policy; we summed up the good parts so you can concentrate your valuable workday procrastination on cat videos.
1. Ireland: Come For The Beer, Stay For The Tax Haven
In addition to the majesty of rolling hills, towering waterfalls, and a rich culture, Ireland also welcomes billion-dollar multinational corporations with an appealing 12% tax rate. Even better, in a sweetheart deal with the makers of the laptop used to type this story, the Irish have offered Apple a tax rate below 2%. At least since 2009, according to the report, it was, on average, 0.06%.
Senate investigators found this curious, since nearly all of Apple research, development, and board meetings are conducted in the United States. So, when they quizzed Apple about where it calls home, “Apple responded that it had not determined the answer to that question.”
As a result, Apple has had an effective tax rate of just 20.1%, below the 24-32% it tells investors (according to the report), and well below the 35% the U.S. government wants it to pay. In 2011, it paid a mere $2.5 billion.
2. Sell To Yourself and It’s (Technically) Not Income
On paper, Ireland would appear to buy enough Apple products to reconstruct Blarney Castle from discarded iPods, but Apple’s Irish HQ legal entity is merely a passthrough shell corporation to funnel profits to tax havens, says the report.
The investigators determined that Apple cleverly splits itself into entities around the world, charged with selling products and intellectual property at distorted prices. For instance, Apple Sales International, a shell corporation entitled to Apple Inc’s intellectual property, sells products to its worldwide retailers at a “substantial” markup, technically raking in most of the profits from goods sold in stores.
“For example, in 2011, Apple reported $34 billion in income before taxes; however, just $150 million of those profits, a fraction of one percent, were recorded for Apple’s Japanese subsidiaries, even though Japan is one of Apple’s strongest foreign markets. ASI, meanwhile, reported $22 billion in 2011 net income,” explains the report.
3. Choose Which Entity Pays Taxes (Hint: The One With The Lowest Income)
Apple avoids taxes on its $102 billion in offshore holdings, thanks to an unintentional loophole that allows the company to decide which subsidiary gets taxed. In an effort to simplify the global tax rules, the IRS permitted multinationals to “disregard” sub-entities that were normally taxed (the so-called “check-the-box” rule).
Apple structured the relationship so that its tax-haven entities received billions in otherwise taxable dividend payments from subsidiaries it had elected to be among its disregarded entities.
In other words, according to the IRS, the payment within corporations is treated as a kind of internal transfer, which Apple funneled to its tax-friendliest locations.
“Those figures indicate that Apple’s Japanese profits were being shifted away from the United States to Ireland, where Apple had negotiated a minimal tax rate and maintained two non-tax resident corporations.”
Looking For A “Reasonable” Tax Code
Apple, of course, is not the only major tech firm accused of dodging taxes through offshore havens. In Apple’s case, Tim Cook has already donned the good cop role ahead of his congressional grilling, alongside Apple also providing written testimony to the subcommittee.
“If you look at it today, to repatriate cash to the U.S., you need to pay 35 percent of that cash. And that is a very high number,” said Cook. “We are not proposing that it be zero. I know many of our peers believe that. But I don’t view that. But I think it has to be reasonable.”
Cook will reportedly plead with Congress to simplify the tax code. But, if that happens, a lot of very clever tax lawyers will lose their jobs.