Why the Prospect of a Lower Tax Bill Leads US Companies to Move Profits Abroad

During the 2007–09 global financial recession, Congress stirred expectations that multinational corporations might get a second tax holiday. “The first notable discussion occurred with the introduction of the Responsibly Ending Authority to Purchase (REAP) Act of 2008, and commentary, debate and rumors of a second tax holiday ensued,” write the researchers. Six other bills were introduced in Congress through the end of 2011 that offered the possibility of a second tax holiday.

Using company-level data that both predate and coincide with these congressional discussions, the researchers examined cash-holding and tax-planning behavior of US multinationals, tracking the growth in cash holdings over the three-year period. They applied a model that used the characteristics of companies that chose to repatriate foreign cash during the 2004 tax holiday to determine the likelihood that companies would repatriate cash during the subsequent discussions.

The findings suggest companies strategically respond to anticipated tax breaks. The 594 companies most likely to repatriate cash accumulated between $376 billion and $488 billion in excess cash from 2008 to 2011, the researchers calculate. Because tax rates would presumably be low in a second tax holiday, companies most likely to benefit shifted more income offshore, to low-tax foreign areas, increasing the amount of cash available for tax-preferred repatriation. And stock prices around the first legislative event, the REAP Act of 2008, increased the most for companies most likely to benefit from the tax holiday.

Taken collectively, the results suggest that ballooning foreign cash balances are strongly related to an anticipated tax break, evidence that companies respond to future tax policy.