Alberto Mingardi  

Apple's principled defense

The Math Myth... What would a principled defens...

Private businesses very seldom mount a principled defence of their behaviour. This is why libertarians like to stress that they are pro-market and not pro-business. Business people, being self-interested like anybody else, will attempt to make the most of the circumstances and the majority of them won't hesitate in accepting legal privilege; indeed many lobby aggressively for it.

The EU Competition Commissioner has decreed that Ireland's government recoup roughly €13 billion ($14.5 billion) of unpaid taxes accumulated over more than a decade by Apple, which is the highest sum ever demanded under the EU's rules against state aid. We're skating on thin ice here. The EU Commission considers the agreement between the Irish government and Apple a "selective tax treatment" and, therefore, comparable to government aid. For much needed clarifications on the issue, see my colleague Massimiliano Trovato's paper, published in English by Epicentre, a network of European think tanks.

A point is worth stressing: a multinational company knows well that any state where it operates can challenge the way it is filing for taxes. But this is not the case in Apple's instance. Here the European Union is challenging both Apple and the Irish government. The tax collector and the tax payer agree that the latter has paid the right amount; employees of a supranational institution think differently. It's like your lawyer coming to your house and telling you and your wife that you must divorce because yours is not a happy marriage, when both of you are quite content staying together.

Apple's Tim Cook has provided a principled defence of Apple's behaviour: that rare thing in the world of business. For Cook, the European Commission "has launched an effort to rewrite Apple's history in Europe, ignore Ireland's tax laws and upend the international tax system in the process." He denies that "Ireland gave Apple a special deal on our taxes" and calls out the Commission for "effectively proposing to replace Irish tax laws with a view of what the Commission thinks the law should have been. This would strike a devastating blow to the sovereignty of EU member states over their own tax matters, and to the principle of certainty of law in Europe."

Read the whole thing. Cook's letter is very powerful because he states forcefully what is perhaps, to our eyes, quite obvious: that is, he reminds the reader of the benefits that Ireland derived from Apple locating its operations there, settling in Cork, where unemployment was high and investment was low, and moving from 60 to 6,000 employees over time.

Furthermore, Cook stresses that "the success which has propelled Apple's growth in Cork comes from innovative products that delight our customers." This is actually what is so often missing in the European debate. At best, private business is sometimes considered helpful to the society as a tax cow that deserves to be milked. Books like Mariana Mazzucato's The Entrepreneurial State go precisely in that direction: Mazzucato's key policy prescription is that so-called "innovative" companies need to be taxed more, since all of their innovation must be traced back to the state one way or another. (For an extensive critique of Mazzucato, see here.)

But taxes are not the greatest benefit private business produces for the all of us. Our lives are not "better" because Apple pays a bunch of taxes that helped the Irish government in funding this or that program. Our lives are made better by Apple's innovations, which made many things easier for many of us and opened gates of wonders for millions.

I think Cook is right in stressing how the EU ruling threatens Ireland's sovereign power over its own taxation (the Irish government, that should cash in, is paradoxically quite unhappy too) but this is not just a dispute between a wanna-be super-state like the EU and member states struggling for their sovereignty. Brussels's interests in this case are strongly aligned with those of its high-taxation member states, which perceive that their ability to tax is limited by the existence of lower tax jurisdictions in the same common market such as Ireland. Tax competition is not necessarily threatening for European institutions: but it certainly is for states that are doomed by deep and apparently irreversible fiscal crises.

The issue is framed in the context of state aid. State aid is a dangerous practise for taxpayers, as it diverts their resources to special interest groups, but - this is the EU rationale - is dangerous for competition too, as it privileges one competitor artificially over others. I wonder here who is supposed to be the harmed party. Did Apple tax dealing harm consumers? It's hard to argue that if Apple paid more taxes it would have charged lower prices or innovated more.

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CATEGORIES: Competition

COMMENTS (13 to date)
Janm writes:

This is why brexit is a Good Thing™.

Who's harmed: EU bureaucrats with unconstrained power.

Robert Simmons writes:

So (independent of this case) are you in favor of special tax deals? I for one am not. Flat, simple tax systems that treat all equally seems far better to me.
Moreover, relevant to this case, I believe Ireland agreed to not give any such deals when it (voluntarily) entered the EU. I don't know enough about whether Apple received special treatment, but you seem to think it irrelevant.

It's a much more complex matter. Ireland is in a federation and it's common for federations to adopt rules that disincentive beggar-thy-neighbor actions. Tax policies in Ireland are quite obviously opportunistic and abusive under a federative perspective. The US have many such rules, and they don't follow always or necessarily from illiberal principles.

Peter Gerdes writes:

A couple comments.

First, while I have qualms about any corporate income tax Ireland isn't merely engaging in tax competition with it's higher taxing neighbors. Rather, the Irish tax law has special provisions which favor creative (but either legal or impossible to prove) tax ascription practices of moving their IP to Ireland and then claiming a huge fraction of their revenue derives from that IP (i.e. they pay licensing to a branch of themselves)

Something is obviously broken as short of a massive EMH violation people knew the expected value of that IP was extremely large. I don't feel the corporations deserve any condemnation. The idea that cleverly using court approved interpretation of the tax laws is wrong but taking advantage of the morally indefensible home mortgage deduction is ok is absurd.

This is not a situation where a country uses it's low tax rate to compete for tax base. Rather, Irish laws enable companies to smuggle work-product out of high tax countries in ways that were obviously never intended by the drafters. A good analogy would be if I opened an all you can eat restaurant in the park relying on the rule that 'plates and trays can't be taken out of the park' to make sure people didn't use a single lunch purchase to feed themselves for a whole week. That's not a perfect enforcement system but I would be justifiably angry if someone else started a 'tray/plate locker business' in the park to enable people to comply with my rule while doing an endrun around it's intent.

Having said this the retroactive nature of the attempted change is bothersome.

Effem writes:

Apple would have come up with a "principled defense" for any finding against them. It's what businesses do.

You say: "It's hard to argue that if Apple paid more taxes it would have charged lower prices or innovated more." Leads me to the conclusion that corporate taxes should be zero.

zeke5123 writes:

Let me stand in defense for tax competition. Tax competition (a) permits Tiebout Sorting for corporations and (b) incentivizes government taxation to be as low as possible for a certain level of services.

Now, the key thing here is that the rules require substance. That is to say, form based taxation upsets the above competition. With that said, provided rules are substance based, we should encourage tax competition.

Mercer writes:

Ireland lost sovereignty when it joined the EU. If
Apple wants to sell in the EU and have the EU honor it's patents it will have to pay taxes the EU considers just and not use the Irish government escape EU member states taxation.

Cook states in his letter:

" principle is recognized around the world: A company’s profits should be taxed in the country where the value is created."

Many don't recognize this but instead recognize a territory based system of taxation. I have a lot more sympathy with Boris Johnson's complaint about the US taxing him on a UK house sale than I do with Apple.

Alex writes:

see page 2 about taxation

I'm not sure I agree that Ireland signed up for this. At least, they did not knowingly sign up to be part of this type of federation.

They rejected an incomprehensible Lisbon treaty, partly out of fear that they would be forced to align their tax policy (among other issues the clearly ignorant and paranoid Irish voters thought were important) with the high tax member states.

Then the EU laughed and said they were being silly, and we'd never do that and also please try this referendum again or else.

Ben writes:

This is not a matter of tax competition. I really don't understand the last bit of this article:
"I wonder here who is supposed to be the harmed party. Did Apple tax dealing harm consumers? It's hard to argue that if Apple paid more taxes it would have charged lower prices or innovated more."

You seem to point out the obvious problem and then completely ignore it at the same time.

Consumers are hit by lower competition because of Apple's advantage as it pays zero tax while every other Irish company pays 12.5% (or more in other European countries).

Apple used a shell company to funnel profits and avoid taxes altogether paying an effective tax rate in Europe under 1%.

That gives them an unfair advantage and is one of the reasons most markets these days are becoming oligopolies (that is, there's only a few companies in any market big enough to afford to set up tax avoidance schemes, adhere to regulations etc) that hits competition, productivity, inequality etc.

Apple should pay its taxes. That should be obvious to anyone but an Apple executive.

poorlando writes:

I will always be for lower taxes for anyone who can get it, even if the tax burden is not evenly or "fairly" distributed. The most unfair, distorting, destructive, anticompetitive force in existence is government, and every cent confiscated by the Leviathan keeps it alive that much longer. The solution in this situation is not to raise Apple's taxes but to lower everyone else's.

Capt. J Parker writes:

Mercer points out that Cook states "(A) principle is recognized around the world: A company’s profits should be taxed in the country where the value is created." If Peter Gerdes is correct in saying Apple's tax advantage comes from claiming that revenue derived from Apple's intellectual property that was created elsewhere but now "resides" in Ireland should taxed at the lower Irish rate then there is nothing principled about Cook's defense at all. Cook's argument rests on a definition of "where the value is created" that only a lawyer or a Clinton apologist would swallow. Cook's claim is: large amounts of Apple's profits are derived from IP and that value was "created" in Ireland now because I say so.

zeke5123 writes:

@ Capt. J Parker

While Ireland itself doesn't have transfer pricing, the rest of the world by and large do possess transfer pricing. Accordingly, the royalty income earned on Apple's IP has to be based on an arm's length standard. With that said, the arm's length standard considers many things, including substance. Having an Irish structure without substance would be a transfer pricing boondoggle.

Also, given the nature of computer IP constant development is required. Ireland would need to be more than just a bit player in order to avoid the IP being treated as-if owned by another Apple entity.

Finally, as an aside, if this ruling stands up, then Ireland will have around 15 billion of foreign tax credits sitting in Ireland. Depending on their FTC limitation, they will be able to repat significant cash to the US tax-free.

Capt. J Parker writes:

@ zeke5123,
Thanks for the reply. I'm not sure I fully grasp your argument (my fault) but I'll hazard a response anyway. First though, here is how I understand the Apple Irish tax controversy which differs some from when I initially posted: 1) Apple set up two entities in Ireland and the sales and profits for nearly all of Apple's business in the EU, Mid East and India were posted to those two entities. 2) One of the entities claimed about e50 million in annual profit and paid taxes to Ireland at the normal Irish rate on those profits 3) The second entity claimed e16 billion in annual profit and paid no tax to Ireland under the theory that that lions share of profits were derived from Apple's IP and hence, according to Cook with Ireland's blessing, represents value not created in Ireland.

Now, let's assume that the e50 million vs e16 billion split meets the arms-length standard. Then we are still left with the question of where exactly was the e16 Billion in value created? Was it in the US as some press articles seem to suggest? If so then does Cook intend to pay US taxes on that amount according to the principle that a company’s profits should be taxed in the country where the value is created? I'm quite positive Cook has no such intention since the US rate is more than double than what he would have to pay in Ireland. Cook clearly intends to tell Ireland the profits are US profits and then keep the profits offshore and away from the IRS - legal perhaps but, principled? Not by a long shot.

One last point: I think there is a good argument to be made that even if all the Apple inventing was done in the US say, the revenue stream derived from that inventing depends in large measure on the IP laws and enforcement practices in the specific countries in which the inventions are sold. So, Cook might like to argue that e16 billion in value was "created" in locality x not subject to EU taxation but, the EU can counter (correctly in my view) that that value was really created in the EU where the products were sold and received monopoly pricing advantages because of EU IP law and enforcement practices.

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