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M. F. de Wilde, Some Thoughts on a Fair Allocation of Corporate Tax in a Globalizing Economy, 38 Intertax 281 (2010) (abstract at Scholars Portal).

Tax scholarship produced abroad frequently offers a unique perspective on the same knotty domestic and foreign tax issues with which we wrestle here in the United States.  A case in point is the recent article from Maarten de Wilde of Utrecht University, the Netherlands, which combines original thinking with elements of Dutch tax law in proposing a solution to perhaps the most perplexing problem in taxation today; namely, how to allocate the right to tax income between and among competing, sovereign jurisdictions, each of which asserts legitimate residence–or source–based claims to tax the global income of multinational enterprises (MNEs).

The current formula for global tax allocation attempts to assign a source to business income that reflects the physical location in which the income was produced. As de Wilde observes, however, the formula was developed in the 1920s, when there were far fewer MNEs, Europe was decades away from being economically integrated, and technological advances had not produced “e-commerce” and the bewildering array of intangible assets and financial products that are an integral part of the global economy and that have become increasingly difficult to source.  Complicating the essential sourcing problem are state tax systems that are not only internally inconsistent in their treatment of income from domestic and foreign transactions, but also differ among one another in their choice of rates, taxable units, tax bases, treatment of deductions, definitions of particular entities, and a host of other matters.  As a result, much business income is either subjected to double taxation, or to the extent MNEs are able to successfully arbitrage the differences among tax systems, no income taxation at all.

De Wilde argues that fixing this broken international tax system requires adherence to both “internal equity” and “internal neutrality.”  The first is satisfied when no more than one tax is imposed on income by a single state (the single tax principle) in exchange for that state’s provision of public goods.  The tax burden imposed by a state should attach at the point that the corporate taxpayer’s economic presence in the state exceeds a specified minimum threshold.

Internal neutrality requires that the tax burden that a state imposes on business income not vary based on whether the corporate taxpayer earns all of its income within the source country or not.  De Wilde argues that neither of the two most familiar concepts of economic neutrality, capital export neutrality (CEN) and capital import neutrality (CIN), achieves this result.  On the one hand, CEN, which is generally associated with worldwide taxation and a residence-state credit for source-country taxes paid, discriminates against MNEs (as opposed to domestic corporations) to the extent that the resident country does not fully credit source-country taxes (this violates the “benefit principle” of international tax law, which links tax liability with public goods received).  On the other hand, CIN, which is usually associated with territorial tax systems, discriminates by taxing source-country income without reference to losses incurred in non-source country jurisdictions (this violates the “ability to pay” principle, which links tax liability to actual overall income).

De Wilde proposes to combine the irreconcilable and unsatisfactory neutrality concepts of CEN and CIN into something he calls “capital neutrality.”  Capital neutrality requires a jurisdiction to impose worldwide taxation on the income of its residents (CEN).  But, in order to avoid discrimination, it also requires worldwide taxation of non-residents that meet a minimum threshold of economic presence such as having a permanent establishment (or, in the case of the U.S. where no tax treaty applies, a U.S. trade or business).  To satisfy the single tax principle de Wilde’s capital neutrality must be coupled with some form of double tax relief.  Again, however, he finds the methods associated with CEN (the foreign tax credit) and CIN (exemption of foreign income) unsatisfactory.  Here, de Wilde draws upon Dutch tax law for a solution—specifically, the form of double tax relief known as the “tax exemption method,” which he sees as a combination of the CEN and CIN concepts, and which he describes in some detail in the paper.  The paper contains a number of examples that illustrate the application of de Wilde’s proposal, but rather than give away the entire article here, I’ll let readers evaluate the rest of de Wilde’s thoughts on this issue for themselves.

To the extent that it relies on elements of the current global tax allocation formula, de Wilde’s proposal will be saddled with familiar difficulties. For example, states would still have to grapple with source issues, and those issues likely will become thornier as technology continues to affect the global business structures and transactions of MNEs.  Nonetheless, de Wilde has produced a very well written paper that presents fresh, provocative thinking about a problem to which few workable solutions have so far been proposed.

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Cite as: Craig M. Boise, Slicing the Global Tax Pie, JOTWELL (June 28, 2010) (reviewing M. F. de Wilde, Some Thoughts on a Fair Allocation of Corporate Tax in a Globalizing Economy, 38 Intertax 281 (2010) (abstract at Scholars Portal)),