Could ExxonMobil Thrive without the Deferral of Foreign-Source Income Federal Tax Law Clause?

(Posted 7/25/2011) - First, read the article by Ken Cohan titled "ExxonMobil's earnings: The real story you won't hear in Washington." It appears in the company's official Perspectives website. Ken is ExxonMobil's vice president of public and government affairs. The link to the Exxonmobil Perspectives article is here .

Ken argues that the US division of world spanning ExxonMobil is just making a modicum of profit refining crude oil at prevailing world market prices (making about 7 cents profit per gallon at the pump). He implies ExxonMobil would be hard pressed to cope if the IRS removed a key deduction that virtually every multinational corporation based in the US currently relies upon to boost bottom line profits.

I've gleaned the pertinent facts from Ken's Perspectives article about corporate revenues and taxes here:

  • ExxonMobil's earnings are from operations in more than 100 countries around the world. During the first quarter, more than three-quarters of our operating earnings came from outside of the United States.

    The part of ExxonMobil's business that refines and sells gasoline, diesel and other products in the United States represents less than 6 percent - or 6 cents on the dollar - of our earnings.

    Why so little? Because we actually buy more crude oil to refine into gasoline and diesel in the U.S. than we produce ourselves. And these purchases are made on the open market at the prevailing rates.

  • During the first three months of this year, for every gallon of gasoline and other products we refined and sold in the United States, we earned about 7 cents. Compare that to the 40 to 60 cents per gallon that went from gasoline consumers to the government (state and federal) in gasoline taxes.
  • Over the last week as earnings season has approached, the Democratic Party leadership again talked about removing what they call $4 billion in oil industry subsidies. But what they really mean is that they want to increase our taxes by taking away long-standing deductions for our industry while leaving these same deductions in place for other sectors of the economy. The simple truth is that these are legitimate tax provisions to keep U.S. industry internationally competitive - to keep jobs from being exported to other countries.
  • Last year, our total taxes and duties to the U.S. government were $9.8 billion, which includes an income tax expense of $1.6 billion. Over the past five years, we incurred a total U.S. tax expense of almost $59 billion, which is $18 billion more than we earned in the United States during the same period.

    And during the first quarter of this year, we incurred tax expenses in the United States of more than $3.1 billion on U.S. earnings of $2.6 billion.

Consider Ken's premise that ExxonMobil is paying (more than) its fair-share of federal corporate income tax. That's the tax paid on corporate profits after all expenses and allowed deductions have been subtracted from all revenue sources in the period. ExxonMobile is a US based corporation with a presence in over 100 countries.

Ken said that in 2010 ExxonMobil paid $1.6 billion in federal corporate taxes -- he doesn't say what the 2010 adjusted gross income was however, so I looked it up -- it was almost $31 billion. So, the federal corporate taxes paid were 1.6/31 or 5% of corporate profit.

In 2009 ExxonMobil paid no federal taxes while reporting profits over $40 billion. That year ExxonMobil chose to associate most of its profits with over-seas operations and did not move the proceeds into the US; so they legally showed no US federal taxable income (in fact they were allowed a > $1 billion tax credit that was applied to 2010 earnings). You begin to see how this works; US based global corporations can pretty much control any given year's federal taxes by the way they do the accounting for their oversees subsidiary's.

But what about that $9.8 billion Ken said ExxonMobil paid in "taxes and duties" -- well those are some apples and some oranges. They include excise / sales taxes passed directly to customers while being collected at point of sale by ExxonMobil. We're supposed to be talking about corporate taxes, not sales taxes that get passed directly to the product consumer! So forget $9.8 billion, and just look at the corporate taxes (0 in 2009 and $1.6 billion in 2010 -- the two years discussed in Ken's Prospectives article).

Consider Ken's other tag line: 'Over the past five years, we incurred a total U.S. tax expense of almost $59 billion, which is $18 billion more than we earned in the United States.' It tries to convince the reader that ExxonMobil took a bath on corporate taxes, but more than 90% of that $59 billion was paid by consumers to county, state, and federal agencies. Those were not taxes paid by ExxonMobil from profits!

To be clear (ref link to Wiki Entry for Federal Corporate Tax Law) : Corporations, like other businesses, may be eligible for various tax credits which reduce Federal, state or local income tax. The largest of these by dollar volume is the Federal foreign tax credit. This credit is allowed to all taxpayers for income taxes paid to foreign countries. The credit is limited to that part of Federal income tax before other credits generated by foreign source taxable income. The credit is intended to mitigate taxation of the same income to the same taxpayer by two or more countries, and has been a feature of the U.S. system since 1918.

Additionally (ref link to, a fundamental principle of U.S. international tax law is that income earned abroad by U.S. corporations is not taxed in the U.S. unless or until the income is repatriated, such as by payment of dividends to a parent corporation. Thus, taxation of foreign income is deferred if the corporation eventually repatriates the profits. The IRS cannot reach the offshore profits, however, if they remain abroad. Because a subsidiary of a U.S. corporation can do business in any number of countries with lower corporate tax rates than ours, it is economically more advantageous to invest or use profits abroad rather than to repatriate them. Even if the offshore profits are not reinvested, U.S. corporations may have foreign subsidiaries stockpile then to avoid the 35% U.S. corporate tax.

This tax deferral clause is the the real meat of the issue: If a US corporation continually reinvests in foreign subsidiaries in countries with low or no corporate taxes, then it has effectively increased its bottom line by about 35% (the current federal corporate tax rate). This is precisely what is going on in major US corporations with foreign subsidiaries. It is only when accountants direct untaxed monies back into the US that the IRS gets a taste.

Bill Clinton (regardless of what you think of him personally he is an astute businessman and statesman) has said that what Congress needs to do is reduce the corporate federal tax rate significantly, and simultaneously limit the period of deferral of untaxed foreign profits to one year. These two changes would probably bring significantly more revenues back into the US by diminishing the incentive for large US multinational corporations to keep monies in foreign subsidiaries.

My belief is that if congress were to eliminates the deferral of foreign-source income clause the stocks of US multinationals would fall dramatically, and their profits would fall by about 30% (most currently pay around 5% of global profits in federal taxes) due to payment of more taxes. This is probably an overall bad thing for our economy. It makes sense to look at increasing revenues by setting the corporate rate at 10% and eliminating or reducing the conditions under which untaxed foreign profits of US companies go untaxed by the IRS.

If you think the US is overtaxing large corporations, maybe you should read this article from Forbes linked here which seems to indicate that large US multinationals have gamed the system very well and are paying less and less each year in federal taxes, even as their bottom lines increase.