Loss making companies have acquired a new value in M & A activity, especially if they have accumulated losses which can be carried forward against future profits. In some countries carry-forward losses are as high as 25% of GDP.
Shifting profits to tax havens has been used by corporates (and individuals) increasingly since the 1970’s, but shifting losses to high-taxed countries can be just as effective. A new report has just been issued by the OECD, Corporate Loss Utilisation through Aggressive Tax Planning, ISBN Number: 9789264119215, Publication Date: 12/08/2011, Pages: 92
An OECD press release states:
30/08/2011 – Due to the recent financial and economic crisis, global corporate losses have increased significantly. Numbers at stake are vast, with loss carry-forwards as high as 25% of GDP in some countries. Though most of these claims are justified, some corporations find loop-holes and use ‘aggressive tax planning’ to avoid taxes in ways that are not within the spirit of the law.
This aggressive tax planning is a source of increasing concern for many countries and they have developed various strategies to deal with it. Working cooperatively, countries can deter, detect and respond to aggressive tax planning while at the same time ensuring certainty and predictability for compliant taxpayers.
.. countries have identified financial instruments that create artificial losses or obtain multiple deductions for the same loss. They have also seen loss-making companies acquired solely to be merged with profit-making companies and loss-making financial assets artificially allocated to high-tax jurisdictions through non arm’s length transactions.
The OECD report, which singled out one industry — financial services — said banks headquartered in high-tax countries were buying and selling derivatives among operating subsidiaries in low-tax jurisdictions and then shifting losses to higher-tax jurisdictions to “manage large loss-making financial assets” held on their balance sheets.
Martin Sullivan, an economist at Tax Analysts, a trade publication, said he thought the majority of the loss-shifting described in the report “pertains to banks, since they are the ones that had huge losses in 2008 and now are making profits.”
The tax-boosting principle at work centers on loss carry-forwards, a legal accounting technique that allows corporations to apply their current year’s net operating losses to profits in future years. While the move is designed in part to help companies avert bankruptcy, it also allows them to reduce their tax bills. ..
The OECD report identified what it called three high-risk schemes designed to maximize the tax value of carry-forward losses. They are:
- Corporate reorganizations, in particular those in which profitable companies buy money-losing companies solely for the tax benefits of their losses, which is illegal in the United States.
- Certain financial instruments, including currency swaps and schemes that “refresh” soon-to-expire losses.
- Non-arm’s-length transfer pricing, or the prices companies charge between subsidiaries for goods and services. This is not legal in the United States and is a subject of growing scrutiny by the Internal Revenue Service.