The US Treasury Department has followed through on threats to close a loophole that allows American companies to buy overseas businesses in order to sidestep corporation taxes.
The announcement weighed heavy on the shares of pharma companies in the midst of so-called tax inversion deals, including Shire which is in the process of being acquired by AbbVie in a $54bn deal, Mylan’s plan to buy Abbott’s EU generics assets and Medtronic’s $43bn bid for Covidien.
The measures announced by the US Treasury will make it harder for companies that set up their domicile overseas to avoid the US’s high rate of corporation tax to access earnings from overseas businesses, making the deals less profitable.
Specifically, the new rules will make it impossible for companies to make intra-company loans to the new overseas parent – known as ‘hopscotch loans’ – which bypass the US taxation system.
It also prevents inverted companies from restructuring a foreign subsidiary in order to access its earnings tax-free and transferring cash to the foreign unit to completely avoid US tax, according to a Treasury document.
Aside from limiting the tax advantages of inversions, the new measures will also make them harder to carry out by requiring that the former owners of the US company own less than 80% of the new combined entity.
Meanwhile, the Treasury suggests it will not stop there and will “continue to examine ways to reduce the tax benefits of inversions, including through additional regulatory guidance as well as by reviewing our tax treaties.”
The Shire and Covidien deals could still go through, but the financial parameters of the transactions have been fundamentally altered and could lead to an attempt to re-negotiate terms, according to analysts. For instance, they suggest it will no longer be possible for AbbVie to meets its objective of cutting the corporate tax rate from 22% to 13% by 2016.
Inversion was also a driver for Pfizer’s £69bn attempt on AstraZeneca (AZ), which was abandoned in May after the deadline for a formal offer expired under UK takeover rules. Pfizer could still come back to the table – albeit with a key pillar of its proposals undermined – although latest unconfirmed reports suggest it may now have eyes for Actavis rather than AZ.
President Obama welcomed the new measures but said he still hoped for Congressional action that would “lower our corporate tax rate, close wasteful loopholes, and simplify the tax code for everyone.”