Apple has set up three foreign subsidiaries that the company claims are not resident in any nation for taxing purposes, in an effort to avoid paying tens of billions of dollars in taxes to the U.S. and other countries, according to a new report from a U.S. Senate subcommittee.
Apple has set up a "complex web" of offshore entities to avoid paying taxes, with some subsidiaries set up in low-tax Ireland, according to a report released Monday by the investigations subcommittee of the Senate Homeland Security and Governmental Affairs Committee.
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One of the subsidiaries set up by Apple has paid no corporate income tax to any nation for the past five years, although it reported $30 billion in net income from 2009 to 2012, the report said. Another subsidiary has paid a tax rate to Ireland of one-tenth of 1 percent or less in 2009, 2010 and 2011, far below the normal Irish corporate income tax rate of 12 percent, according to the subcommittee report.
Apple has negotiated an income tax rate of less than 2 percent with the Irish government, but in some cases, avoids paying even that rate, staffers said.
Subcommittee staffers did not accuse Apple of illegal actions during a briefing Monday, but said they have never seen another corporate tax-avoidance setup like Apple's offshore efforts. Apple's use of "invisible" offshore companies was surprising to the subcommittee staff, they said.
Apple avoids paying taxes by shifting intellectual property largely developed in the U.S. to Irish subsidiaries, which pay far less than it's worth, said Senator Carl Levin, the subcommittee chairman and a Michigan Democrat.
"Apple wasn't satisfied with shifting its profits to a low-tax offshore tax haven," Levin said Monday. "Apple sought the Holy Grail of tax avoidance. It has created offshore entities holding tens of billions of dollars, while claiming to be tax resident nowhere."
Apple is one of the largest corporate tax avoiders in the U.S., added Senator John McCain, an Arizona Republican. He called Apple's offshore effects an "egregious and really outrageous scheme."
Apple, in subcommittee testimony posted online Monday, said it does not use "tax gimmicks" to avoid paying taxes.
"Apple does not move its intellectual property into offshore tax havens and use it to sell products back into the U.S. in order to avoid US tax; it does not use revolving loans from foreign subsidiaries to fund its domestic operations; it does not hold money on a Caribbean island; and it does not have a bank account in the Cayman Islands," the company said. "Apple has substantial foreign cash because it sells the majority of its products outside the U.S."
Apple also supports tens of thousands of U.S. jobs and pays "an extraordinary amount in U.S. taxes," the company said. Apple paid about $1 for every $40 of corporate taxes collected in the U.S. last year, the company said.
The Irish subsidiary Apple Operations International "does not reduce Apple's U.S. tax liability," Apple said. "The dividends distributed among Apple's international affiliates, including AOI, are not subject to U.S. corporate income tax."
The subcommittee said Apple may be inflating the amount of taxes it pays in the U.S. in recent years. For example, in fiscal year 2011, on its 10-K reports filed with the U.S. Securities and Exchange Commission, Apple said it paid $6.9 billion in taxes to the U.S. government, but on its tax return filed with the U.S. Internal Revenue Service, it reported taxes due of $2.5 billion, the report said.
Apple has argued that the three Irish subsidiaries aren't U.S. companies, because they aren't based in the U.S., but they also don't qualify as Irish companies, because management and control of the companies isn't in Ireland.
By running nearly all its non-U.S. sales through the Irish subsidiaries, Apple also avoids paying taxes on sales in other countries, including the U.K., Germany and France, the report said. "The ability to pay taxes of less than 2 percent on all of Apple's offshore income gives the company a powerful financial incentive to engage in convoluted tax planning to avoid paying U.S. taxes," the report said.
Apple CEO Tim Cook and two other executives are scheduled to testify before the subcommittee Tuesday morning.
In addition to the offshore companies, Apple has used loopholes to "circumvent" subpart F of the U.S. tax code, intended to prevent multinational companies from shifting profits outside the U.S., to avoid paying about US$10 billion in taxes each year for the past four, the subcommittee's report said.
Apple isn't alone in using offshore or other tax loopholes to avoid paying taxes, subcommittee staffers said. Many companies take advantage of tax loopholes. During a hearing last September, Levin accused Microsoft and Hewlett-Packard of using other "loopholes and gimmicks" to avoid taxes.
Apple's offshore efforts include subsidiary Apple Operations International, which has no employees and no physical presence, according to the subcommittee report. AOI is incorporated in Ireland but keeps its bank records and holds its board meetings in the U.S., the report said.
Between 2009 and 2012, the holding company, a parent of other offshore subsidiaries, reported net income of $30 billion but filed no income tax return, and paid no taxes, in any country, the report said.
Another Irish company is Apple Sales International, which had sales revenue of $74 billion between 2009 and 2012, the report said. ASI reported income of $22 billion in 2011 and paid taxes of $10 million, for a tax rate of 0.05 percent, the report said.
ASI buys Apple products from a Chinese manufacturer, resells them at a "substantial" markup to other Apple affiliates and retains the profits, the report said.
Apple Operations Europe is a third subsidiary that Apple says is not a resident of any country for tax purposes, staffers said.
Subcommittee staffers questioned Apple's use of the offshore subsidiaries, which are supposed to maintain arm's length relationships with the corporate parent in order to take advantage of so-called transfer pricing deals that allow companies to shift assets and costs to other countries. Most officers of the three offshore companies examined by the subcommittee are executives with Apple, the subcommittee said.
Nearly 64 percent of Apple's global sales are attributed to its Irish subsidiaries, even though 95 percent of the company's research and development activities happen in the U.S., staffers said.
Apple holds $145 billion in cash and other securities, with $102 billion located outside the U.S. It has no plans to return that money to the U.S. until Congress creates a more favorable tax environment, the report noted.
Subcommittee staffers said the Apple case study points to the need for tax reform, but the difficulty in closing loopholes for corporations. If Congress closes one loophole, large companies will find another, they said.
Tech-focused think tank the Information Technology and Innovation Foundation (ITIF) called on Congress to fix the U.S. tax code instead of blaming companies for using legal loopholes. Congress should focus more on making the U.S. attractive for global investment, the group said.
"Unfortunately, instead of focusing on the reforms the U.S. needs to keep pace, some policymakers focus on blaming corporations for choosing to move jobs offshore or legally deferring foreign profits to reduce their tax burden," the ITIF said in a statement. "Blame is not a strategy. Shame is not a policy. Instead of berating U.S. companies for being unpatriotic, Congress would be better advised to put in place the comprehensive changes needed to make the U.S. economy more competitive."
Congress should move to lower the corporate tax rate, expand a research-and-development tax credit and put more money into R&D, the group said.
The Information Technology Industry Council (ITI), a tech trade group, also defended Apple, saying Levin's efforts to target the company are a "political sideshow."
The subcommittee hearing is "really a venture designed to embarrass Apple, a company that has a strong record of U.S. job creation and employs Americans and pays about $1 million an hour in state and federal income taxes," ITI President and CEO Dean Garfield wrote in a blog post. "With innovation as its North Star, Apple has been a major job-creating force in the U.S."
Grant Gross covers technology and telecom policy in the U.S. government for The IDG News Service. Follow Grant on Twitter at GrantGross. Grant's email address is email@example.com.