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Why more U.S. companies will flee to Canada

Rick Newman
Senior Columnist
Why more U.S. companies will flee to Canada

While members of Congress spent the last decade lobbing cow pies at each other, their counterparts in Canada were accomplishing what Washington should have been doing: streamlining the nation’s tax structure to attract more companies.

It worked. Burger King (BKW), based in Miami, hopes to acquire the Tim Horton’s (THI) chain, based in Oakville, Ontario, and relocate the headquarters of the combined company to Canada. The so-called tax inversion that would be part of this deal would give the new firm a sizable tax break, on account of the lower rates in Canada. With many nations lowering their corporate tax rates in recent years, the U.S. rate of 35% is now the highest among developed countries. The federal rate in Canada is a scant 15%.

Counting state and local taxes, U.S. companies can face a combined tax rate as high as 40%. Canada has provincial taxes, but the top combined rate only goes as high as 26.5%. The total corporate tax burden is even lower in counties such as the Netherlands (26%) the United Kingdom (21%) and Ireland (12.5%). The growing gap between U.S. and foreign rates explains why inversions have become a popular corporate strategy, with U.S. firms such as Medtronic (MDT), Chiquita Brands (CQB) and Mallinckrodt Pharmaceuticals (MNK) doing deals with foreign firms this year and relocating outside the country.

In 2013, Burger King’s effective tax rate — the taxes it paid as a percentage of income, after accounting for all deductions and other offsets — was 27.5%, according to its annual SEC filing. So even if it claimed no deductions in Canada, it would still pay a lower rate than it paid in the United States with a full slate of deductions.

A decade-long tax slashing

Canada cut its corporate tax rates over the course of a decade, with the combined average rate dropping from 42.6% in 2000 to today’s 26.5% rate. That occurred despite the same concerns many have in the United States about lost government revenue and a higher burden on individual taxpayers. One recent study found that the share of family income going toward taxes has been going up, although Canadians get universal healthcare coverage as part of the bargain, along with old-age pensions that in some ways are more generous than Social Security.

Canada has also been running an annual budget deficit since 2008, though the recession had a lot to do with it. Prime Minister Stephen Harper has since pared the deficit, which is now just 0.9% of Canada’s GPD. This year’s U.S. deficit of $500 billion or so will equal nearly 3% of GDP.

Canada, meanwhile, has been rising in the ranks of business-friendly countries, while America has been falling. Accounting firm KPMG says Canada has the second-lowest business costs of 10 major countries it analyzed, after Mexico. The United States has the second-highest costs, ahead of only Germany. (And even Germany has lowered corporate taxes during recent years.) The United States is still ahead of Canada in the World Economic Forum’s competitiveness rankings, but that’s largely because Canada falls short on corporate R&D and lacks a Silicon Valley-style hub of innovation.

There’s a straightforward way to keep U.S. firms from decamping and essentially putting an end to inversions: Congress could reduce the U.S. corporate tax rate, aligning it better with the rates in other countries, while closing loopholes that give some companies unusual tax advantages and create a pervasive sense of unfairness. Republicans and Democrats agree on the general need to do this.

A serious tax reform plan is nowhere near reality, however, because of the warmongering that dominates Washington. President Obama has endorsed a cut in the corporate tax rate to 28%, as long as it comes with higher taxes on wealthy individuals. Republicans won’t agree to that demand, and besides, they think the corporate rate should be far lower, perhaps even below 20%. Since compromise only occurs in other countries’ capitals, America keeps pushing itself further toward the back of the class.

Obama has touted “economic patriotism” as one reason U.S. companies should stay put and pay taxes to Uncle Sam, no matter how much money such patriotism would cost them. By the same logic, of course, legislators in Washington ought to show some patriotism by giving U.S. companies better reasons to stay instead of asking them to sacrifice profits as a show of fealty. Obama may be able to make inversions more difficult through executive action that doesn’t require Congress to act, yet most options are problematic and the need to bypass Congress only shows how feckless America has become at governing itself.

Canada, meanwhile, is an appealing alternative to the United States. It’s mostly an English-language country with better infrastructure and rule of law than Mexico, and fewer regulatory burdens than Europe. The United States fit that description not long ago. We didn’t know how good we had it.

Rick Newman’s latest book is Rebounders: How Winners Pivot From Setback To Success. Follow him on Twitter: @rickjnewman.

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