which is in the President's economic plan. But the new IRS tions will raise well under a billion dollars, and the litigation well get even worse. Corporations will now have to justify all internal pricing decisions up front. This will be a potlatche onomic consultants. But it will be a huge burden for honest ss taxpayers, and it won't bring us much closer to a solution. have to find a better way, and that is the purpose of this g. The Federal Government simply cannot afford all this buacy and litigation, and neither can the corporate taxpayers. damental questions of tax justice are at stake as well. The duals and small businesses of this country have demonstrated are willing to do their share. They have responded to PresiClinton's proposal with a public spirit that has defied many of andits. Now we have to ask multinational corporations that well in our market to pay their fair share of taxes, too. merica raises corporate tax rates, without a radical reform of ultinational enforcement, then America's smaller businesses ome-grown producers will end up paying the bill, while the national giants continue to contribute little or nothing.

is not mere polemics. The tax avoidance by multinational and especially foreign-based firms, is epidemic. As the GAO estify today, some 72 percent of foreign based corporations o business here pay no Federal income taxes. These are not oscure import-export firms, either. We are talking about some largest corporations in the world, including foreign auto and onics makers that are household names, they do business in Duntry, earn money in our country, but pay no Federal e taxes in our country.

er Representative Jake Pickle, the House Ways and Means mmittee on Oversight identified one foreign auto maker, for ole, that sold $3.4 billion worth of cars here in 2 years and o Federal income taxes-not a penny. Now, how do we justit to individual taxpayers and Main Street businesses that are g into their bank accounts in order to satisfy their April 15th tion?

answer is we cannot justify it, because it simply is not fair. RS is actually helping these foreign firms to compete against irms, by giving them tax breaks through a hapless enforcesystem. Is it any wonder that Treasury has consistently I down the lost revenue and has tried to keep the whole issue wraps?

problem has festered at the IRS for decades, and only the ion in world trade has forced it into the open. How do you guish between a corporation's U.S. income from the income

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To see why we are here this morning, a good place to st Court down the street. There, in room G-24, you can see th tion's current multinational tax enforcement system.

One recent case is a good example. It occupies 19 file boxe nomic arcana that took ten years and a small fortune to pro case called this sophistry mainly "useless." He needed four the mess; his decision came to 240 pages.

What was the point of this monumental paper chase? To ar prices for some spare airplane parts, that a U.S. corporation haven of Singapore, and shipped back its U.S. operations. T two tax years, 1978-79, moreover. The government and the ta this insane exercise for the disputed years since then.

Welcome to the world of multinational tax enforcement, wł has turned into a massive public works program for Beltway ants and economic consultants, and a major drain on the p least $10 billion a year disappears into the dark recesses of t not even counting the costs of bureaucracy and litigation.

The Treasury has taken a modest first step towards a solut economic plan. But the new IRS regulations will raise well u and the litigation may well get worse. Corporations will now h internal pricing decisions up front. This will be a potlache for But it will be a huge burden for honest taxpayers, and it won' to a solution.

We have to find a better way. The Federal Government ca reaucracy and litigation, and corporate taxpayers can't either. Fundamental questions of justice are at stake. The individua es of this country have shown that they are willing to do t responded to President Clinton's call with a public spirit that and flumoxed those who think the sole purpose of governme Now we have to ask the multinational corporations that do to pay their share too.

If America raises corporate tax rates, without a radical refo al enforcement, then America's smaller businesses and home end up paying the bill, while the multinational giants contin or nothing.

This is not mere polemics. Tax avoidance by multinational foreign based firms-is epidemic. As the General Accounting morning, some 72 percent of the foreign-based corporations pay no Federal income taxes. These aren't just obscure impor We are talking about some of the largest corporations in th foreign auto and electronics makers that are household names

Under Rep. Jake Pickle, the House Ways and Means Ov identified one foreign automaker-fairly typical, it turned out worth of cars here over two years, and paid no Federal inco

illion other things.

atting "prices" on these transfers, the company can easily shift its income off . books and into the black holes in its international balance sheets. And what happens.

way the IRS tries to uncover these shell games is straight out of the Keystone It is the most lawyer-intensive system one can imagine. The agency disauditors to comb through a corporation's millions of internal transactionsone and try to adjust the prices to a hypothetical market level. Usually market price does not exist, because the transactions are unique to the parcorporation. So the auditor has to make one up.

is the bureaucratic equivalent of trying to empty the ocean with a teaspoon. S is overwhelmed, and big corporations know it. The result is a legalistic re in which the corporation usually ends up on top. The GAO will testify hat in a recent year, only 5% of our auditor's assessments on foreign-based ere ultimately sustained. Meanwhile, medieval disputes over "correct" prices ging the tax court at an increasing rate.

ces Zuniga, a former IRS examiner, says in written testimony that "no one lly determine an arms length price." Even the Wall Street Journal suggested nisstating the underlying issue) that the Treasury's enforcement approach is sible."

makes this situation truly strange, is that a remedy is at hand. Long ago, tes had to come to grips with corporations operating freely across their borhey knew they couldn't possibly disentangle the spaghetti pile of a larger corn's internal accounting. So they devised a simple formula to do the job inThis formula approach works. The U.S. Supreme Court has upheld it contins reasonable and fair. Today, we can apply that basic approach to corporaperating across national borders as well, as some states do already. formula approach would ease compliance burdens on honest taxpayers. It lush out the billions of dollars that currently disappear into the enforcement Better still, the formula approach would render the medieval accounting irrelevant; corporations could focus on business instead of fancy tax strate d the government could save money.

onder the cries of protest on K Street. Transfer pricing schemes have become · industry in this town. This one tax avoidance niche is now so lucrative, that reau of National Affairs publishes a special "Transfer Pricing" newsletter Des for $895/yr. Lawrence Summers, the administration's nominee to be ry undersecretary for international affairs, recently called the current a "full employment act for tax attorneys.”

is a growth industry that America can do without. The IRS can change with y new laws, moreover. It has all the authority it needs under laws already or ks.

es say that the formula method would result in "double taxation," by grab come that ought to be reported elsewhere. But there's a long way to go before even to single taxation. Besides, regulations could easily guard against any taxation that might occur.

es also say that our tax treaties prohibit the use of the formula method. Bu orning we will hear a contrary view. The purpose of those tax treaties, afte promote tax enforcement, not frustrate it.

e's a game going on here. Lobbyists for multinational firms have helped kee S mired in a rut. Then they go abroad and say, "See, the U.S. is using th ength' method, so you should use it too." Then they come back to the U.S v, in effect, "Now you can't change because your trading partners are usin tiquated system too."

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Question. Why Has Multinational Tax Enforcement Becon Answer. Put very simply, it's because international comm IRS enforcement system. The problem is deciding what goe mining how much of a company's income should be reported to other countries. The Federal Government is going into 19th Century accounting principles, and the system is breaki Question. What Makes The Task So Difficult?

Answer. The way a multinational corporation can shift about anyplace it wants, through complex accounting games. What we know as "Sony," say, is on paper a multitude of ties located in countries throughout the world. These share ment, transfer parts and technology from one to another, a parts of a global business unit.

But the IRS treats these subsidiaries as entirely separate ables the company's accountants the "tax planners"-to s U.S. by tinkering with the "prices" they put on the transf tion's worldwide web. Often, this income gets reported nowh auditors call "Nowhere income.'

Question. So What?

Answer. First off, the tax avoidance gives foreign-based f tionals generally, a big advantage over our own producers keep their jobs here in the U.S.

Second, this tax avoidance costs American taxpayers ove lost revenue. According to the General Accounting Office, eign-based corporations doing business here pay no Federal means they get our defense umbrella and other important s Finally, the IRS's antique enforcement approach has give that grows bigger by the year, with no end in sight. It has with expensive and pointless litigation, and imposed unneces taxpayers.

Question. So Are You Proposing A New Tax?

Answer. No and not a higher tax rate either.

Rather, we're proposing a simpler and more modern way ready on the books a way that will reduce tax avoidance, c payers, and also litigation. Foreign based corporations and concerns should pay the same taxes that our U.S. busine there's a way to make that happen.

Question. What Exactly Does the IRS Do Now?

Answer. As mentioned, the IRS starts with a fiction: Tha global corporation have no special relationship to one anot arms length." Accordingly, the agency dispatches its audito the millions of transactions within these worldwide corpora tors try to adjust the prices to what they would be if the par at arms length-which they are not and have no business rea Question. That Sounds Like A Lot of Work?

Answer. It's an enormous amount of work. Audits take tho ly, there are no comparable market transactions to use as a to resort to arcane economic theories to come up with p vague standard produces the worst kind of game-playing and IRS alike), and produces as well the medieval legal sq over 10 years and a small fortune-to resolve. "The fact is, has said, "no one can really determine an arms length price.

In the end, the IRS and taxpayers alike must expend v maintain an economic fiction. "The only winners under T

nnastics and tax lawyering that thrive under the current system. Question. Where Does That Idea Come From?

Answer. The States. For decades, the States have had to deal with the problem Federal Government is facing now: How to apportion the income of corporations it operate freely across jurisdictional borders. Unlike the Federal Government States have to balance their budgets; they needed a system that was efficien d lean. So they adopted the formula approach.

This method was first applied to railroads and other utilities operating acros ate lines. Step by step, the States applied it to other corporations as well. Som ve used it in the multinational arena. The Supreme Court has upheld the ap ach continually as reasonable and fair.

Question. How Does The Formula Method Work?

Answer. It is based on the premise that the parts of an integrated multinationa poration work together towards a single bottom line. Therefore, the compan ould report its income in proportion to the business in does in a particular Stat nation-no more and no less. The most common formula is based on three fac s: Property, payroll and sales. If a company does, say, one-thirtieth of its busines a particular country as measured by these factors, it would report one-thirtieth o income there too.

Naturally, this basic formula can be adjusted to the peculiarities of internationa

nmerce.

Question. Is This A Tax Increase?

Answer. No. Some corporations actually would pay less under the formula ap pach. But tax avoidance would go down and revenues would increase, because th tem has fewer complexities and hiding places. The tax law would have somethin doesn't have now: A relatively clear and predictable standard for multinationa cerns. That's why a growing number of tax authorities are advocating this step arles E. McClure, Jr., a tax official in the Reagan administration, wrote that th easury approach "cannot satisfactorily divide the income of a unitary business. Question. But Wouldn't This Formula Method Distort A Company Income? Answer. No. Distortion happens now, under the current IRS method, which is wh ere's so much litigation and lost revenue. Corporate taxpayers are thronging 1 e tax court in increasing numbers to appeal the agency's assessments. At la unt there was some $32 billion at issue in pending tax court cases alone, not eve unting the cases in the agency's appeals pipeline. "The arms-length standard possibity vague," says David Rosenbloom, a tax attorney with Caplin and Dry le and a former Treasury official.

Under the formula method there would be less distortion than exists now. Opp nts often cite the problem of start-up costs. Generally, it takes a few years for w factory to start to turn a profit. Yet under the formula method, they claim, tl etory weighs into the formula right away, thus making more income taxable e U.S.

In the first place, such quirks often balance out over time. But if necessary, t mula can easily be adjusted to give less weight to new investment in the ear

ars.

Question. What About The "Double Taxation" Argument?

Answer. Opp9onants also claim that the formula method would make multinatio more vulnerable to taxes on the same income in more than one country. In oth ords, they say, the U.S. would be more likely to tax income that is already tax meplace else.

That's not true. It sounds plausible in theory; but in practice it happens rarely er. No one takes all of a multinational's tax returns and lays them down side le. But if they did, they'd find billions of dollars that fall through the cracks e world's tax systems.