The U.S. tax system has not been updated since 1988. Since then, the world has changed significantly as the global economy has developed, new trade agreements have entered into force, and technological advancements have changed the way business is done. The world is undeniably a different place but American is stuck in the past.
One consequence of inaction is the retention of the worldwide system of taxation even as the rest of the world has moved toward territorial taxation.
Today, the U.S. is just one of six developed countries that use the worldwide system. Among these it also has the highest business income tax rates. This complex and outdated system, in combination with high rates, is the main reason American businesses are inverting or being acquired by foreign competitors.
In practice, the worldwide system means that income earned by American businesses overseas faces taxation when it is brought back to the parent company. Although there is a tax credit that allows businesses to deduct taxes already paid in the foreign nation, the fact that the U.S. has the highest rate in the developed world inevitably subjects businesses to double taxation.
In contrast, 28 of the 34 countries in the Organisation for Economic Co-Operation and Development (OECD) have some form of a territorial system of taxation. These nations tax income earned in their country but welcome the return of money earned abroad tax-free. This makes sense because this income is already taxed in the country where it was earned.
Back in 2000, just 14 of the 34 OECD member countries utilized a territorial system. Since then, countries like New Zealand have changed their codes to territorial systems to ensure their businesses are not at a competitive disadvantage compared with business based outside the country.
America should follow suit and update its code. Compared to most of the world, businesses in the U.S. have both a higher tax burden, and also a more complex system that treats different income in different ways.
Fixing this relic of a tax code should be a priority for lawmakers. American businesses simply can’t compete with a system still in the 1980s.