ensure that in the immediate term that we provide additional documents related to a specific search for former secretary clinton as the top priority and that a second priority that the four ds agents that we worked to help secure interviews. >> and how did that come about? in other words, how did it come about that there was a list of priorities? how did that happen? and why did it happen? >> it was initiated through the continual contact and communications between staff and committee and our officials, our personnel at state including with the letters on december 4th and at the end of november -- november 18th as well that laid out those questions. and then through engagement with staff, it got refined. >> see this is the thing. that's why we need to have an idea of where we're going. because -- and i assume that the chairman's goal is to address certain issues in a certain order, and he needs certain information. i agree with that that he needs

certain information. >> yes. >> but when it comes to priorities, he sets those priorities, not you. >> we're responsive to the committee's priorities. >> and tell me, when -- tell me the priority list right now. what is that list? number one. >> it is, number one is the production of documents that were requested regarding former officials, and the top of the list was for former secretary clinton. number two are the interviews of the four diplomatic security agents we referenced. that's not to say that the other requests are forgotten. that's not it at all. what it is is to say those are the issues -- those are the items that we have worked most diligently on and we will be. we have good story that we are producing within several days we will begin producing to the committee those -- beginning of those documents that were requested.

it's only been six weeks, roughly, since the initial request. and then a few -- about a month of the finalization of that. and in between that, we've prepared for hearings that didn't come about. we had the holiday break. and then this hearing as well, the request was last wednesday evening. and we're here this morning on tuesday. >> i just emphasize as i close that we have got to -- we've got to move to higher ground. that's what these families deserve. that's what the american people deserve. and i think that's what we all want. with that, i'll yield back. >> the gentleman from ohio. >> democrats asked for no hearings in august and october, and now they complain the democrats picked the topic for the first hearing, the arb recommendations. now they complain. democrats asked and got a second hearing on the arb recommendations. now they complain.

in that second hearing, mr. smith, has given the kurty i have not seen in my eight years after summery to call in and ask questions. now they complain. i mean so suggest that the chairman has been unfair is ridiculous on the face. now, the one thing they have said that makes some sense is the pace is way too slow, and that's why we've got you guys here today. we have got to pick up the pace for the families that mr. cummings just referenced. so mr. ruben, i'm going to start with an issue i dealt with in my work on standing committee here in the house and has carried over to this committee, and that's the arb process. are you familiar with that mr. ruben? >> i'm not the expert on the whole arb process. >> specifically, do you know something about the benghazi arb process at all? >> i do in general terms. >> we've had two hearings on it. the first two hearings that the democrats requested. it's a pretty important issue. >> and secretary stark came and testified. >> he sure did. many claim the arb process and the arb report was independent. mr. cummings said this. he said -- called it the

independent accountability review board. the report was independent. jerry connelly, another member of congress, said it was the independent accountability review board process. greg starr who you just referenced, a colleague of yours who's testified twice on this committee. the first two hearings said this. thank you for inviting me today. this is at the last hearing. to provide insight on the department's progress to implement the recommendations made by the independent benghazi arb. i mean, they use the term independent almost as if it's part of the title. part of the official title. now, i think there are problems with that claim. secretary clinton picked four of the five members of the board of this so-called independent board. secretary clinton was never interviewed by this so-called independent board. sheryl mills her chief of staff, wasn't interviewed by this so-called independent board. sheryl mills, her chief of staff, was given a draft report before it went public to make edits of this so-called independent board. admiral mullen a co-chair of

the board after interviewing charlene lamb, employee at the state department, then called up sheryl mills and said hey, ms. lamb's going to testify in front of a congressional committee. she's not going to do a good job. i'm giving you a heads up. when the co-chair gives up a heads up about a potential witness coming in front of congress, that doesn't really scream independence. but mr. ruben, let's assume they're all all right. let's assume they got it right that this is independent. in spite of those facts in spite of the fact the secretary picked four of the five people who were supposed to investigate her, i don't know where anywhere else in life with a potential subject gets to pick their investigators. despite the fact she wasn't interviewed, sheryl mills wasn't interviewed, despite all those facts, let's just assume that mr. cummings, mr. connelly mr. starr correct when they say independent, how do we test that claim if you guys won't give us the documents? how do we test the claim of independence if you guys won't let us see the record?

mr. ruben you've had a subpoena congress issued in august of 2013 saying we want every single document, or as the chairman's made clear all documents relating to the arb investigation, we want to know, when are you going to comply? >> sir, as -- >> when are you going to put those top people that mr. roscum when are you going to put those top people on a subpoena that's been issued a year and a half ago to get us the documents so we can test the claim that this arb was actually independent? >> sir, as i just mentioned with mr. cummings the top two priorities that were communicated to us for the immediate term were these interviews and these other documents. >> here's what we've got to get past. wait, wait wait. this is what we've got to get past, this priority line you keep using. the subpoena was august 2013.

this wasn't -- we're not talking a couple months ago. we're talking a year and a half ago. so you got top people working on it. so here's the point. you can't have it both ways. you can't claim oh, this was the independent be all, end all definitive statement that the arb made on benghazi. and then not let us see the record. all we're saying is okay, we'll accept this fact. we don't think it is independent. we'll accept it. show us the record. >> so we had two hearings with secretary starr about the arb implementation. the arbs themselves are crucial to providing security for our people. that's why they're there. and the documents request that you're referencing, there are documents as well in the 40000 pages of documents that are related to the arb. >> that's where i wanted to go. you're right where i wanted to go, mr. ruben. you've given us 40,000 documents. are contained in that 40,000 documents are -- within that

40,000 documents is every document that the arb received from the state department so the state department gave the arb a bunch of documents, are everything the arb had contained in that 40,000? >> i have not read all 40,000 pieces. >> no, i don't expect you've read them. >> i don't want to misstate that. >> have we received everything the arb received? >> again, sir -- >> simple question. >> -- i did not draft the arb and i have not read all 40000 pages. i'm here to convey to the house, to the committee what it is that we're working on. so the -- it's not something i would be able to testify on here. >> this is the key question. the documents the arb got from the state department, are they in the 40,000 that we now have? every single thing that the arb got from the state department, are they in the 40,000 documents we now have? yes or no? >> the document that you requested -- >> you can say i don't know. >> the document request was related more broadly to an overall search for documents

from the state department. now, as far as the arb investigation, it's important to also recognize that arbs, over time need to stand independence as you've cited, and that is for the security of our personnel. >> mr. ruben there's two components to the subpoena. there's what i was just talking about. does this committee now have everything that the state department gave to the accountability review board? that's question one. question two is the notes, the records, the files, the interview, notes everything that the arb compiled in their investigation, we want toes, too. does this committee have those notes, records and files that the five-member arb panel had, do we have that information? >> again, i cannot tell you specifically every single document has been in there. again, if the committee tells us that that is in their priority, the number one thing, i'm happy to convey that back and have us move on that. >> mr. ruben, are you familiar

with the statute the statute pertaining to arb says this. records pertaining to administrative proceedings under the arb process shall be separated -- shall not may -- shall be separated from all other records of the department of state and shall be maintained. so here's the point. you should have a file already with everything nicely and feetly organized of all the documents that the state department gave the arb and all the notes, files and records that the arb compiled in their investigation when they did the interviews, how many people they interviewed, did they do it alone or in groups. you should have all that in the file. that should be the simplest thing in the world to hand over to us, and you haven't done it. and yet -- and yet everyone claims the arb was independent. how can we test the claim when you won't give us what the statute requires? separated, segregated file on what the arb did and you guys keep it. >> part of the core integrity of

the arb -- >> do you have that file separated and segregated like the statute requires? >> sir the core integrity of the arb is reliant upon discretion and the ability -- >> mr. ruben, these questions are so simple. is there a segregated file like the arb statute requires do you have that separated segregated ready to hand over to us -- a long time ago, frankly -- but do you have it separated and segregated? >> i'd have to go and ask our experts about that. the liaison -- >> this is amazing. you were invited to come here today to tell us about the documents. the statute says you're supposed to have them separated and segregated to maintaining those and you don't know if you have them and can't give them to us? >> no, i'm saying i'm going to get our experts -- >> you said i don't know. i got that answer. >> -- to convey that. i want to get you the proper information. >> one last thing, mr. chairman. in the article you wrote, one month after four americans were tragically killed, one of them a friend of yours and a great ambassador, in the article you wrote that mr. roscum cited

earlier, you talked about not rushing to judgment, and you specifically said we should wait to get all the facts out. direct quote from your guest blogger column. and here's the irony. wait to get all the facts. you said wait to get all the facts, and now you're the guy who can give us the facts. you're the guy who should have the arb files separate segregated, ready to hand over, and you guys won't do it. after you'd said that a month after this tragedy and now this should be ready to give over to us, and the state department's saying keep prioritizing. we've got top people on it. keep getting in line. we're working with you. we promise we'll work with you. we're going to get to it someday, sometime, somehow. it's not going to fly. >> sir we've been proactive with the committee. we have provided briefings that the committee didn't request, and we're always open to as i said earlier to have these communications. >> the subpoena was a year and a half ago. i don't know how you can say you've been proactive and helpful when you won't even

comply with the statute and give us -- give us what the law requires you to give us and have it segregated and separated for us. and oh by the way, claim independence in the process. mr. chairman, i yield back. >> the gentleman from ohio mr. ruben, and mr. higgins i think both of you have something in common with every member of the committee, which is a deep and abiding respect for the four people who gave their lives for this country. so i think that you share our desire to do what the house instructed us to do. and you'll note the department of justice is not at the table. you made reference, mr. ruben to the department of justice. ms. sanchez made reference to the department of justice. and i asked her to yield time so i could clarify that. and she's well within her rights not to do so. the department of justice did write us a letter. and we met with them. and we addressed the concerns that they had about protecting the integrity of their prosecution. which i can assure you, given my

former line of work i want them to be wildly successful with their prosecution. so i would never do anything to jeopardize that. we met. we discussed it. we worked out the issues. they're not at the table. that's why they're not at the table. i don't enjoy these hearings. i'd rather have a hearing about substance, not about process. i don't want another hearing like this. but when my colleagues are complaining about the pace, and i've got colleagues on this side which i never thought i would ever hear in my life that i am too polite, i never thought i would hear that. i hope my three sisters are watching. we're going to have to ratchet it up. and if the letters don't work then we're going to have to resort to a more formal legal process. because i want this concluded. and i will note -- i don't think any of my colleagues on the other side of the aisle have had

an opportunity to highlight this point yet, but i'm sure that they would agree with me there's not been a single leak of anything that either of you have provided us. there's not been a single selective release of information. not one. so the people on this committee take their responsibility seriously, this is not a political exercise for us. most of the people who ask me about benghazi i could not tell you their political ideation, if they have one. they just want to know what happened. and i intend to tell them, and i intend to tell them sooner rather than later. so the letters haven't worked, and the southern politeness has not worked. we're going to ratchet it up. because i need access to the documents and the witnesses, and we need to be able to conclude our work. with that -- >> will the gentleman yield? >> certainly. >> just for one question. you know as i listened a few moments ago to the last

questioner, you know, i just want to make sure that the -- in consistent with what you've just said, us getting the job done, that apparently they have priorities that are being set. and i want to make sure that they have the proper instructions. i mean, on the one hand, we have some members saying you know, give them everything and don't worry about priorities. but on the other hand, they say that you've set certain priorities. i just -- i mean, i want to make sure that they are clear as to the marching orders, that's all. >> well, that's a great question, mr. cummings. in a perfect world when people ask you for priorities, that's exactly what they want. they want to know what your priorities are because they intend on complying with all of your requests. they just want to know what are we going to do tomorrow, the next day and the next day. after a year and a half of waiting on compliance with a subpoena, the argument that we need priorities just rings a little bit hollow. and if i were to tell you, if i

were to tell you i want you to prioritize mr. cummings' e-mails, then someone is going to spin that into the we don't care about the other people's e-mails. we're just obsessed with the gentleman from maryland. we don't care about any other witness. so i'm not going to fall for that. i'm not going to fall for the trick of telling you what's really important. it's all important. that's why the word "all" is in the resolution. so i can't tell you -- i can tell you this. if you start producing documents on a regular basis, consistent with our request, nobody is going to complain to you that you're not giving them to us in the order in which we want them. >> the gentleman yield? >> yes. >> the reason why i asked that question is because it's my understanding that your staff had told them that it was okay to not make the top priority the arb information. and you can correct me if i'm wrong, and then concentrate on the other things.

is that right? >> that's my understanding. >> and so all i'm saying is you know, i just want -- i understand what you're saying. and it makes a lot of sense. i just want to make sure that we're clear. and that way you talk about not wanting to have more hearings. i understand that, too. but then i don't want folks to be in a position where they come back and say well he said one thing, and we tried to do what you said, to ask us to do, and then there's no -- i don't want any wiggle room, i guess. >> i appreciate the gentleman from maryland's point. i guess my point would be that this committee did not even become constituted until last may. so what was the priority between the time oversight sent you the subpoena on the arb and this committee even coming into assistance? because god knows it couldn't have been anything we asked for. so you kind of get my point. i mean, you can't wait a year and a half and say well, we didn't give it to you because we didn't realize it was a priority. >> we were producing significant

numbers of documents throughout that period. we've been producing documents practically every month since october of 2012. >> i understand that, but it's been how many years now? >> unfortunately two, 2 1/4. >> i've asked if there are some people in the administration that benghazi happened a long time ago. i'm telling you that family members waiting, it might as well have been yesterday. so they want the truth. and nobody gets better with time. memories don't improve. documents get misplaced. recollections fade. that's why we have a speedy trial clock. it's ironic the department of justice has to try khattala within a certain period of time tore that very reason. so to ask me to prioritize when all of it is important i'm not going to fall for that trap. with that having said that, i will repeat it again i have no interest in having another hearing like this, zero. none. and i don't think for a second that you're the decision-maker.

at the state department. no offense to you. i don't think you decide which documents to produce and which ones don't. so what i would like you to do is go back to your department and say i don't want to go back there. so let's find a way to be in compliance with the request sooner rather than later so the committee can do its job and we can all produce a product that we take pride in that answers the questions and we can go back to whatever we were doing before the speaker asked us to do this okay? fair enough? >> thank you. we're happy to. >> all right, thank you. with that, we're adjourned.

>> as this hearing comes to a close, if you missed any of it you can watch it again on our website, go to c-span.org. you can also find house debate and news conferences from last year on the formation of the benghazi committee. that's at c-span.org. president obama's nominee to be the next attorney general heads to capitol hill tomorrow for her confirmation hearing. loretta lynch is currently the u.s. attorney for the eastern district of new york. she'll testify before the senate judiciary committee. we'll have live coverage beginning at 10:00 a.m. eastern tomorrow here on c-span3.

and this from the hill a former cbs investigative reporter who filed a $35 million lawsuit against the obama administration for hacking will be among the witnesses at the hearing on president obama's attorney general nominee. sheryl atkinson accused the obamaed asmrgs of ed aed a ed aed ed aed a ed aed aadministration of breaking into her computer and phone. she told her story in the book "stone walled ." also testifying on thursday will be catherine engel brekt, the founder of the tea party aligned true the vote which she said was unfairly targeted by the iris when it attempted to seek tax exempt status. our live coverage of that hearing starts tomorrow at 10:00 a.m. eastern here on c-span3. coming up next, a conference on corporate tax inversions. a practice of changing the tax home of a multinational corporation by merging with the foreign company.

a variety of business tax experts from the united states and the united kingdom testify about their experiences and some policy responses to prevent them. >> thank you, eric. my mission is to give a little background on the history of inversion transactions in the united states and really i would say give you a sense of whether the sky is falling or whether this has just been a phenomenon that is very much of interest but is -- is maybe not cataclysmic in the history of u.s. transactional tax policy. as john talked about inversions or transactions where a larger u.s. company ends up either on

its own, which we call a self-inversion, or in combination with a non-u.s. company, which we would call a -- a migration combination, or a combination inversion, however you want to describe it, ends up with a foreign parent company after the transaction. john gave some of the reasons for why these transactions occur and i'm not sure i need to elaborate much on that. i put them into four categories. one is with respect to future growth for inquisitive companies, think valiant, one is putting leverage in u.s. operations, think 163-j and its limitations or generosity, restructuring of legacy foreign operations of the u.s. group much easier in combination transactions than in

self-inversions, obviously. and the final is access to historic offshore cash. transactions that are called inversions go back to the '80s with mcdermott transaction that achieved some infamy back then. it is funny, these slides have boxes for every kind of step in the evolutionary process. i was talking to michael gratz before we started and he said that he was totally confused by the boxes. and i was musing on the difference between tax practitioners who can't really read a slide presentation without the boxes and the academic community. it is like tax practitioners need boxes economists need formulas, and we all have our predilections. these are the boxes on the mcdermott transaction. i don't have time to dwell on it. suffice it to say it was a transaction that essentially flipped the cfcs on top of the

u.s. company, so not only did you succeed in having a foreign parent, you succeeded at least to some extent in dcf seeing your foreign affiliates. and that was something that both congress and the service had real objections to the law changed in important ways to make that transaction one a difficult one to do for the last 20 plus years. moving to the 90s to the helen of troy transaction one thing you'll see is if you look state wide there are disproportionate number of texas companies engage engaged in inversions. i'm not sure what to make of it, but it is definitely a trend. a economist could do a regression analysis and see and prove that, i think. helen of troy did a

self-inversion back in the early '90s and that was the poster child for the change in the 367 a regulations that was adopted in notice form in 1994 and later reduced to regulations. there is a lot of details around it but the basic take away from a policy point of view is if u.s. shareholders of u.s. public company end up owning more than 50% of the stock by voter value of the foreign company after the inversion transaction, then it is taxable to the u.s. shareholders and it is an interesting application of 367-a because i think as one of the drafters of 367-a in the '70s, we were focused not on transactions where a foreign

parent is put on top of a u.s. parent, we were focused on transfers of assets and shares of u.s. companies down to u.s. subsidiaries but nobody has challenged the validity of that regulation and it is a theme that reappears more than once here about the government using -- the treasury using its authority in an expansive way in this area. one thing going back to the transaction to note is all that happened was a foreign parent was put on top of a u.s. parent in an exchange transaction, approved by the shareholders. in the public context. the foreign subs are still under the u.s. company. so there is no change in the cfc status. and the inability to access offshore cash or any of the other features that john was talking about by doing this transaction, in and of itself. it is important to keep that in

mind, a self-inversion transaction has some limits on the tax advantages that result from it. after the 367-a regs were adopted, as we got to the later '90s and once the stock market went down, so that the shareholder gain was less of an issue, you saw a number of transactions. you look at the list of companies here and besides the predominance of texas, you can see industry bias here that i think is instructive. one is insurance/reinsurance companies. and, you know, the insurance world is one where sub part f reached into the active business of insurance companies particularly insurance companies with respect to u.s. risks. whether it is life insurance or

property and casualty insurance sub part f is applied broadly to a foreign subsidiary of a u.s. multinational insurance company. and like has happened in other industries where sub part f interfears in your real business in a major way, it tends to increase the incentives for you to not operate in subsidiary form. i think the other thing about the insurance industry is that your assets tend not to be worth more than book value and so selling them from a cfc to a non-cfc is not a painful transaction because there is unlikely to be gain. so not surprising that the insurance industry restructured itself to some extent back in these days through self-inversion s self-inversions. the second is the oil drilling and services bit, whethers it triton transoccasion, global santa fe, noble, weatherford, all in that business.

and similarly sub part f applies broadly in some services businesses and the oil services business is one of the main ones where sub part f can apply to tax your business operations. if you're operating in the north sea as a u.s. company with cfcs. so that was a particular incentive in my mind for those companies to engage in these transactions. and most of them happened after the late '90s when oil prices went down and therefore the value of drilling rigs went down, the value of oil services companies went down and so the gains triggered by moving assets out from under the u.s. after a self-inversion seemed to be more manageable for many companies. so, this set of transactions

gave rise to congressional interests that really came about in 2002. and senator bachus and senator grassley made a proposal that ultimately became section 7874 and it was enacted in 2004, ended up having an effective date of the spring of 2003. and it is why you saw a lot of transactions happen in 2002 but a definite decline in transactions after that as everybody saw that the legislation was coming. i think most of us understand the basics of section 7874 really has three requirements. one is that a foreign company acquires substantially all the assets or stock of a domestic corporation or domestic partnership. second, that the former shareholders of the u.s. company own more than 80%.

another set of rules for owning more than 60% of the foreign company after the transaction. and third, that the group after the transaction does not have a substantial business activities in the country where the foreign parent is incorporate edd, an important exception we'll talk about shortly. the provision was enacted in 2004 seemed to be an anti-abuse provision that had limited application because nobody would do these deals now with self-inversions unless you had substantial business activities, at least that's what people thought. by today, i will tell you that for international practitioners who deal with cross border m&a, we probably spend half of our time dealing with this section because there is an amazing number of circumstances where it can apply. we're talking to the service now

about a situation where a foreign insurance company wants to acquire a u.s. insurance company. foreign insurance company is probably four times as big as the u.s. insurance company but we think we fail under 7874 given the way the provisions work and that's something the service is aware of and i think is sympathetic to but shows you the breadth of what happened under the provision over the last 11 years. so, the application of the rule to the typical self-inversion is pretty obvious. it means the foreign parent will not be taxed as a foreign parent, will be taxed as a u.s. company. it is an extraordinary reach of tax policy. i don't know of any other country that has a rule that comes close to it. i think many would say and mike williams will talk about this in the uk context that it was an alternative to say, a managed and controlled test for that company, which we don't have and

which our treasury department has historically not been in favor of establishing as a base for taxing foreign companies as if they were u.s. companies. and so it made it easier in the u.s. for you to do an inversion that may be in some other countries where not only would you have to put a non-u.s. company on top, but you would have to meet the requirements for that company to be managed elsewhere. and so it is probably one reason why we ended up with a provision like section 7874. after the 2004 act there was a bit of a pause. and these lists, by the way, are not comprehensive, i should have said that with the list. the earlier ones, they're ones that either i remember or some of my partners have remembered. and are not by any means comprehensive, but certainly

illustrative and hopefully didn't miss very many. there were a few combination migration transactions, the most visible ones were the valiant transaction of 2010 and the eaten cooper transaction of 2012 and there were some self-inversions that met the substantial businesses activities test, tim hortons is one i think many people know about. tim hortons had most of its business in canada, but had a u.s. parent on it and it migrated. you had a couple of oil services company, ensco and rowan that moved to the uk because of their north sea operations. once the uk rules became more user friendly for parent companies. the interesting thing for my perspective is what didn't happen back then and i like to talk about that by illustrating a transaction i was involved in that was in 2006.

u.s. company that had been maybe one of the top ten repad companies under hia, the repad that was put into the 2004 act. it was doing a deal with the foreign company that was about 30% of its market cap, so it could have done a combination inversion in that deal and in fact we sat down with the cfo and the ceo of the company to suggest that because they had thought about it as just a straight acquisition transaction. we went back and forth on it, but they decided to do it as an acquisition transaction and the main reason they did it was did that was that it was a better pipeline for repatriating future cash. because if you paid 30% of your market cap for a foreign company, you could have 30% of your market cap as leverage in your cfc structure. if you bought that foreign company, excuse me, through a

cfc, which they did. and so it gave them what we would call a repat valve, equal to 30% of the market cap, u.s. parent borrows money, foreign sub buys stock of u.s. parent for a note, foreign parent lends cash down so if you're a $10 billion company, you've got $3 billion of debt in your cfc structure and you can repatriate $3 billion. future. so that company decided that for repat perspective, it was better to do it as a u.s. company. one feature of that transaction, excuse me was that the foreign company did not have significant u.s. operations. and so it had not had significant leverage in the u.s. if you're buying a foreign multinational that has substantial u.s. operations, they're going to have substantial leverage in the u.s. malpractice not to. and you can't continue that when

the u.s. company buys the foreign company. and so there is a negative synergy that happens by reason of that situation. anyway, going -- continuing on, let me get some water satisfying the -- was the main element of self-inversions, the only element of self-inversions after the 2004 act. and the treasury reacted to that with regulations, particularly most importantly the 2012 regulations that established the 25% test for the various types of activities. that happened a few months after the aon self-inversion transaction to the uk. aon is an insurance broker out

of chicago. and major u.s. multinational that had substantial business activities in the uk, obviously uk being a global insurance hub. and under the 2009 and 2006 regs met the test. i seriously doubt it would have met it under the 2012 regs, but they got the transaction closed before the regs were published. under those regs, there has been one transaction that met the test that's liberty global, virgin media. that was a combination transaction but both u.s. companies, so like two self-inversions in one. both of them are cable companies. virgin media almost entirely a uk cable company. and so they could meet on a combined basis. they could meet the substantial activities test. and do their inversion. according to the public disclosure, burger king the burger king tim hortons

transaction that most of you probably heard about will also meet the 25% test. but obviously because it is a real combination transaction, of a foreign company and u.s. company, it didn't necessarily have to meet that test in order to qualify. but the 2012 regs have largely shut down self-inversions meeting that test. in particular, the requirement you get 25% of your gross income from transactions with third parties in your country of incorporation, that's a very, very difficult test. i mean, how many multinationals do you know that get 25% of their gross income from third party transactions in any country in the world maybe even including the united states? it is a very difficult test to meet. very aggressive use of regulatory authority to try to limit taxpayer flexibility under

the statute. once m&a started picking up there wasn't much m&a as firms like mine saw painfully in the 2009, '10, '11 and '12. it started picking up late in '12 and became much more robust in '13 and '14 and in the surprising that a certain percentage of those transactions were inversion transactions. for reasons that john talked about, and for reasons like not if the foreign company has substantial u.s. operations not wanting to reverse the tax planning that they had with respect to their u.s. operations in terms of leverage for example. the -- you'll notice if you're trying to look at it, at the various transactions and discern patterns, there is a clear pattern towards the health care industry.

obviously health care is one where ip is the most important asset. ip is pretty mobile. and so there is a lot of flexibility in that industry to take advantage of a foreign parent organization. a lot of the companies are smaller. and so in my view, from -- based on the transactions we were involved in on the stat it was definitely more about future planning than about existing planning. the model of actavius and valiant was not lost on other companies and ceos and boards who want to see their companies thrive. and that drove a fair number of these transactions. i think the other thing to comment on that is kind of interesting is the number of spin-offs that have occurred from various companies. tyco is now what, kathy five

different companies? isn't it maybe six with malloncrot. they originally split into three and then the original tyco and kavidian have also split. and they're all, of course, foreign parent companies, so you see these companies begetting more foreign companies. over time, ngingersol has spun off their business as well. the deals that weren't done you know, you can infer as much as i can from the reasons why they weren't done. some of these clearly were affected by the treasury regulatory activities in september of 2014. some of them clearly weren't. the chiquita deal was a situation where fise was outbid. the oxilian deal was a situation

where somebody else came in and bid more. these are real transtackacts with real economic impacts. a lot can happen once you put the transaction into the public domain. this is a slide that just shows how the transactions work obviously. the foreign parent tends to both acquire the foreign target and the u.s. target you tend to have a transaction with a new foreign parent that is then owned by the shareholders of both companies. with the foreign company shareholders owning more than 20% of the stock. so let's just spend a moment on the treasury guidance. i think others will talk about more that came out in september as a response to the set of

transactions that we just saw. there is really three important things that the treasury guidance did to stay away from the technical side and just deal with it from a high level. one is modifying the 7874 rules to make it harder in some cases to count the stock that is issued to the foreign company shareholders. that's done two ways. one if the foreign companies had a lot of cash, you reduce the number of shares that is treated as going to its shareholders. the second is to treat shares that have been bought back or distributions that have been made by the u.s. company over the prior three years as amounts that have to be added back to the shares that the u.s. company takes. the latter one is a very broad provision, very complicated provision, the notice only states it in a couple of sentences. there are real issues as to whether people have reasonable notice about how the provision

works from the notice. because you can have situations for example, where say, the u.s. company has a spin-off two years ago and then is acquired for cash. and if you add back the shares that were effectively redeemed in the spin-off, it doesn't have any shares, any shareholders outstanding in the transaction, but you still have to count the shares arguably from the spin-off. and so you can have an inversion if the spin-off is big enough, even though there is no shareholder continuity at all. that's a situation treasury is aware of and is thinking about whether something shouldn't be done about that, but shows you the reach of how this provision has come to sprawl over all of cross border m&a. the second is to treat any use of existing foreign cash and earnings for the benefit of the foreign parent through loans are or other types of transactions as a 956 event.

an extraordinary reach of authority. there is nothing in 956 that says buying shares of a foreign company or lending money to a foreign person has anything to do with 956, but they decided that if it is a foreign parent, then it should have something to do with 956 and pick item. the final thing is some limitations on your ability to restructure your legacy, cfc operations in combination with a foreign company, and to try to dcfc, if you will some of your cfcs. all these things limit the -- assuming they're valid, limit the benefits of inversions to very large companies. they really don't limit the benefit inversions if you go back to the slides to some of the smaller companies here. and so my sense is that by the end of the winter once we get into the spring you'll start to see more deals being -- hitting

the radar screen, but they won't be -- they'll be more of the kind of endo health solutions type transaction of smaller companies that want to become like valiant and actavius. that's it. [ applause ] >> good morning, everyone. i think in an effort today we will find that the uk experience and the u.s. experience is really rather different.

i suspect we will also conclude that in the sense the uk experience is more similar to that of the rest of the world and that the u.s. experience is therefore sort of doubly different if you like. i think in very broad summary before i get on to the slides, you can leave the uk and we have less defenses against companies leaving the uk, but equally we focus rather more on whether you left or not because perhaps consequence of people being more free to leave is a need to actually see whether they have or not. if i then go on to the structure of the presentation, again i think it is significant that i will need to focus on residents, not so much on the incorporation. the uk tax system is founded on the proposition that on the

individual side you have residents, not citizens. and equally you can argue both in the u.s. and in the uk on the corporate tax side, the next extrapolation of the next -- if you're taxing individuals who are resident in the uk and want to tax corporations it is not then surprising that you decide you want to tax corporations and residents in the uk, residents of a corporation is more equivalent to individual residents in the same way incorporation of a company is more similar to citizenship for an individual. so i'll talk about company residents. i'll then go on to cfc rules and then on to migrations from and then into the uk. we would tend to call them migrations rather than inversions. i think that goes back to the point i made at the start we're

talking about businesses being able to leave, corporations being able to leave but equally have they left or not? the uk test for residents was as paul said traditionally based solely on the place of central management and control. and i think this is probably a crucial and initial divergence blind as to where the company was incorporated. it didn't at all matter where the company was incorporated, you could perfectly well have a u.s. incorporated company that was centrally managed and controlled in the uk. and absent of tax -- that company would be uk resident. it was expanded to cover incorporation in the uk from 1988. maybe i should pause at that point and note there isn't such a thing as incorporation in the uk anyway, just i understand

there isn't incorpse inoration in the u.s. we have three company registers for england, wales, scotland and northern ireland, but it covers the three different sorts and indeed the corporate law is not substantially different across the three. then inevitably, tax treaties are needed to cope with conflicts, interactions between the way our rules fall, taxing companies and whether residents interact with other countries. and generally now tax treaties and this will be our strong preference, a tie is broken by looking at the place of effective management and i'll come on to what we mean by effective management. i think again that's not just the case with the uk. what i think would be pretty similar if you looked at france or germany, and equally they are probably closer to effective management as their domestic test where you have a company

that is not incorporating france or germany that is based there. worth noting along the way, through the -- ireland would have inherited our traditional way of deciding whether a company is resident because it was invented at the time when ireland was part of the uk. ireland stuck with the traditional approach, that is to become realigned with the uk from this january by actually including in its residents test incorporation in ireland. they have also gone for five year ground father ingandfathering, but they have waited a significant longer time to extend the test for residents to include incorporation. let me go on to central management and control. it is a case law test that emerged, you know, from the need to know whether people were resident or not, even in the 19th century, people needed to know that.

and not surprisingly therefore it was tested in case law. the leading decision is a case called de beers. it dates probably not surprisingly again from the 19th century. the key point is the focus on central management and control, subsequent case laws means the highest level of control of the business, not some lower level. highest level will generally be exercised by the company's board of directors. and with the caveat that's provided, the directors generally control the company. it is difficult to envision a circumstance where you get control below the level of the direct. that would be quite uncommon. on the other hand you can more readily envisage control by shadow director, say a very dominant shareholder that was in

truth exercising control through stooge directors who in reality lacked substance. you can see in that circumstance if you have a shot, a direct of that sort, what will be important is whether the shadow director was based rather than where the stooge directors happen to have their board meetings. the weakness in it is that it obviously worked better in the time when it was much harder to travel about. it worked better in a time where things like teleconferencing in reality were not possible. if you look back to the 19th century, basically if you wanted to have a board meeting in a particular place if you weren't there, you had to get on a ship to get there. it was a clearer and easier test. you can see why over time it became rather less satisfactory as a sole test. i don't think it will be realistic to contemplate having that as a sole test now.

if we then go on to effective management, this is the tie breaker in most of the uk's tax treaties. if you think of a pretty straightforward example, you have a corporation that is incorporated in france, say but has its central management in control in the uk and presumably envizth a case where you have the directors and the main shareholders being french, they happen to want to work in the uk but they're more familiar with french company law, they would rather be governed by that. you need then some way of breaking the tide between the uk that we'll be wanting to tax based on central management to control in the uk and france that will be wanting to tax based on the incorporation of the company in france. and then there is quite clear and explicit test in the uk france tax treaty which makes

clear that where a personal individual is resident in both states, then it is deemed to be resident in the state in which its place will be effective management situated. inevitably there are similar rules for individuals, but different rules, but again, the uk and france taxing individuals on the basis of residence, there is a situation where say someone has a house in both countries. then the interpretation of that is left to the ocd model tax convention primarily. i think a key point is that you have one place of effective management management, even though you can have any number of places where there is some management. it is where key management and commercial decisions that are necessary for the conduct of the entities business as a whole are in substance made.

the substance protects against subterfuge or shams, but in substance, if those decisions are made in place x, then place x is where the company is effectively managed. i think in some very brief shorthand, you can reasonably translate that as the company's headquarters where most, if not all of the senior executives are based. inevitably the executives will travel around but most corporations, even now, have what you might call a headquarters. i think you can see that in the uk context with two of the uk banks, lloyds banking group and rbs mountain west. both are headed by scottish companies, both hold most of their bord meetings in scotland. and i think reasonably suppose that had scotland separated from

the uk following their referendum in september in that circumstance it is reasonably clear that the central management and control would be in scotland. equally it is clear that the head offices of rbs mountain west and lloyds banking group are based in london. that's where their senior executives habitually work from and where most of the meetings take place. you can see how you can get a distinction between central management and control and effective management in circumstances where there is no contrivance, no sham, where all the directors and all the people involved generally have the capacity to do the work that they're -- that they're deported to do and indeed do it. what i think is quite important, worth noting, this is -- you can't, if you've got a test of this sort, keep your headquarters in sharon or in paris or in frankfurt, and then

be effectively uk resident simply by having board meetings in the uk. that's generally not going to work. if your senior executives in reality want to keep working in sharon, because that's where they want to live where their families want them to stay and their headquarters stays in sharon, then it is going to be unlikely under the uk residents testers modified by treaties that you're going to get to be uk resident on that basis. generally in those circumstances the other country would assert residence and under the tiebreaker they would get residence. i think that is a key difference. and i think hopefully less strikes the point i may get is have you left it may be difficult if you wanted to keep your headquarters in in london or edinboro to assert because you put on top of your foreign incorporated company and have board meetings outside the uk

that that was enough. in many circumstances it wouldn't be. in terms of whether we have similar rules, as paul described to prevent migrations and inversions, i haven't got a slide on that because broadly we don't. we don't have such rules. in many circumstances, eu law would prevent us having such laws. we can't prevent a genuine transfer of the headquarters of a uk incorporated group to -- and another member state of the eu. that will contravene the freedoms of the eu single market equally and, of course, all these things tend to be resip rickal of resiprocal. if we go back to my example of a

company headquartered in sharon if it stays headquartered there it will be resident in italy. on the other hand, eu law prevents any step being taken to stop headquarters being moved to the uk and if it is moved to the uk it will be resident in the uk. same will be reversed. in a sense, we lack any of the sort of protection from the u.s. and conversion rules but equally the other member states lack those protections as well. if we then come on to our cfc rules, we revamp our cfc rules broadly the same time as we move to a much more territorial system of tax. that slide gives a very broad summary of the ole rules and the new rules. i think two key points about the old rules that contain the quite

strong presumption that activity should be in the uk if it could be if you like so therefore there was a tendency for there to be a polling to the uk. if you moved activity from x to y there might be a question why hadn't you moved it into the uk or even sometimes why wasn't it in the uk in the first place. that impact on foreign to important transactions was particularly crucial particularly difficult, i think, for many businesses to handle. and i think another key difference is the current rules are more proportionate. under the old rules, you could in some circumstances have quite a lot of income that would otherwise have been caught by cfc rules and income that you would want to catch with cfc rules, you can avoid that being caught by a technique called

swamping where you make sure that income was in another -- was in an entity but also had a lot of good income that would not normally trigger the cfc rules. it worked on all entity or nothing on the entity basis, circumstances, therefore there wasn't the cfc charge. equally the rules worked rather harshly in other circumstances where you had a lot of bad income and a bit of good income. in those circumstances, the old rules taxed a lot. the current rules would focus on the bad income. i go on now to migrations from into the uk. there were a large number of businesses that did leave the uk, large number in the uk context, maybe small in the u.s. context. i noted some of them there. what the broad picture is i

think that a fair number of businesses left the uk, a very significant number of those have returned following our corporate tax reforms. tax administration did have a project tracking this. when that was closed in 2011 it tracked two sets of migrations. the groups that are dealt with by its large business office were generally quoted groups. and therefore generally larger and 15 migrations of those and 24 other groups, groups that would generally not be quoted, generally smaller. and that 24 would exclude migrations that i think you could reasonably conclude were not done for corporation tax reasons. and i think it is fair to conclude that the flow of migrations the flow of routes outside the uk was a significant

spur for corporation tax reform. and it is maybe also significant that that corporate tax reform is support. if we go through the various elements, you know, you often find that the previous labor government took some steps and the current coalition government is taking further steps in that direction. for example, we currently have a 21% corporation tax rate which will go down to 20% from the first of april. from 30% to 28%, this government reduced it to 21%. it was the previous government that introduced the foreign dividend exemption and then this government, if you like completed that piece of work by also introducing an exemption for foreign branches. it is probably worth noting on the way through as well that we have no withholding tax on

dividends paid by uk resident companies. in a sort of similar theme, you know, r&d tax credits were introduced by the previous government and improved by this one. the patent box was announced by the previous government was introduced by this one, the patent box gives 10% rate on profits within the box. and perhaps most crucially, because i think it is fair to say that some of the businesses who left didn't come back until we had reformed that cfc rules which i think tells you it is that they're most concerned about. they launched the consultation on reform of the cfc rules and taken forward and adopted by this government. so as john said earlier on, there is a fair amount of stability in this new regime and i think probably that stability is one of the attractions to

businesses who have left and come back. it seems to me it will be slightly odd if you're to take a step as major as leaving a country to come back into the shore, if the features of that country's tax regime that forced you to migrate out of the country. seems to me you want to be sure the features were not likely to return before you came back. as to businesses that have returned you know, the wpp, the large advertising agency also some insurance businesses that had left and returned, and also again, as paul mentioned, other groups have come to the uk such as ar and again, you know, aon is an example of a case where the headquarters have moved for uk. and i think, you know back to the point about whether there is

headquarters in the uk you know seems clear there are very good reasons why we will be in competition, headquarters of businesses, why would we not want to compete for those just like other countries do just like the u.s. does. you get the top executives based in the territory, in the sense the requirement generally and now treaties for effective management is quite a strong tie to the territory. and they will tend to want to have round them advisers, key workers, other people centrally involved in the business. so you know there are very good reasons you would want a company to move residents into the uk. in other circumstances where we have a company that may be incorporated into the uk but it is effective management is outside the uk, maybe because that is advantage ous under other country's tax rules, well, i think it is hard to say that

it is the uk encouraging that. equally, i think it is hard to say that we have any incentive to do that. we have no incentive to encourage what are cheerily not brass plate operations because there will be some substance that will be board meetings in the uk. but plainly in economic terms there is no great value from having a few people flying to the uk have a meeting every quarter and fly out again. not in the business of encouraging or discouraging that. but equally it is not really something that is down to the uk tax rules, i would suggest. we have a fairly coherent set of rules on which companies we regard as ours, and which we don't regard as ours. and, you know, as i said early on, i think those rules are pretty consistent, certainly with our neighboring countries, but equally i think if you look also with most other countries, you know it is not surprising

in that context that we are able to draw from the ocd tax model convention of effective management. it is there because many countries use it. let me stop there and leave time for discussion. thank you. [ applause ] >> our next panel is incentives to invert and the market for

foreign takeovers. corporate inversions are takeovers. and, of course, there is a market for that. in order to understand that we turn to a young expert on international takeovers and that's andrew bird who is an assistant professor at the tepper school of business at carnegie melon university. the commentator will be misa misa dasi professor of law at harvard law school. we start with andrew bird. andrew andrew? >> good morning. so i was gratified to hear john's opening remarks this morning and then jim's done the same thing so my first slide is

to draw the analogy between inversions and foreign takeovers more generally. i think that's kind of been done already. i'll go over the argument again to be clear. of course, the incentives to invert generally speaking are to try to reduce taxes on both foreign and domestic income so that could be the stock of past earnings and go forward basis. so there we heard about different structures for inversions. they basically involve getting a new foreign parent. now, of course, the other place you can get a new foreign parent is if you're just acquired by a foreign company this has been happening for a long time. but the tax incentives are basically -- very close parallel, tax incentives for foreign acquired to take over a u.s. company as there are for that u.s. company to find some other way to get a foreign parent. so the advantage -- there are a number of advantages from a research perspective of looking at these foreign acquisitions and the main one is just that there are many more of them. so i think inversions are very

interesting, but there aren't that many. if you look at foreign acquisitions more generally this is on the order of hundreds of billions of dollars a year of domestic assets are taken over by foreign companies and this is obviously a lot of volatile, a lot of search behavior. and because of that, to the extent that we're worried with tax inversions about things like tax revenues and economic efficiency, it may actually be the case we should be more worried about these tax incentives underlying foreign acquisitions because it happens so much more. so i think i want to talk about today is going to be how the characteristics of u.s. target firms affect the competition between foreign and domestic acquirers. when a u.s. company is taken over there is an implicit competition to be the successful acquirer and it is is an implicit competition between domestic and foreign acquirers to do that. the key difference i don't think is controversial especially

now, between foreign acquirers and domestic acquirers in this market is that foreign acquirers face lower effective tax rates. that's been changing over time. that's probably been true on average for quite a long time now. so i'm going to talk about three different characteristics of these target firms, but i think it is going to do two things. one is it is going to tell us something about behaviors. it is going to tell us something about what kind of u.s. companies are good targets for foreign takeovers and so in turn would be good targets for inversions as well. and i'm picking these characteristics in a particular way so that they're going to also tell us something i think about how we can make domestic policy choices and how domestic policy choices will affect foreign acquisition and inversions. i think some of these are obvious -- obviously going to affect inversions and foreign acquisitions. and some of them are less clear. i hope they'll be clear after i explained them. so i'm going to talk about locked out earnings. i'm going to talk about

profitability and talk about tax shields. and so we'll get into sort of the policy relevance of each one of those as we go. so to be clear the sample across all of these three results come from two different papers it going to be acquisitions of publicly traded u.s. firms, over the last 20 years. all right, so start with one i think is the most straightforward, is obviously an international tax policy choice that the u.s. has made. it is going to be the worldwide system. so well known consequence of the -- choosing a worldwide system in combination with deferrell is you'll get locked out earnings. so you'll have earnings of ss u.s. multinationals, and we're going to measure the locked out earnings using an accounting designation called pre permanently reinvested earnings. let me explain briefly what that is. so in principle, for accounting purposes, so under gap, what you should have to do as a u.s. multinational with foreign

earnings abroad that face potentially a quite low tax rate there is you should have to book a deferred tax expense associated with the fact that, yes, you're paying a low tax rate right now, but there is this tax potentially large tax expense that you have to pay going forward if you ever wanted to bring those earnings back to the u.s. so that's in principle how things should work for accounting purposes. for various reasons, they don't. there is a special exception to this rule that says if the company certifies these earnings are permanently reinvested not going to come back to the u.s. for the foreseeable future then the company doesn't have to take this deferred tax expense, which has a very big impact on its gap book reported numbers. so the nice thing about that is that making this designation potentially a somewhat costly that you're committing to your auditor that you're not going to be bringing the earnings back, but you get a big benefit in terms of your reported numbers and that benefit is larger, the greater is the potential of

repatriation tax burden. so when we see firms making this designation, those are going to be firms that foresee a nontrivial tax cost of repatriating earnings. so i'm not going to get into the details of the transaction, that is not my expertise. i think there seemed to be lots of ways that inversions and foreign takeovers could unlock the earnings, could access these underrepatriated foreign earnings without triggering a large tax burden. so i'm going to look at in the data does that appear to be true? it seems there are ways to structure acquisitions and reorganize the structure of the business to access these earnings. if that's true then what we should see is that u.s. target firms with more pres, more locked out earnings should be nor more likely be available to foreign companies. if we take a target firm with some pre, organized and has some locked out earnings and compare

it to another firm that doesn't have locked out earnings, we see the locked out earnings targ set 4.4 percentage points more likely to be acquired by a foreign company rather than a domestic than a domestic company i don't know whether it looks large. it is large. in this sample, about 16% or so of these acquisitions are by foreign companies. this four percentage points is quite a lot. and i think one of the interesting things this is true even after controlling for the foreign activities of the target. you might imagine, of course, foreign acquirers might like u.s. targets with lots of foreign activities because of a kind of assumption. these foreign companies are already active in foreign countries. might be more synergies for them to acquire more foreign activities. but this effect of earnings comes above that. above and beyond that. it is true that foreign companies like to acquire u.s. multinationals with lots of

foreign activity but even beyond that, the stock of locked out earnings seems to be a big driver of foreign acquisitions. so there are two kind of related points that i think drive home the fact that taxes are really what's going on here and it's not some other weird story is this foreign preference is concentrated and acquires from countries with territorial systems as you'd expect. so it's easier for such an acquirer to restructure and get access to these earnings at a low tax cost. and even further than that, if you restrict ourselves to large countries that change from worldwide to territorial systems, the uk and japan, we actually see they increase their preference for u.s. targets with locked out earnings after switching, after reforming international tax system. so it seems to me to be pretty strong evidence that, in fact, this acquisition behavior is really being driven by this issue of locked out earnings. so across -- these empirical evidence here is clear. i think it makes sense

intuitively, as well, that the lockout of earnings caused by the worldwide tax system used by the u.s. encourages foreign acquisitions of u.s. companies. right. and i think that just as it's true for acquisitions of the u.s. companies, i think it's also true for inversions. so next i'll turn to the profitability of the u.s. target. it may not be immediately clear why that's an interesting thing to look at. well, so one thing that we definitely like to know is the effect of the statutory rate in the u.s. on this kind of behavior on foreign acquisitions. so, unfortunately, it's difficult to do that directly because i said the statutory rate doesn't change much. didn't change much at all during my sample. it's been a long time since it's changed. so what i think is a useful thing to do is to try to investigate these tax differences. by tax differences, it's not just the u.s. statutory rate that matters it's also how it differs from the effective tax rates or the statutory rates in other countries.

so we can look at that indirectly by looking at the effect of the profitability of target firms on the identity of the acquirer. so the reason that works, or at least the reason it works in theory is that foreign bidders are more likely to acquire more profitable target firms. i think that intuition is relatively straightforward. so a dollar of profit yields more after tax cash flow the lower is your tax rate. so, of course, all acquirers like profitability, right? so for an equal price, they would prefer the more profitable firm but dollar for dollar, should be willing to pay more for that dollar of profit to keep more of it after tax if we have this kind of sorting where foreign acquirers are particularly interested in high-profitability targets, i think that's strong evidence that tax differences across i acquirers are important in this market. so one kind of straightforward way of looking at this is across industry. so we've got in this picture

along the vertical axis is by industry, the fraction of target firms in that industry that were acquired by foreign acquirer. so this varies from, you know maybe 5% to 25% in the sample. and along the horizontal access, we have the median profitability of the firms in these industries. and so if you're wondering the size of the dot is reflective of the number of transactions there were in that industry. so what we can see, especially because i've drawn this line here is that there is a positive relationship. so it is the case that industries with higher median profitability experience relatively more foreign takeovers. okay. that's consistent with the theory i've outlined. now, of course i'm not going to talk too much about alternative theorys. you can imagine there are other explanations for this. mining and mining happens to be a relatively profitable sector.

so, what you can do is, in fact, let me go back to this for a second. what we can do in fact is look within these industries. so we have this behavior across industries, which is consistent with the theory. but what we can do is look within the industries. so they're relatively a lot of foreign acquisitions in manufacturing. we can look within manufacturing and see whether the more profitable manufacturing targets are more likely to be acquired by foreign acquirers. and, in fact, that's the case. so just to be a little bit concrete about it. one standard deviation higher target profitability. this is something like 10 percentage points of return on assets, increases the probability of by 2.8 percentage points. you should think of this as relative to the 16% average in the sample. so, again, this preference could be due to nontax acquirer differences. so i mean, one story would be that foreign acquirers kind of like the prestige of acquiring a really successful u.s. company. but for a couple of reasons, i

think that this is really a tax story. so the first thing is that if you look you sort of replicate this exercise from minority transactions. so just -- you're not acquiring control, you're acquiring a stake in these firms. if you do this exercise there, you don't see any of this profitability sorting. so, in fact, if anything you see that foreign minority purchasers are looking for less profitable targets. so what i think is a key difference between the majority transactions and the minority transactions is if you only have minority control, then you can't really shift income successfully. you really need to have control of the target to be able to exercise these effective tax rate benefits. so the fact that we don't see that when foreign acquirers can't exercise at least quite as large tax benefits suggests that this profitability sorting is really coming from taxes and not something else. second piece of evidence here that i think is pretty strong is that if you split the acquirers. so among the subset of foreign acquirers that like

profitability, if you split those into the ones that are tax havens versus not it's the tax haven acquirers that really like profitability, right? those are the companies that have the biggest tax advantages. and they're the ones that are the most willing to bid for high profitability u.s. targets. all right. so the third result that i wanted to talk about. so this may not be clear right away why this is necessarily relevant to this issue. and that's tax yields or tax preferences, they go by many names. so the intuition here is similar. foreign bidders are less likely to acquire targets with more tax deductions. and that's because a given tax deduction or tax preference saves you less tax if you've already got some other way of lowering your effective tax rate. in the extreme, the way to think about it is if your effective tax rate is zero, you don't need tax yields or preferences. you've managed to get down to zero. so what that means is we should see foreign bidders as being

relatively disadvantaged as acquiring targets with lots of available tax deductions. so to test this proposition, what we'd like is to have a nice experiment. we'd like to see a case where tax deductions change in a way that's not obviously connected with anything to do with foreign takeovers. so i think bonus depreciation. i'm using sort of the start of bonus depreciation in 2001 as an actual experiment here. and i think it's nice because at least i've never heard anybody say that the channel of foreign takeovers was something that was being discussed when bonus depreciation was instituted. so the empirical strategy here is going to be that we're going to compare across industries what happens after bonus depreciation. so as an example, if you take an industry like manufacturing, they got a relatively big increase in allowances associated with bonus depreciations. that's by design of their reform. you compare manufacturing to real estate which, again by the

nature of bonus depreciation was almost not affected at all. then what we'd expect to see is decline in foreign takeovers in manufacturing relative to real estate post bonus depreciation. that's the test that's the test i'm going to do. it turns out that it works. so in fact, this theoretical idea that it's, in fact, domestic bidders more likely to win when a target has a lot of tax deductions, that's what we see in the data. let me show you a picture of that, as well. here i've kind of skipped the result. and i'm going to counterfactual story here. hopefully you can see the differences in the colors on the bars there. so the dark bar is what we actually saw. okay. so that's the dark bar there says that, you know, we had something like 20% foreign takeovers in manufacturing. the light-colored bar is showing a supposed bonus depreciation hadn't happened. so we hadn't relatively disadvantaged foreign acquirers around this time.

that's the level of foreign acquisitions that we would've seen in those industries. so you can see it always would have been higher because bonus depreciation is a one-way deal. but it had a pretty considerable effect. so on average, my results show that the reform explains about a 5 percentage point fall in foreign acquisitions following the reform. which i think is large in comparison to the numbers i've told you so far. i think it's also large because of the three things i talked about. i think this is the least obvious. the least obviously related to foreign acquisitions. and i don't think it's really -- so when bonus appreciation is discussed, i don't think this is the kind of thing that's being talked about. but it appears to be quite important. all right. so i have not much time left. i'm going to mostly restrict myself to kind of giving you a summary of the consequences of behavior that i've talked about

today. and i'll mostly leave the policy to me here in the next panel. but to summarize. so worldwide system of international taxation, high statutory rate or just big etr differences, and a wide tax base encouraged foreign takeovers whereas a territorial system or small etr differences which you might get by either changing the statutory rate or further regulating income shifting to make it more difficult. and a narrow tax base. a tax base with a lot of tax preferences, for example. encouraged domestic takeovers. i think the main policy message is that if you have an idea of which way you think this sort of balance between foreign and domestic takeovers should go which i mean, one could have lots of points of view on that. if you had a point of view on that, i think what these results are showing you are how you can use domestic policy of how you can achieve that goal. it won't say too much about my thought for now, anyways, on my

thoughts about these other issues. let me highlight the ownership efficiency issue. i think what's important here at least from a policy perspective in the m&a market. it involves combinations of assets that businesses have. and what we would like is that assets that get combined are ones that exploit synergies, reduce production costs, increase revenues things like that. these are pre-tax concepts right? we'd like to have assets combine to maximize pre-tax returns. and in fact, as we've already heard, that's concern of businesses to maximize post tax returns. the greater are these kind of tax incentives and disincentives and distortions. the farther we're going to get away from this ideal of maximizing pre-tax returns. and then, of course, there are all these different effects. what matters really is whether we're too high or too low on that. i talked about some things favoring foreign acquisitions, some things that are discouraging them. and so the right direction to go depends on whether, how we're

doing so far. so with that i guess i'll turn it over to his comments. [ applause ] >> great. thank you so much for the invitation to be here. it's a real pleasure, and i really enjoyed this paper. andrew's one of the new generation of folks who is really providing lots of new empirical evidence and there's a wave of new papers on this topic. it's a delight to be discussing it. let me tell you what i was hoping to do. i'm going to first begin with a review of what andrew went through. i think it's pretty straightforward. and then try to just address why you might care. and then talk about some of the issues and problems in order to maintain my street credibility. i do have to at least prompt some questions about results and investigate some alternative

explanations for that and then wrap up. so as andrew laid out there are several results here and there's some nice robustness test i want to highlight. the big headlines are foreign acquirers are more likely to purchase profitable u.s. targets. and interestingly, it's more true from majority transactions. and that's where you'd expect to see it. and it's more true for acquirers from havens, so-called havens than nonhavens, again, where you'd expect it. the second piece of it is that increases in depreciation allowances decrease the likelihood of foreign acquisition. this, again, i think as andrew suggested is not immediately intuitive, but the way to think about it is well, if they're scooping out their domestic base with depreciation, then there's not as much domestic base to scoop out for the foreign acquirer. i think that's a simple way to think about it. and then more locked out earnings are associated with a greater likelihood -- in the inversion setting. but what's really nice here is that varies depending on the

regime of the home country sorry, of the acquirer country, the country of the acquirer and this is the really nice thing, this is where economists get excited where you see a regime switch as in the uk and japan and see the effect even more so. very nice set of results. just briefly before i put forward some quibbles. you know why should you care. i think the first thing just to say here is you know, when i began in this business it was common to think that taxes were something that you addressed after the investment decision or merger decision you wanted to undertake. the tax experts would come in and arrange things in order that they were optimized. and this is just been a secular trend. and this inversion wave and these results would suggest that's just no longer true. the taxes aren't the afterthought that they are, in fact, leading thought in the design of these transactions. and so that gives rise to a variety of concerns.

are we having productivity distortions because of who owns what? that's certainly a concern i'm sympathetic to. i wanted to raise a few others so we understand why you might care again about this. one is there's productivity problems. but in this literature, there's been concerns it's not really clear why we care about how the world is doing. even in national welfare terms, you might care about this. and i want to lay out a couple of reasons why so the rest of the results are interesting to you. the first is highlighted by mike and paul. and the earlier discussion we might care about where headquarter jobs are. that might be a first order thing we'd care about. mike suggested because there are advisers around, and a whole network of people around them. paul suggested it's because the next generation of headquartered people are not likely to be americans, they're likely to be nonamericans. that's one other reason why in addition to some aggregate productivity, which might feel

unfemoral to you you might care about the particular jobs in a way you might not have thought about otherwise. the second thing to highlight here is these are good firms. these are high-quality high productivity, high profitability firms. so it's not as if the selection mechanism is working in america's favor. in some general sense it's working against them. and what do we know about high-profitability firms? they share rents with workers, that shows up in wages. we know that firms that do well in particular abroad now i think, well established they do well domestically. these are not the firms you want to be taken over they're in some sense don't want to be taken over. and the final thing to be said about that we know, and this is -- i think we need a lot more research. but we already know something about the fragility of jobs. so and the fact that we know roughly is that as you increase the distance from headquarters, the fragility of jobs the likelihood of a layoff increases. so for that reason, you might care about this, as well.

and then the final thing to say is from a revenue perspective, the long persistent fact, i think it's still true, is that foreign multinationals in the u.s. have remarkably low profit rates. and that might be for a variety of reasons. one potential reason for that is they're particularly good at scooping out the base. so if we're seeing that more, then that would seem problematic from a revenue perspective. for all of those reasons, i think these results are some things that go beyond some notion of productivity problems of which i'm sympathetic. a couple of thoughts about the results themselves. the first is, you know, the profitability results are really interesting and perhaps the strongest of all of them. you know, i would like to see more, which is of course what i want to do. which is so, you know the first is, as paul highlighted there's really different mechanisms at place with respect to foreign profits and domestic profits. the domestic profit setting, we care because we think they're scooping out earnings via interest stripping or other allocations

allocations. and more about the repatriation taxes. i would imagine you have the data to actually separately identify those. i would like to see that. we really have different policy responses to those two kinds of profit bases being stripped out. that would be the first thing. you know, i think industry controls you know, paul highlighted this, we see big industry effects. we saw oil, we saw insurance, we're seeing pharma. we need industry effects, and that should be the baseline. i think the majority/minority test, frankly, is a little bit difficult to swallow. identifying assumption there is that the motivations for the investment less than 50% investment are the same as for a majority investment. i think that's a little tough. and it's tough because in an unrestrictive market where people can take positions, they have very, very distinct motivations. one is typically about learning, which is the joint venture of the minority. the other is about control. and so i'm not sure i like that. i like the haven one, that test is much more convincing to me. and i'd like to see lots more. i'd love to see you know, a

test that was i think, originated by jim and his paper on state taxes. which is do they come from the territorial regimes or the worldwide regimes. i'd love to see differences in tax rates. it's not just foreign people want to buy things, but it's the foreigners from lower tax countries and you could think about that in a more continuous way than the binary notion of havens. there's a persistent puzzle in these results and that may be misunderstanding the results, but losses go the other way. so losses are highly significant in all these regressions and they go the wrong way. so as i understood them, maybe i'm wrong. i didn't quite understand this. it's the high profitability firms and the high-loss firms being acquired. i don't understand that and it would be useful to think more about that. and then finally, i would just say i'd love to see this move away from you know, which firm are you acquired by a foreigner to notions of value? and i think combined aggregate

returns is the way to go here right? if all this stuff is true, you should see very high combined aggregate returns on the acquisition because you're taking a lot of value away from the u.s. taxpayers. and so i'd like to see that and it should show up in combined aggregate returns. and then finally i would just say this has come up briefly, but there's a lot of governance issues in these transactions, which might be nice to address. first, the broader, literature has governance, things to say, they could be incorporated. if you think about the inversion setting, original waiver of the expatriations, reversed order. if you think about the discussion, it was originated because the previous one where shareholders suffered by managers didn't, didn't really work. and if you think about valiant and the concerns about their transaction to in this last year, it has a similar ring to it. so the governance attributes of these transactions, i think are first order. and i'd like to see them addressed. the depreciation results are

really interesting for the reasons andrew suggested. i confess, i had harder time with them and harder time with them because you know, i think about merger decisions it's hard to imagine the short run change on bonus depreciation is going to trigger a large, very large m&a response. so bonus depreciation comes in and there's some notion this is a short run thing. why would i then make a long run merger decision that was predicated on that. i thought that was a little bit complicated. you know, in general i'd love to think more, and this is true, the profitability results as well as here about interest allocation rules and understand how the variation and the ability to use interest allegation could be used to further identify this. and then the final thing is on the locked out earnings results. just a few comments here. this is really interesting, and i think if you think about the transactions that happened last year, you know clearly part of it was using offshore cash to

finance transactions, directly finance transactions. just briefly, two measures here. one is permanently reinvested earnings as described by andrew. the other one, it's interesting, as well repatriation costs, which is seeing if you've had low average foreign tax rates in the past, roughly speaking. and that's a measure that's originating by others. so the question is what are we talking about with these measures? here's one of the ultimate ironies, i think here. which is the firm designation of money that i'm keeping abroad permanently is being used to signify cash that i'm not using. that's a perversion in a sense. we're assuming that exactly what the managers say is the opposite, right? which is it's cash that's not being used is what we think it is. so that's a little bit weird. that's okay. it's not clear that it's cash abroad. and it's not clear that it's really about the tax or if it's

about the accounting frictions. that's also a little bit unclear. we know they're important. one way to interpret these results, they're really about. and maybe this is another way of saying what andrew said, but i think it's important, they're really about firms with low-average foreign tax rates. the other way to understand that result, which is those firms are likely to have higher. they're likely to have the higher quote unquote repatriation costs. it's not about locked out earnings per se. it's about firms that have low average foreign tax rates. perhaps a slightly different way to think about the results, but i think they're important. losses are puzzling. it would be neat to get more of the variation we saw in some of these other papers you know, clearly ajca would be a time and legislative change that would seem to provide an opportunity to say, well, wait, when you get the repatriation tax holiday,

what happens to the merger activity? if there are all these locked out earnings and i get a reprieve, how does that change. a nice set of papers and results and new wave of understanding of what the tax system is doing. what is the big take away from all of this? first, you know, this is one piece of the puzzle. and we know lots more as well. i want to briefly talk about that. we know not just on the inbound m&a side, which is what andrew's talking about and very important for the reasons i said. we also know that offshore cash is shaping outbound activity. as one example of this papers looking at announcement of returns on outbound m&a activity by multinational firms who have large amounts of cash abroad. it's a mothful fulmouthful of saying, when they buy skype, what do investors think?

and the answer is, they don't think highly of it which would suggest those are optimal investment decisions. you know, i think from a policy perspective, i'm not going to spend a lot of time. we have a distinguished panel coming up, but i think it's the clear point is you can't think about inversions and isolation. there's a market for corporate control. this is a piece of the market for corporate control. and you just can't think about them in isolation. and if you do, the consequence can be very difficult. in particular, by the way, the evidence for that is the tax link is there. but the more general point is these are all transactions on a continuum. and we should understand them as such. the reason that's important is if you address these problems in piecemeal ways, you are likely to cause other problems that are maybe even more severe elsewhere. when the disease is systemic and you diagnose it as nonsystemic and treat pieces of it, you delay and see further

consequences that are even worse. and so the reason to think about this without saying what the right systemic answer is is just to make clear that it's systemic. and so when we have approaches that are piecemeal including regulatory that are specifically designed the most obvious being changing thresholds from 80% to 60%. they can only, not they can only, but they will have consequences that we should understand. that may be okay, but it's not clear why we'd want the policy response to be one that favors the ability to buy rather than otherwise. thank you. [ applause ]

>> i got the first microphone, so i get to go first. and we're now going to have questions and answers, but i want to start with a question to to -- here. i'm going to start with a question to me here. and my question is, when you were talking about the distinction between foreign ownership of business activity in the united states and domestic ownership and pointing out, you know, some of the benefits that come from domestic ownership, domestic headquarters and so forth are you -- were you suggesting that we should have severe rules on foreign acquisitions of american companies like, you know, have laws that put up -- how would we know when we've got the right

treatment? you know, which is an issue that andrew raised, as well, in his presentation. >> i wouldn't favor barring foreign ownership. i don't think that's the answer. and i don't have a perspective on the optimal rate. and i wouldn't pretend to. but i think the reason to think about it is simply to say that we seem to have a distorted market and the tax rules are creating that distortion. so at first approximation, i would say removing it would be an advantageous thing. it's less about putting up rules than it is about you know at least removing the ones that are disadvantageous. and the second thing, i think it changes our attitude from a policy perspective in the electorate, hopefully, which is that we don't understand we understand that having an american firm that's headquartered in america and succeeding abroad is broadly a positive thing. and i think that's the mindset change that is required. and so we should understand

that, you know it might may well be very good to have an american firm be located here and succeeding abroad. and we should not be indifferent between that. and having a subsidiary of a nonu.s. firm here. and, again this is where i think research should go. it's speculative now. it's interesting and important. >> we do have time for some questions. sir? >> thank you. how would this change if we cut the u.s. rate from 35% to 25%? because it almost seems like you're setting yourself up for just a renewed cycle when the uk's going to have a 20% corporate rate and ireland has a 12.5 corporate rate. and in cases of i.p., there's patent boxes u.k. patent boxes going to be 10%, and when ireland gets theirs, it's going

to be 6.25%. again, don't want to make a speech, just ask the question. does this sort of reduce the desirability of the type of corporate tax reform that everyone's talking about where we cut the rate from 35% to say 25%? >> i think that question was for you, andrew. >> sure, to some extent that's the nature of tax competition. from a broader perspective, that may not be desirable that's the behavior we're seeing across countries, but that doesn't mean necessarily that unilaterally there's anything to be done about it. i mean i think of course there are opportunities for cooperation. i think the oecd is doing a lot of different things to try to mitigate what you're talking about. but i don't think by itself. i think the fact that you know, competitors for investment to the united states are doing these kind of things. i think there needs to be some kind of a response. >> hi.

thanks. i was intrigued by the results of the paper and by the comments. i just want to think through this thing if i'm thinking through it right. you said the higher profitability raises the likelihood of foreign purchase in bonus depreciation raises -- reduces the likelihood of foreign purchase. suppose we go to a revenue neutral change that reduces the tax rate but restricts depreciation rules to pay for the lower tax rate. it seems like first order that means that the overall profitability would not be affected and bonus depreciation would go away. and so it seems to me like the net impact of that would be to increase foreign purchases of american companies. i'm wondering if that's right, if you have a sense of how big that would be for revenue neutral tax reform, et cetera. >> so an exact number is maybe a

little bit beyond the scope of my investigation. but i think your intuition is right. if you do a back of the envelope combination about combining these two effects, i think that -- at least what the results i'm finding suggests is that's what you'd get. >> yes i'd like to just follow up on one comment made. and the story i'd often heard about this acquisition of a lot of money by u.s. firms overseas is that since they don't have anything to do with the money it costs them a lot to bring it back encourages them outbound mergers with a purchase of foreign firms. i wondered if you had looked at anything to do with outbound mergers. and if we're looking at something that's a gross effect and more mergers in both directions or a net effect of foreign takeovers when we're looking at the u.s. tax rules. >> so i think there's pretty strong evidence for both of those channels.

i think that nature of this kind of empirical work is it's difficult, at least looking at individual mergers. it's difficult to answer how big is the new channel. and it's affected by these types of incentives. that it's hard to say whether on net it's an increase or a decrease, it's a change in the character of the fdi that we see. >> john samuels? >> so i think there's a nice parallel between the paper that cited that michelle hamlin roent recently published that shows that firms with foreign cash tend to invest it in ways that the market doesn't like. the microsoft/skype example. you might ask why do they do that? if i link that with andrew's paper. if i'm a firm sitting around with a lot of cash and that makes me a more likely target for a foreign takeover, what am

i going to do? i'm going to invest that cash. i don't think that's true in the microsoft case. but it may well be true in others. so there may be an agency cost issue here. >> the way i would say it, definitely an agency cost issue but also a reinforcing cycle. the way to think about it is what's triggering the suboptimal use of the offshore cash is the pressure that's in part felt because the foreign acquirers. that's reinforcing a cycle of sorts. no particular reason to like it, for sure, yeah. >> and loads of other acquisition studies have found that firms with cash, you know are more apt to be acquired. >> sure. >> michael devereaux. i'm afraid this is your last question. >> i was going to pick up the point from john. as i understood, if the firm is acquired, it's more like to be acquired by a foreign firm than a u.s. firm.

it wasn't the result it was more like to be acquired per se. is that right? >> exactly right. >> it may be true and it also -- it raises the possibility that there's additional bidders in raising potential reservations, which is at least implicit in the paper. >> you know if there's anything that we've learned from this session is there's competition for everything. and part of what there's competition for is our time. if we went on, we would eat into the break, and we don't want that. we have time for a 15-minute break, we'll reconvene at 11:15.

>> we're going to get started. our panel is entitled policy responses. i think that means we are to enlighten the audience as to how to solve all of the problems that have been discussed earlier today. and for those of you who know the players you will expect unanimity among the panel. i will say paul began the day by pointing out that i don't understand boxes. and i should correct him, i don't understand formulas either. but words, actually, you can probably get some benefit from. and that's what we're going to engage in up here. i'm tempted to introduce the

group by describing the red corner and the blue corner. but i won't do that. i'll just introduce them from my left in the order they're going to speak. most of these people are well known to you and i won't say much about them. michael devereaux teaches economics at oxford, so you should not believe what his resume says in the book. it's at least ten years out of date, i think. steven shea teaches at harvard law school. he was deputy assistant secretary international at the treasury department. and practiced law in boston for many years. jim hinds is a law professor, trained in economics in teaching law, which tells you a lot about law schools these days.

but jim is the director of the itpf research institute. and i think along with wrote the first analysis of corporate inversions, at least the first one that i remember reading. and ed is now a professor at the university of southern california. he was a practitioner in new york for many years, and chief of staff of the joint committee on taxation. so we have an experienced and knowledgeable group, and i am the referee. michael, you're up. >> okay. thank you, thanks for inviting me. i got five minutes, i believe. so what i thought i'd do is address broad questions. my fellow panelists know far more about the u.s. tax code than i do.

so, i just wanted to make a few kind of broad points to start off with. we often get disagreements between people and disagreements stem from unacknowledged and assumptions of what we take as given in the tax system. are we taking as given the rest of the u.s. tax system or not. how broad are we talking about? quite a lot of disagreements stems from actually people starting from different points. exactly where we're starting from here. to try to make explicit as we take what's given or what we don't. second point, there are lots of problems. taxes cause lots of problems and