IBJNews

Overseas tax savings for U.S. drugmakers under threat

Back to TopCommentsE-mailPrintBookmark and Share

The nation's six biggest drugmakers—a list the includes Indianapolis-based Eli Lilly and Co.—avoided paying $7.05 billion in U.S. taxes last year by shifting their profits overseas. That’s almost double the amount they saved using the same strategy 10 years earlier, according to data compiled by Bloomberg.

For years, multinationals such as Lilly, Pfizer Inc., Merck & Co. and Johnson & Johnson have been moving ownership of patents and trademarks to subsidiaries in low-tax or no-tax countries. This has allowed drug companies, as well as businesses in several other industries, to skirt paying U.S. taxes on sales of those products unless the money is returned home.

While the practice of shifting assets and profits overseas is legal, that could change. As the trend continues to grow in an era when the government is desperate to raise revenue, the strategy has drawn the ire of legislators eager to shut it down.

“The right kind of tax reform could do a lot to bring corporate profits back to the United States for investment and job creation,” said Charles Grassley, a U.S. senator from Iowa, in an e-mail. “The current system provides an incentive for companies to keep money overseas indefinitely.”

Merck and J&J were the biggest drug company winners in 2012 with savings of about $2 billion each attributable to the strategy, according to regulatory filings.

The reports by the six drugmakers, filed last month, come as U.S. lawmakers are debating potential tax code changes designed to shrink the federal budget deficit and crank up job-producing business activity in the U.S.

Untaxed profits

Eighty-three companies have stockpiled $1.43 trillion in untaxed profits in foreign countries, according to data compiled by Bloomberg. The leader is General Electric Co., which said in a Feb. 26 filing it has $108 billion sitting overseas.

Among drugmakers, Pfizer reported having $73 billion abroad, Abbott Laboratories $40 billion and Bristol-Myers Squibb Co. and Eli Lilly Co. $21 billion each.

Republicans such as Grassley and Michigan’s Dave Camp, the chairman of the House Ways and Means Committee, want to encourage companies to repatriate their stockpiles in the hope that bringing the money home will lead to investment and job creation. A proposal by Camp would exempt earnings from U.S. taxes and limit the ability of companies to shift their profits into low- or no-tax countries.

Jacob Lew, sworn in Feb. 28 as President Barack Obama’s treasury secretary, told Republicans on the Senate Finance Committee that he saw “common ground” that could be considered on the issue.

Effective rate

The federal corporate income tax in the U.S. is 35 percent. Last year, the six biggest drugmakers cut their effective rate by more than half, a record for the decade, according to a review of 10 years of filings by Bloomberg News. The filings also show that tax avoidance strategies make up a significant portion of the profits that investors use to assess drugmakers’ profitability.

Spokespeople for the six drugmakers declined to comment or make any of their tax staff available for an interview.

In 2012, for instance, 20 percent of the adjusted earnings per share reported by New York-based Bristol-Myers came from cutting its tax rate, not profits on its drugs. At Abbott, based in Abbott Park, Ill., and at Lilly, it was 19 percent and 16 percent, respectively.

The tax avoidance strategy has grown. In 2003, the six pharmaceutical companies saved $3.85 billion, according to data compiled by Bloomberg from 10 years of regulatory filings. In 2012, that number had grown to $7.05 billion.

Overseas profits

At the same time, the companies often keep losses from failed drugs and other costs based in the U.S., as a way to further cut their federal tax burden.

Bristol-Myers reported all of its profits occurring overseas, a move that helped cut their U.S. rate by 29 percentage points, according to corporate filings. The New York-based company’s annual report shows a $271 million U.S. loss, with $2.61 billion in earnings abroad. At the same time, the report said 59 percent of its sales were in the U.S.

The company explained its tax strategy on an earnings call in January, saying it had “restructured some legal entities” to help lower its tax rate and compensate for the loss of a major product, the drug Plavix, which had gone off patent. That restructuring involved shifting where the company earned its profits by selling assets to overseas subsidiaries.

Transfer pricing

Companies shift high-value assets to overseas subsidiaries in low-tax countries where the profits are booked using a process known as “transfer pricing.” While drugmakers aren’t alone in their use of the provision, “they are the poster children for aggressive transfer pricing,” said Martin Sullivan, a former Treasury Department economist and a contributing editor at Tax Analysts.

The median tax benefit of all six companies from locating profits overseas in 2012 was $1.12 billion. After Merck, the biggest benefits went to J&J, at $1.89 billion, and Abbott, at $1.56 billion. Pfizer, the world’s biggest drugmaker, recorded $16.8 billion in pretax foreign profits and a $4.73 billion pretax U.S. loss, and a tax savings of $362 million, the smallest for the six companies.

The details of how companies shift the profits are under regular scrutiny by the IRS, which has filed suit when companies go too far. GlaxoSmithKline Plc, for example, paid the IRS $3.4 billion in a 2012 transfer pricing settlement.

Strategy downside

There are also downsides to the tax strategy. While those profits look good on balance sheets, they’re of less use to the companies to pay dividends or acquire businesses.

That means money that could be going to the U.S. government to reduce the debt or pay for taxpayer services is instead sitting offshore. And profits that could be returned to investors or used for investment in the U.S., does the same.

“They’re booking their profits offshore and they’re taking losses in the U.S.,” said Tax Analysts’ Sullivan. “But you put it all over there, and at some point it’s ridiculous. You could have a 0-percent effective rate, but then you’ve got no cash.”

While it can be difficult to bring that money back untaxed, it’s not impossible, as a Senate committee detailed in a September hearing on computer maker Hewlett-Packard Co.’s tax maneuvers.

The system is “broken and outdated,” wrote Michelle Dimarob, a spokesman for Camp, the Republican who chairs the House Ways and Means Committee, in an e-mail. “It is well past time to undertake a comprehensive rewrite of the tax code that bolsters the competitiveness of the U.S. in the global marketplace,” Camp’s spokeswoman, said in an e-mail.

ADVERTISEMENT

  • ironic
    “They’re booking their profits offshore and they’re taking losses in the U.S.,” said Tax Analysts’ Sullivan. “But you put it all over there, and at some point it’s ridiculous. You could have a 0-percent effective rate, but then you’ve got no cash.” Booking their profits offshore--profits due in large part from U.S. consumers that pay higher prices for drugs than those in other countries.

Post a comment to this story

COMMENTS POLICY
We reserve the right to remove any post that we feel is obscene, profane, vulgar, racist, sexually explicit, abusive, or hateful.
 
You are legally responsible for what you post and your anonymity is not guaranteed.
 
Posts that insult, defame, threaten, harass or abuse other readers or people mentioned in IBJ editorial content are also subject to removal. Please respect the privacy of individuals and refrain from posting personal information.
 
No solicitations, spamming or advertisements are allowed. Readers may post links to other informational websites that are relevant to the topic at hand, but please do not link to objectionable material.
 
We may remove messages that are unrelated to the topic, encourage illegal activity, use all capital letters or are unreadable.
 

Messages that are flagged by readers as objectionable will be reviewed and may or may not be removed. Please do not flag a post simply because you disagree with it.

Sponsored by
ADVERTISEMENT

facebook - twitter on Facebook & Twitter

Follow on TwitterFollow IBJ on Facebook:
Follow on TwitterFollow IBJ's Tweets on these topics:
 
Subscribe to IBJ
  1. So, Pence wants the federal government to ignore the 2008 law that allows children from these countries to argue for asylum in front of a judge. How did this guy become governor? And how is that we'll soon be subjected to repeatedly seeing him on TV being taken seriously as a presidential candidate? Am I in Bizzaro-U.S.A.?

  2. "And the most rigorous studies of one-year preschool programs have shown short-term benefits that fade out in a few years or no benefits at all." So we are going down a path that seems to have proven not to work very well. Right intention, wrong approach?

  3. Well for Dunkin Donuts it might say that even a highly popular outlet can't make a poorly sited location work. That little strip has seen near constant churn for years.

  4. Years ago, the Pharmaceutical and Medical Device companies shifted their research investment away from Medical Institutions to focus more on private research centers, primarily because of medical institution inefficiencies in initiating clinical studies and their inability/commitment to enroll the needed number of patients in these studies. The protracted timelines of the medical institutions were prompting significant delays in the availability of new drug and medical device entities for patients and relatedly, higher R and D expenditures to the commercial industry because of these delays. While the above stated IU Health "ratio is about $2.50 in federal funding for every $1 in industry funding", the available funding is REVERSED as commercial R and D (primarily Phase I-IV clinical work)runs $2.50 to $1 for available federal funding ($76.8B to $30.9B in 2011). The above article significatly understated the available R and D funding from industry......see the Pharma and Medical Device industry websites. Clearly, if medical institutions like IU Health wish to attract more commercial studies, they will need to become more competitive with private clinical sites in their ability to be more efficient and in their commitment to meet study enrollment goals on time. Lastly, to the reference to the above Washington Post article headlined “As drug industry’s influence over research grows, so does the potential for bias", lacks some credibility as both FDA and Institutional Institutional Review Boards must approve the high proportion of these studies before studies are started. This means that both study safety and science must be approved by both entities.

  5. ChIeF and all the other critics – better is better no matter what. Get over it; they are doing better despite you ?

ADVERTISEMENT