Before International Tax Reform, We Need to Understand Why Firms Invert

A wave of corporate inversions by U.S. firms over the past two decades has generated substantial debate in academic, business, and policy circles. The core of the debate hinges on a couple of key economic questions: Do U.S. tax laws disadvantage U.S.-domiciled companies relative to their foreign competitors? And, if so, do inversions improve the competitiveness of U.S. multinational firms both abroad and at home? There is unfortunately little, if any, empirical work directly determining whether U.S.-based MNCs are currently tax-disadvantaged compared to their foreign rivals, or measuring the amount by which (if any) U.S.-based MNCs improve their competitive position by inverting. This brief, however, summarizes both old and new research that views these questions through the lens of corporations’ global effective tax rates (ETRs), and finds that the stronger case seems to be that U.S.-domiciled corporations are often tax-disadvantaged and that they can improve their competitive position by inverting. Additional evidence also suggests that U.S. MNCs can increase their after-tax cash flow by inverting. Inversions indicate that something is fundamentally wrong with the tax system. The brief concludes by discussing two feasible paths forward for reform.