David Cay Johnston reports on an interesting sidelight of GE's international business transactions in the June 30 Tax Notes International: "Blame It on Rio: GE's Brazilian Headache."
GE is a huge multinational corporation with about $200 billion in annual revenues. Its spokesperson says that the size of its world wide revenues means that it didn't need to tell investors about several improper VAT and payroll tax practices in its Brazilian operations that aggregate to about $100 million and were therefore "immaterial". "No company has perfect compliance" according to the GE spokesperson. "We do not believe we owe the tax. Yet these are practices that GE's Brazilian lawyers describe in terms such as "criminal tax implication" "untrue fiscal documentation" "fraud" with "high risk" of prosecution, and long-existing practices that went on after management became aware of them.
First, one can't read this description of GE's Brazilian operations without thinking it highly questionable that GE has not agreed to pay all of the back VAT and payroll taxes that it avoided with questionable arrangements. If it cares about integrity, and if these evasive tax manuevers are so de minimis that they are not material to investors, then payment of these taxes should also be immaterial as far as investors' returns are concerned but significant in terms of maintaining integrity. Yet GE doesn't intend to pay other than part of the VAT claim.
Second, reading Johnston's description of GE's international operations should give us all pause in supporting globalization without restraint. The cavalier attitude betrayed by US GE officials towards what appears to be corruption and wrongdoing in their Brazilian operations suggests a larger problem with huge multinationals--especially Big Pharm, Big Oil, and Big Finance-- who have grown so large that they can operate "above the law" in small countries. They act like the new sovereigns--skipping town anytime tax policies aren't trimmed to suit them; wreaking environmental havoc in one place, only to leave it to go to greener pastures elsewhere; and of course in the case of financial institutions, reaping huge rewards from extraordinarily reckless strategies, and then getting governments such as ours to bail them out with various direct and indirect lending.
So I wonder about the trend in financial accounting towards global accounting rules. The SEC is considering essentially undoing the reforms after the Enron debacle by allowing companies to follow foreign rules. See Laboton, Accounting Plan Would Allow Use of Foreign Rules, NY Times, July 5, 2008. That is worrying from several angles.
- One, investors will be back in the guessing game, with less information and inconsistent information on various companies creating a web of unclear leads for the investor to untangle, and as the NY Times articles notes, at the mercy of weak regulators overseas less concerned with investor losses.
- Two, huge multinationals will exercise even more power in setting the rules to suit themselves (having more influence than they ought even here). The fox, in other words, would be in control of the henhouse, as companies would choose the foreign rules that allow the most convenient representation of their financial status. Duke Law securities scholar James Cox is right on this one--he is quoted in the Times article as saying that “We would not for a moment tolerate having American auto safety standards set by China or India. ...Why should we do it for financial safety standards? There has to be some accountability.”
- Third, to the extent the Treasury and IRS have gone along with the financial institutions' push to let financial accounting rules determine taxable income under mark-to-market requirements, corporations will be even more able to manipulate their income and report as they see fit, rather than adhering to an independently established standard for clear reflection of taxable income. I opposed the mark-to-market safe harbor in part because it permitted companies to use financial statements to determine taxable income, giving financial accounting the upper hand in deciding timing and many other issues. Financial accounting uses rules that are inappropriate for annual tax accounting purposes, as we've discovered over and over in the past.
You know, we pay those new regulators on the PCAOB enormous salaries--multiple hundreds of thousands annually. Now, they may just certify the results of some foreign regulatory board that has looked at auditing firms and said they're okay.
Not surprisingly, the source of the pressure on the SEC to make US securities regulation more "competitive " has been, in large part, the multinational accounting and audit firms. Regretably, "competitive" seems to mean "more profitable for them at no matter what cost to anyone else," in this context . Globalization works to the benefit of highly fungible and mobile capital, but it is not clear that it similarly benefits ordinary people. We should not just bend over and let foreign regulations control. We should seriously consider what types of regulations are demanded by global capital--it may be that tougher regulations are needed, and that states should negotiate these tougher regulations the way we negotiate tax treaties and other specialized conventions.
Edited for typographical errors July 7, 2008
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