This is the first in a 4-part series on tax avoidance in the Irish state, and focuses on the history of the relationship between corporation tax rates, avoidance and foreign direct investment.
The Irish state has pursued an economic development policy based on attracting foreign direct investment since the 1950s. A low rate on corporate income and profits tax and loose financial regulation have been features of the state since this time, though for decades they were unsuccessful at attracting FDI. In 1956, the Export Profits Tax Relief provided a rate of zero corporation tax for manufactured exports. This system of tax exemptions for certain areas and industries developed over the following two decades. In the 1970s, the Industrial Development Authority (IDA) “started aggressively marketing Ireland’s tax system internationally, under slogans such as ‘no tax’ and ‘double your after-tax profits’.”
After the Irish state joined the European Economic Community in 1973 it was forced to turn this system of specific exemptions into a single rate across the whole manufacturing sector to comply with EEC rules on non-discrimination. As a result, the Fianna Fáil government introduced a corporate tax rate of 10 per cent for all manufacturing companies in 1981, followed by a 10 per cent rate for financial services in 1987, with the creation of the International Financial Services Centre (IFSC) in Dublin’s docklands. Other sectors of the economy lobbied for a reduction in the corporate tax rate applicable to them, and in 2003 the single corporate tax rate of 12.5 per cent for all companies’ trading profits was introduced, while passive income and company capital gains were to be taxed at 25 per cent.
A significant part of the debate surrounding Ireland’s corporation tax regime has centered on the role of the 12.5 per cent rate in generating the Celtic Tiger economic growth spurt in the 1990s and 2000s. The dominant narrative expounded by establishment political parties, media and state institutions is that the introduction of the 12.5 per cent rate was the single biggest factor that contributed to the boom. But the surge in growth in GNP began in 1993, a decade before the introduction of the 12.5 per cent rate, and more than a decade after the introduction of the 10 per cent rate in manufacturing. This was the year the Irish state joined the European Single Market, with Irish citizens gaining easy access to housing finance with no exchange rate risk from the mobile financial capital available for the first time. The resulting property boom and spike in consumption were the key factors contributing to the sharp rise in GNP from 1993 onwards. Barry Eichengreen wrote: “Claims on the Irish banking system peaked at some 400 per cent of GDP… It reflected the freedom with which Irish banks were permitted to establish and acquire subsidiaries in other EU countries.”
The graph below from the Fools Gold blog (by the Tax Justice Network and Warwick University) is a visual illustration of the timing and factors associated with the boom.
FDI inflow into Ireland expanded on a huge scale during the 1990s. It rose from 2.2 per cent of GDP in 1990 to 49.2 per cent of GDP in 2000. There were many contributing factors to this, with accession to the single market – and the growth in GNP and consumption that this prompted – being the most crucial. Other often-cited factors include Ireland’s joining of the single currency in 1999, its geographical location and its skilled, low-waged and English-speaking workforce. Currently foreign (mainly US) multinational corporations (MNCs) account for around 90 per cent of ‘exports’ and employ an estimated 150,000 people, around 8 per cent of the workforce. There is no doubt that FDI has since the 1990s played a dominant role in the Irish economy. The low corporate tax rate has certainly contributed significantly to this inflow of FDI, in addition to the factors outlined above. The two policy factors that have been equally or even more important than the low corporate tax rate are the large number of other ‘peculiarities’ of the Irish corporate tax regime, and the creation and promotion of the IFSC in Dublin as a centre for global finance that is almost totally unregulated.
Public debate on the corporate tax regime in Ireland
There are extreme economic and social costs associated with this model of economic development, in Ireland and internationally. The costs associated with the lack of regulation in the IFSC, and its promotion of the shadow banking system, have been demonstrated clearly and painfully in the €70 billion financial collapse of the Irish banking sector of 2008. The costs associated with Ireland’s corporate tax regime are also enormous. Public policy debates around Ireland’s corporate tax regime in recent years have centered on two key issues: domestically, whether the 12.5 per cent rate is sufficient, and whether it is in fact the effective rate paid by US MNCs; and Ireland’s role in the global chain of tax avoidance. A third, more neglected, issue of debate is economic over-dependence on US MNCs and the long-term poor performance of Irish indigenous industry, though this has now come into the public domain to a certain extent with the publication of this year’s 26.3% growth in GDP as a result of distortions largely caused by MNCs’ inversions and other accountancy tricks.
Throughout the 2000s it became clear that the nature of Ireland’s corporate tax regime meant mainly US-based MNCs were using the state in conjunction with offshore tax havens to massively reduce their global tax bills. A study by tax expert Martin Sullivan published in Tax Notes in 2004 showed that Ireland was the most profitable country in the world for US corporations. The following year, an investigation by the Wall Street Journal revealed that Microsoft was using a subsidiary based in the offices of a Dublin law firm to reduce its annual tax bill by at least $500 million. In 2009, in response to plans by the incoming Obama administration in the US to tackle tax avoidance, state agency Industrial Development Authority (IDA Ireland) hired a lobbying group in Washington DC to support the status quo.
Since the rise in international tax justice activism in 2010, successive Irish governments have been at pains to insist, “Ireland is not a tax haven”. Government representatives have stated that Ireland’s low tax rate is the “cornerstone of our economic policy”; that it is statute-based and effectively enforced. A still-running debate on the effective rate paid by US-based MNCs was sparked in 2011 when Finance Minister Michael Noonan claimed the effective rate of tax in Ireland was 11.9%, while in France it was (he claimed) only 8.1 per cent. Speaking in France in 2014, Taoiseach Enda Kenny quoted a PriceWaterhouse Coopers/World Bank report (2014) that stated Ireland’s effective corporate tax rate was 12.3 per cent. He was speaking in response to questions over Yahoo’s decision to transfer finance operations to Ireland from France. Kenny also claimed that the effective rate in France was 8 per cent (in fact, this rate refers only to SMEs and the effective corporate tax rate for MNCs in France is 33 per cent). A paper from Prof Jim Stewart from Trinity College Dublin pointed out that the PwC study was based on a small, domestic company that makes ceramic flowerpots and has no imports or exports. He wrote: “These assumptions automatically rule out tax planning strategies which are widely used by subsidiaries of MNCs.”
Using data from the US Bureau of Economic Analysis, Stewart showed that: “US subsidiaries operating in Ireland have the lowest effective tax rate in the EU at 2.2%. This tax rate is not that dissimilar to effective tax rates in countries generally regarded as tax havens such as Bermuda at 0.4%.” The Department of Finance commissioned an official study later in 2014 by economists Kate Levey and Seamus Coffey to reject Stewart’s findings, which excluded in their calculations the $144 billion in profits that US MNCs move through Ireland to other jurisdictions, saying it was not taxable in Ireland as though these entities may have been incorporated in Ireland they were not ‘resident’ and therefore the money was not taxable. Tax justice activists said this was precisely the point. Meanwhile, the Irish Times carried out a survey of the top 1,000 corporations operating in Ireland that found an average effective tax rate of 15.5 per cent – which has no bearing on the debate as it was a measurement of the companies’ overall global effective rate. Finfacts has reported that the largest corporate law firm in Ireland, Arthur Cox, said in a 2011 briefing on ‘Uses of Ireland for German Companies’: “The effective corporation tax rate can be reduced to as low as 2.5% for Irish companies whose trade involves the exploitation of intellectual property… A generous scheme of capital allowances as well as a tax credit for money invested in research and development in Ireland offer significant incentives to companies who locate their activities in Ireland.”
It was of course not only tax credits that provided for the low effective rate for US MNCs but massive transfers of wealth using IP-related mechanisms. Even Coffey, author of the government-commissioned refutation of Stewart’s claim of a 2.2 per cent tax rate of US MNCs, separately explained that the relatively low rate of taxable profits made by Irish subsidiaries of US MNCs resulted from profit-shifting from Ireland to Bermuda and the Cayman Islands through the payment of massive patent royalties, which amounted to nearly €30 billion in 2011. The US BEA “attribute these profits to Ireland as the holding companies are Irish incorporated”. The Tax Justice Network reports that studies using various ways of calculating the overall effective corporate tax rate in the Irish state found rates of between 2.5 per cent and 4.5 per cent. In 2014, a study by Eurostat on the implicit corporate tax rate (a backward looking measurement of the average effective tax burden) found an effective rate in Ireland of 6 per cent in 2012, down from 9.3 per cent in 2002, while the implicit tax rate on labour was 28.7 per cent in 2012, up from 26 per cent in 2002.
Continued: Yes, we’re still a tax haven for tech giants