“Well written and an interesting perspective.” Clan Rossi --- “Your article is too good about Japanese business pushing nuclear power.” Consulting Group --- “Thank you for the article. It was quite useful for me to wrap up things quickly and effectively.” Taylor Johnson, Credit Union Lobby Management --- “Great information! I love your blog! You always post interesting things!” Jonathan N.

Thursday, January 31, 2013

Bank of America Exploits the E.U.

In 2012, the corporate income tax rate was reduced from 26% to 24 percent. With the comparable rate in Germany at 29% and France at 33 percent, Britain stood to reap the revenue-benefits of a significantly lower tax rate within the European Union. That the 24% rate would be pared down to 21% in 2014 suggests that everything else equal, the state of Britain was set to reap a sustainable competitive advantage over other states with respect to attracting business, and thus jobs. The move is not without risks, however.
The move by the British could trigger reduced rates in other states, resulting in a “race to the bottom” wherein corporations get away with less tax and the governments have to cut back on basic services due to insufficient revenue in the coffers. In early 2013, for example, Bank of America moved billions of pounds of complex financial transactions through London from Dublin in order to apply the loss carry-forwards on the underlying investments to the state with the higher tax rate. At the time, the corporate tax rate in Ireland was only 12% so the loss deductions could benefit the bank more if applied against profit in Britain. As a result, Britain would collect less in tax from the bank and the bank would pay less in tax, due to the rate differential between Ireland and Britain.
 
 
In short, a bank that had made horrible acquisitions in 2008 was able to “play the rates” to get some kind of “silver-lining” benefit at the expense of the E.U.’s state governments. Because of the disproportionate fiscal role of those governments in the E.U., business could effectively play them off against each other. Were there a federal corporate income tax, the benefits of shifting carry-forward losses from Dublin to London would be mitigated because the more of the tax bill in Europe would be unaffected. Therefore, in addition to forestalling more of a fiscal balance within the E.U. to the benefit of the euro, the reliance on state tax in the E.U. can be exploited by corporations such that less tax revenue is collected.
In terms of business, Bank of America’s taking advantage of differential tax rates illustrates a sort of “operating at the margins” that misses the point that the bank had “missed the big picture” in acquiring Merrill Lynch and Countrywide in 2008. That is to say, any cleverness in minimizing the tax bill within the E.U. does not make up for the colossal blunders at the hand of Ken Lewis and the board in 2008. That the bank is too big to fail, meaning that there is systemic risk should it collapse, is thus a particularly dangerous risk for the global financial system. Simply stated, expertise in reducing the tax it pays in Europe does not make up for the greater ineptitude at the bank, so there is a significant possibility that the bank will go under.
Putting these thoughts together, the E.U. is vulnerable fiscally due to its reliance on the states for tax revenue, and the global financial system is vulnerable in terms of systemic risk at least in part because banks like Bank of America can exploit the E.U.’s weakness and thus give policy-makers the impression that the systemic risk is tolerable.

Sources:

Jill Treanor, “Bank of America Makes Derivatives Switch from Dublin to London,” The Guardian, 28 January 2013.
Dan Milmo, “Corporation Tax Rate Cut to 21% in Autumn Statement,” The Guardian, 5 December 2012.