| British pharmaceutical firm GlaxoSmithKline (GSK) is | | | | Obama intends to restrict the use of this financing |
| gearing up for a multi-billion dollar tax fight with the US | | | | technique in his international tax reforms, presented as |
| Internal Revenue Service in a keenly-watched case | | | | part of the 2010 budget blueprint. |
| which could affect how multinationals structure their | | | | The tax dispute with the US authorities is |
| international affairs. | | | | acknowledged in GSK’s 2008 annual report, which |
| The case centres on a practice known as | | | | stated that Statutory Notices of Deficiency were |
| ‘earnings stripping,’ whereby allegedly | | | | issued by the IRS following its audit of the period 2001 |
| ‘excessive’ payments of deductible interest are | | | | to 2003. These Notices “assert income and |
| made by foreign-controlled US corporations to related | | | | withholding tax deficiencies, and associated penalties, |
| persons in whose hands that interest is partially or fully | | | | arising from its reclassification of an inter-company |
| exempt from US tax. For example, the company may | | | | financing arrangement in those years from debt to |
| create a debt obligation from the corporation’s new | | | | equity, and its consequent recharacterization of the |
| US subsidiary to the new foreign parent, typically | | | | amounts paid as dividends subject to withholding tax |
| incorporated in a low-tax jurisdiction. The interest | | | | under the US – UK treaty.” |
| payments on this related-party debt create deductions | | | | While the report said that all amounts due under the |
| that reduce US tax without creating an offsetting | | | | financing arrangement “were timely paid,” the |
| increase in the foreign tax due. | | | | IRS is now taking issue with aspects of GSK’s tax |
| Earnings stripping was one of three international tax | | | | arrangements for the period 2004 to 2006. “GSK |
| issues examined in a US Treasury Department report | | | | disagrees with the IRS’s position,” the report |
| sent to Congress in November 2008, the other two | | | | stated, adding that the company has initiated actions in |
| being transfer pricing and US tax treaties. This study | | | | the United States Tax Court to contest the Notices. |
| concluded that it is “not possible” to quantify | | | | GSK estimates that the IRS claim for tax, penalties, |
| accurately the extent of earnings stripping generally, | | | | and interest at December 31, 2008, net of federal tax |
| although it said that “strong evidence exists” of | | | | relief, for 2001 through 2003 is USD864m. If the IRS |
| earnings stripping by foreign-controlled domestic | | | | prevails in its argument before a court in respect of |
| corporations that have undergone so-called "inversion" | | | | the years 2001-2003, GSK expects to have an |
| transactions, in which the US parent company of a | | | | additional liability for the five year period 2004-2008 of |
| multinational corporate group is replaced with a foreign | | | | USD1.06bn in tax, penalties, and interest. |
| parent in a low-tax or no-tax country. President | | | | |