Monday, February 1, 2016

Googling Google

Asked in the Commons about the effective rate of tax paid by Google in the UK, Treasury Minister David Gauke refused to say on the grounds of “taxpayer confidentiality.”  Evasive replies of this kind - a typical variant is “commercial confidentiality” - are rarely, if ever challenged. As well as being a convenient refuge, confidentiality conveys an air of sanctity, so that mere reference to the word suffices to quell further enquiry. In many cases, however, and this is one, officials taking shelter under the confidentiality umbrella are probably doing so either to disguise their ignorance or to conceal the truth. Because although some significant information remains out of sight, much that is relevant, useful and enlightening - notably in the case of U.S. corporations - is readily available to public view.

Much can be gleaned from annual reports, copies of which can generally be obtained from corporate finance departments, especially if the inquirer is willing to pose as a potential shareholder. More revealing, perhaps, is the Form 10-K that  all US corporations with sales above US$10 million are obliged to file annually with the US Securities and Exchange Commission (SEC).  Form 10-K filings are available to the public without charge via EDGAR  the SEC database, and their level of detail makes the UK’s Companies House equivalent seem trivial by comparison.

Here is the first page of Google’s filing for year end 2014:

Like nearly one million others, Google is incorporated in ‘dodgy’ Delaware (The Economist description) arguably the most popular domestic tax haven for corporations within the United States.

Google’s financial results for years 2013 and 2014 appear as follows (click on the graphic  to see full table):

 Thus, in 2014, Google had revenues of US$66 billion, a net profit of US$17.3 billion and paid income taxes amounting to US$3.3 billion. Google’s effective income tax rate, therefore, was 19.3%. 

Google’s financial results are also set out as a percentage of revenues (click on the graphic  to see full table):

Here we can see that roughly five percent of Google’s revenues go to income tax. The confidential part is not the amount Google is paying, but which tax authorities are getting the funds. Gauke's refusal was not to protect the taxpayer but the government.

Although we can’t answer the payee question precisely, Form 10-K offers enough information to enable readers to make a reasonable guesstimate.  Of the company’s US$66 billion of revenues, $28.1 billion  or approximately 42.5% came from the United States. On this portion of Google’s business US tax would be payable.  From the table above,  we can see that Google’s net income before tax was 26% of revenues in 2014.  Let us assume, therefore,  that the profit rate on the company’s US business is representative of the whole, in which case we would expect US profit to be 26% of $28.1 billion or $7.3 billion.  The official corporate income tax rate in the United States is a whopping 35% (39% with combined state tax), although according to the World Bank and the IFC, this percentage comes down to an effective rate of  just under 28% after allowable deductions.  Using the 28% figure, the income tax payable by Google to the US government  on domestic business would be roughly $2 billion, equivalent to about 60% of Google’s total tax liability.

What about the remaining $1.3 billion of tax? Google’s headquarters for Europe, the Middle East and Africa is located in Ireland where the nominal corporation tax rate in 2014 was 12.5%. Ireland is where revenues from these areas of the world are registered, though whether or not Google has been  paying  even this lower rate is doubtful.  From Form 10-K for 2014, it is easy to figure out that if the bulk of Google’s overseas business flowed through Ireland and the Netherlands - both countries being venues for special taxation arrangements known as Double Irish with a Dutch Sandwich - little tax would have been incurred before the funds found their way to a tax haven, in this case Bermuda. Both Ireland and the Netherlands are members of the EU yet appear to have been openly tilting the taxation playing field in their favour. Ireland has recently modified its regulations to close down Double Irish, though the closure does not kick in for existing companies until 2020. Meanwhile, an alternative loophole appears to be there for the taking.

US corporations are taxed on their world-wide income, but since the US has double taxation agreements with most countries, they are liable to pay at home only the difference between the tax rate paid in other countries and the US rate. Why, therefore, is Google’s overall tax liability only 19.5% instead of 28%? The answer is that funds earned from overseas activities do not incur US tax until they are repatriated.  Hence why a vast stash of cash belonging to US corporations nestles in tax havens.   In 2014 Google had US$64 billion in cash and cash equivalents - a staggering sum. Failure to repatriate is supposed to be justifiable if the funds have been set aside for further overseas investment, but a statement to this effect seems to be all that is required.  Equally important, what emerges from this paradigm is that the US government, while overtly uncomfortable with the use of tax havens,  has an obvious interest in having corporate overseas earnings taxed wholly in the Unites States, and logically rather less in having other countries syphon off their portion before the funds move on. Tax havens are, therefore, potentially of benefit to the US tax authorities provided the funds held there by US companies eventually reach home base.

While we cannot be certain of the destination of our remaining $1.3 billion, we can expect both Ireland and the Netherlands to be picking up some tax income, and we can be sure that modest amounts have found their way to other countries where Google operates. It may also be the case that some of the company’s overseas profits are repatriated from time to time which would add to the US tax take.

What about the UK? Google’s UK revenues in 2014 amounted to 10% of the total or  US$6.5 billion. Apart from the United States, Great Britain is the only other country identified separately in Google’s Form 10-K, which probably indicates that it is the most important of the company’s overseas markets. Assessing the profitability of the UK business, however, is nearly impossible for an outsider because it is child’s play for a corporation to shift profits to a ‘convenient’ location.  It does this through what is known as intra-company trade by which a sister company registered in a low-tax jurisdiction charges a company in a higher-rate jurisdiction for royalties and ‘services`. However, we can acquire a sense of what Google should be paying in the UK by applying the Form 10-K figure of 5% on revenues (Google’s effective overall tax rate of 19.3% on income is close to the UK rate of 20%, so the 5% revenues equivalence seems reasonable). Based on Google’s own data, therefore, we can derive a theoretical UK tax liability for 2014 of roughly US$325 million or about £225 million.  This is the kind of sum that one might expect HMRC to demand at least as an initial negotiating position. Taxation law may intervene on Google’s side at this juncture; but that is a problem not for HMRC but for the politicians.

Hand-wringing over HMRC’s arrangement with Google is understandable given that the amount assessed (and widely publicised) is equivalent to a mere £13 million per year for ten years of back taxes. Such a paltry sum looks like a capitulation - not least because the Organisation for Economic Co-operation and Development (OECD) has drawn up a comprehensive framework for dealing with aggressive corporate tax avoidance. Known as the Basic Erosion and Profit Shifting Project (BEPS), it has recently been endorsed by all the member states. Implementation needs to be coordinated at least among the major players and will therefore take time; but with major reform in the offing it is hard to believe that HMRC officials could not have struck a tougher deal with Google - or simply have waited. We can only speculate as to why they did not do so.

Meanwhile, what can the concerned citizen do? The answer is plenty. This is not a case of helpless individuals powerless either to influence the course of events or to bring tax inequities to public attention. Thanks to a US tradition of openness and distrust of government, the SEC EDGAR database is open to all. So this is an invitation to pick out a few US companies for yourself and see what you can find out that might be of interest and concern to the rest of us.