Demystifying the DBCFT Alan Auerbach BPEA September 8, 2017

The DBCFT What is it? Motivation for it Misunderstandings about it

DBCFT – What is It? Starting from current US tax system… Income tax for corporate and non-corporate businesses Worldwide international approach Tax US-source income of all businesses Tax foreign-source income of US resident businesses, with a foreign tax credit Adopt big domestic and international changes

DBCFT – What is It? Cash flow tax: Destination based: Replace depreciation with immediate expensing Eliminate interest deductions (for NFCs) Destination based: Ignore foreign activities, as under a territorial tax But also effectively ignore cross-border activities, by having border adjustments offset business export revenues and import expense deductions Equivalent to replacing business income tax with VAT plus a wage deduction or payroll tax credit

Motivation Source: OECD Tax Database

A Changing Economic Setting In last half century, Share of IP in nonresidential assets doubled. Share of before-tax corporate profits of US resident companies coming from overseas operations increased by a factor of 6. Result: Increased pressure on taxing based on company residence, location of production, or location of profits

DBCFT as an Alternative Eliminates: incentive to shift profits out of US, since doing so only affects (and increases) foreign tax liability incentive to shift production out of US, since zero tax on US-source profits incentive for corporate inversions, since eliminates US tax on US companies’ foreign-source earnings lock-out effect, since no tax on profit repatriations

Misunderstandings Border adjustment is protectionist DBCFT won’t affect the measured trade deficit Border adjustment raises revenue only in the short run, or not at all DBCFT induces windfall gains and losses that a VAT doesn’t DBCFT is regressive