GILTI as Charged: New Corporate Tax Proposal Would Accelerate Tax Avoidance

New proposal would reopen loopholes in the tax code and make it easier for multinational corporations to avoid paying what they owe the state.

Published on Apr 6, 2023 in Tax and Budget

At a time of record corporate profits and continued economic uncertainty for everyday New Jerseyans, a new corporate tax proposal would re-open loopholes in the tax code that state lawmakers wisely closed years ago, allowing multinational corporations to avoid paying what they owe to the state. The legislation, A5323/S3737, is nothing less than an open invitation for wealthy multinational corporations to shift profits they earn in New Jersey to subsidiaries in foreign tax havens.

NJPP recommends that two provisions be removed, and the entire bill closely studied, to preserve tax fairness and revenue stability for the state:

  1. The bill must preserve existing protections from deducting interest and royalty payments to related subsidiary corporations.
  2. The bill must preserve New Jersey’s existing conformity with federal rules on the treatment of global intangible low-tax income (GILTI).


Major Changes Deserve Major Debate and Rigorous Analysis

The proposed legislation, which was negotiated behind closed doors by lawmakers and representatives of big multistate and multinational corporations over many months, contains more than a dozen separate provisions modifying New Jersey’s Corporation Business Tax (CBT).

When dealing with any legislation of this scope, extensive analysis is needed to evaluate the effects of these changes on the state budget in the short- and long term. Despite this complexity, the business lobby is urging swift passage of the bill.

Unfortunately, the proposal creates two enormous loopholes that could strip the state of hundreds of millions of dollars of revenue. This is on top of the revenue that the state will lose if lawmakers move forward with a plan to cut the corporate tax rate for businesses with more than $1 million in annual profit.

Loophole 1: Phantom Interest and Royalty Payments That Reduce Tax Liabilities

First, the bill repeals longstanding provisions in the tax code that prevent corporations from artificially reducing their tax liability by making phantom royalty and interest payments to shell companies based in foreign tax havens.[i]

This is a bit abstract, so an example is helpful here. Say Megacorp earns $1 million in net New Jersey income. Megacorp creates a foreign subsidiary, Mascot LLC, which owns the rights to Megacorp’s mascot. Megacorp pays its subsidiary $900,000 a year for the rights to use its own mascot. They then get to reduce their taxable income (to $100,000) and their corporate tax bill as a result. (A similar scheme actually happened with Toys ‘R’ Us using a Delaware subsidiary for Geoffrey the Giraffe.)

State lawmakers largely closed this loophole for U.S.-based subsidiaries through mandatory “combined reporting,” which treats all parent and subsidiary income as a single corporation for tax purposes, so the hypothetical $900,000 would still count as taxable income.

But for foreign subsidiaries, combined reporting does not apply (i.e., it stops at the “water’s edge”), meaning that the current law prohibiting the deduction of interest and royalty payments is still necessary to prevent the scheme described above and other variants.

Despite this provision’s potentially significant impact on tax avoidance, there is no indication of any revenue loss from the Treasury Department in their analysis of the bill. But it gets worse.

Loophole 2: GILTI Repeal That Allows More Foreign Profit-Shifting

Given the proliferation of corporations shifting their profits into foreign tax havens — a practice made much easier thanks to the 2017 Trump tax cuts — New Jersey wisely linked its corporate tax code to a federal anti-abuse provision that created a new category of taxable income called GILTI: global intangible low-taxed income.

The GILTI provision effectively creates a minimum tax for income from foreign subsidiaries, limiting corporate tax avoidance schemes by including 50 percent of this foreign GILTI income as taxable income.

Many states have followed suit by adopting similar GILTI provisions, and New Jersey is one of roughly a dozen other states that fully conform with the federal government by counting 50 percent of GILTI as taxable income. But A5323/S3737 would repeal this inclusion, guaranteeing that once New Jersey profits are shifted abroad, they’re gone from New Jersey’s tax base for good.

Corporate lobbyists claim that repealing GILTI is needed to make New Jersey more competitive, but there is no evidence that corporations have chosen to move business in or out of states due to their inclusion or exclusion of GILTI. And as a matter of sound tax policy and fairness, the state tax code should discourage corporations from shifting their profits abroad.

Although GILTI is a complex concept, state conformity with the federal rule is easy to implement because corporations already have to abide by federal GILTI rules. And for corporations that think they’re being taxed unfairly due to GILTI, there is already an alternate option: Any multinational corporation can avoid GILTI when filing their taxes by including its foreign subsidiaries in its combined reporting calculation as stateside subsidiaries. This sounds complicated, but the point is that corporations already have options on how they file their state taxes that do require repealing the state’s GILTI provision.

As large multinational corporations continue to become more sophisticated in their tax avoidance and income-shifting schemes, it’s necessary for states like New Jersey to tax them fairly and on a level playing field with corporations and small businesses without a foreign presence.

Corporate Tax Schemes Help Their Shareholders, Not New Jersey 

Allowing corporations to shift their profits to foreign tax havens will only benefit large multinational corporations that can afford to play these games at the expense of everyone else. New Jersey should be strengthening its corporate tax laws to go after deep-pocketed tax dodgers, rather than watering them down. And any argument that strong corporate tax law hurts the business climate must run into the reality that New Jersey corporate profits, employment, and business starts continue to rise.

Repealing the related-party interest deduction rules and GILTI conformity open up the corporate tax system to the abuses of the past, depriving the state of much-needed revenue while opening the door to additional tax avoidance schemes.

End Note

[i] Assembly Bill No. 5323, p. 6, lines 6-48 (Mar. 20, 2023, as introduced).