WASHINGTON: Even as Apple became the nation's most profitable technology company, it avoided billions in taxes in the United States and around the world through a web of subsidiaries so complex it spanned continents and went beyond anything most experts had ever seen, congressional investigators disclosed on Monday.
The investigation is expected to set up a potentially explosive confrontation between a bipartisan group of lawmakers and Timothy D Cook, Apple's chief executive, at a public hearing on Tuesday.
Congressional investigators found that some of Apple's subsidiaries had no employees and were largely run by top officials from the company's headquarters in Cupertino, Calif. But by officially locating them in places like Ireland, Apple was able to, in effect, make them stateless - exempt from taxes, record-keeping laws and the need for the subsidiaries to even file tax returns anywhere in the world.
"Apple wasn't satisfied with shifting its profits to a low-tax offshore tax haven," said Sen. Carl Levin, D-Mich., who is chairman of the
that is holding the public hearing Tuesday into Apple's use of tax havens. "Apple successfully sought the holy grail of tax avoidance. It has created offshore entities holding tens of billions of dollars while claiming to be tax resident nowhere."
Thanks to what lawmakers called "gimmicks" and "schemes," Apple was able to largely sidestep taxes on tens of billions of dollars it earned outside the United States in recent years. Last year, international operations accounted for 61 percent of Apple's total revenue.
Investigators have not accused Apple of breaking any laws and the company is hardly the only American multinational to face scrutiny for using complex corporate structures and tax havens to sidestep taxes. In recent months, revelations from European authorities about the tax avoidance strategies used by Google, Starbucks and Amazon have all stirred public anger and spurred several European governments, as well as the Organization for Economic Cooperation and Development, a Paris-based research organization for the world's richest countries, to discuss measures to close the loopholes.
Still, the findings about Apple were remarkable both for the enormous amount of money involved and the audaciousness of the company's assertion that its subsidiaries are beyond the reach of any taxing authority.
"There is a technical term economists like to use for behavior like this," said Edward Kleinbard, a law professor at the University of Southern California in Los Angeles and a former staff director at the Congressional Joint Committee on Taxation. "Unbelievable chutzpah."
While Apple's strategy is unusual in its scope and effectiveness, it underscores how riddled with loopholes the American corporate tax code has become, critics say. At the same time, it shows how difficult it will be for Washington to overhaul the tax system.
Overall, Apple's tax avoidance efforts shifted at least $74 billion from the reach of the Internal Revenue Service between 2009 and 2012, the investigators said. That cash remains offshore, but Apple, which paid more than $6 billion in taxes in the United States last year on its American operations, could still have to pay federal taxes on it if the company were to return the money to its coffers in the United States.
John McCain of Arizona, who is the panel's senior Republican, said: "Apple claims to be the largest US corporate taxpayer, but by sheer size and scale, it is also among America's largest tax avoiders."
In prepared testimony expected to be delivered to the Senate committee by Cook and other Apple executives on Tuesday, the company said it "welcomes an objective examination of the US corporate tax system, which has not kept pace with the advent of the digital age and the rapidly changing global economy."
The executives plan to tell the lawmakers that Apple does not use tax gimmicks, according to the prepared testimony.
Cook is also expected to argue that some of Apple's largest subsidiaries do not reduce Apple's tax liability, and to press for a sweeping overhaul of the US corporate tax code - in particular, by lowering rates on companies moving foreign overseas earnings back to the United States. Apple currently assigns more than $100 billion to offshore subsidiaries.
Atop Apple's offshore network is a subsidiary named Apple Operations International, which is incorporated in Ireland - where Apple had negotiated a special corporate tax rate of 2 percent or less in recent years - but keeps its bank accounts and records in the United States and holds board meetings in California.
Because the United States bases residency on where companies are incorporated, while Ireland focuses on where they are managed and controlled, Apple Operations International was able to fall neatly between the cracks of the two countries' jurisdictions.
Apple Operations International has not filed a tax return in Ireland, the United States or any other country over the last five years. It had income of $30 billion between 2009 and 2012. By shuttling revenue between international subsidiaries, Apple was able largely to sidestep paying taxes, congressional investigators said.
In the prepared testimony, Apple executives disputed the characterization of Apple Operations International. "AOI performs important business functions that facilitate and enhance Apple's success in international markets," the testimony states. "It is not a shell company."
The Senate investigators also found evidence that the company turned over substantially less money to the government than its public filings indicated.
While the company cited an effective rate of 24 to 32 percent in its disclosures, its effective tax rate was 20.1 percent, based on the committee's findings. And for a company of Apple's size, the resulting difference was substantial - more than $8 billion in 2009, 2010 and 2011.
Because of these strategies, tax experts say, Washington is forced to rely more and heavily on payroll taxes and individual
to finance the government's operations. For example, in 2011, individual income taxes contributed $1.1 trillion to federal coffers, while corporate taxes added up to $181 billion.
As companies' earnings have accumulated offshore, many executives have been pushing more aggressively for a tax holiday that would allow them to bring back funds at lower tax rates. Apple has recently announced that it will return $100 billion to shareholders over three years through a combination of dividends and purchases of its own shares. Though Apple has enough cash on hand to pay for those initiatives, the company recently announced it would take on $17 billion in debt, rather than bring overseas money back to the United States to avoid paying repatriation taxes on those returning funds.
"If Apple had used its overseas cash to fund this return of capital, the funds would have been diminished by the very high corporate US tax rate of 35 percent," Cook is planning to testify, according to the prepared text. Apple "believes the current system, which applies industrial era concepts to a digital economy, actually undermines US competitiveness."
Critics, however, say these so-called repatriation holidays, which bring back funds at lower
rates, do virtually nothing to stimulate the economy and benefit only corporations, their executives and shareholders. Congress enacted a repatriation holiday in 2004, allowing corporations to bring back about $300 billion from overseas and pay just 5.25 percent rather than the regular 35 percent corporate rate.
But a study by the National Bureau of Economic Research found that 92 percent of the repatriated cash was used to pay for dividends, share buybacks or executive bonuses.
"Repatriations did not lead to an increase in domestic investment, employment or R&D, even for the firms that lobbied for the tax holiday stating these intentions," concluded the study, which was conducted by a team of three economists that included a former Bush administration official.
Tuesday's hearing on Capitol Hill, along with the disclosures about Apple's tax policies, are likely to make lowering repatriation taxes a more difficult proposition for lawmakers to stomach, congressional staff members said.
On Capitol Hill on Monday, legislators made plain their fury over what they called Apple's "egregious" and "outrageous" conduct.
While other companies have taken advantage of loopholes, Levin said, "I've never seen anything like this and we don't know anybody who's seen anything like this."