WTO Says U.S. Tax Law Skirts Global Rules

In a stinging rebuke to the United States, the World Trade Organization has ruled that billions of dollars in tax breaks enjoyed by U.S. multinational corporations violate global trade rules.

The ruling by the WTO, potentially the most financially significant in its six-year existence, is sweet revenge for European officials. They have been miffed at what they view as aggressive U.S. challenges to their own trade practices, notably restrictions on the import of beef and bananas.

Although details of the decision, which is to be formally announced at the WTO’s Geneva headquarters today, were sketchy late Wednesday, it clearly represented a major embarrassment for the United States.

The ruling could ultimately force the U.S. to amend the disputed tax provision or face massive financial penalties on a large share of its export products.

Although administration officials have repeatedly assailed Europe for failing to abandon trade barriers ruled illegal by the WTO, they say they have no intention of changing the corporate tax break. They plan to press Europe to drop the matter, perhaps as part of a larger deal.

In a statement Wednesday, Treasury Secretary Lawrence Summers said the U.S. tax provision was “widely viewed as creating a level playing field” for U.S. firms competing with Europe. “We’ll work closely with the Europeans, the business community and the Congress to achieve a constructive solution,” he said.

Administration officials say the tax break, which is held dear by many major U.S. corporations, will be worth more than $4 billion to corporate America next year and $24 billion in the next five years. Used by firms that operate overseas entities, it is criticized by foreign competitors as a subsidy that gives U.S. firms an unfair advantage over rivals from Europe and Asia.

Ironically, it was the smaller U.S. victories on beef and bananas that persuaded European officials to lash out against the American tax provision as an illegal export subsidy. In particular, Europe was irritated by the determined American challenge to its restrictions on bananas, a product of little economic consequence in the United States except to the Chiquita Corp.

The European Union formally complained in 1998 that the Foreign Sales Corporation (FSC) provision of the U.S. tax code amounted to an illegal export subsidy.

At issue are separate sales entities established by U.S. firms mostly in the U.S. Virgin Islands, Barbados and Guam that take advantage of tax exemptions on much of export income. Among the major beneficiaries is Boeing Co.

The EU claims about 50% of all U.S. exports pass through the shelters, shaving between 15% and 30% off the tax bills of U.S. exporters each year. U.S. officials couldn’t confirm those numbers.

Under WTO rules, a losing party must implement the ruling in a “reasonable” period of time, generally within about 15 months, or provide compensation to the winner. Otherwise, Europe could request WTO approval to impose punitive tariffs against U.S. imports, just as the United States has done in the cases of bananas and hormone-treated beef.

The United States and Europe have dueled for years over tax policies designed to help corporations compete in the global economy. The FSC program, which took effect in 1985, did not appear to concern Europe until recently.

But last October, Europe won an initial WTO ruling that sent tremors through U.S. boardrooms. U.S. officials subsequently signaled some interest in pursuing out-of-court talks with Europe, but the EU chose to let the process play out--a strategy that was rewarded by the WTO’s final ruling.