From The United States Mission to the European Union (USEU):

U.S. Treasury officials are working with tax-writing committees in Congress to bring U.S. international tax law into compliance with World Trade Organization (WTO) rules and simultaneously enhance the competitiveness of U.S. business overseas, says Pam Olson, assistant secretary of the Treasury for tax policy.

In December 12 remarks to a forum at George Washington University in Washington, Olson outlined the history of U.S. laws governing the taxation of overseas income, saying that outdated regulations place U.S. businesses at a competitive disadvantage and noting that recent efforts to fix the problem have been ruled inadmissible by the WTO.

She indicated that reforms would focus on "subpart F" tax code provisions passed in 1962 to govern international transactions and on restrictions limiting U.S. firms' use of foreign tax credits.

"The United States employs a worldwide tax system that, unlike other worldwide systems, may tax active forms of business income earned abroad before it has been repatriated and may more strictly limit the use of the foreign tax credits that prevent double taxation of income earned abroad," Olson said.

Laws passed by Congress to remedy these disadvantages -- first the Foreign Sales Corporation (FSC) law and its replacement, the Extraterritorial Income Act (ETI) -- have been successfully challenged in the WTO as inadmissible subsidies.  Most recently, the WTO authorized the European Union to impose retaliatory tariffs on U.S. imports of more than $4,000 million a year to compensate for the violations.

Olson said President Bush has made clear that his administration will comply with the WTO rulings but will also work to modernize the U.S. tax code to bring it into line with changes due to globalization.  To illustrate, she noted that trade in goods to and from the United States has jumped from 6 percent of gross domestic product (GDP) in 1960 to more than 20 percent today. In 2000, cross-border investment accounted for nearly 16 percent of GDP, up from just over 1 percent in 1960, Olson added.

"We have a tax code that has not kept pace with the globalization that has transpired over the last 40 years," she said. "It is time for us to review our rules based on the world in which we live today and the world we imagine for the future."

The United States must change its tax code to create a level playing field for U.S. and foreign companies and boost the international competitiveness of U.S. businesses and workers, a senior Treasury official says.  In November 14 remarks to the Tax Foundation, Deputy Treasury Secretary Kenneth Dam said that international provisions of the U.S. tax code "no longer serve our national interests," and that any tax reform should reflect the "present realities of international corporate business."  Dam said that two recent developments in the tax policy arena highlight the need for reform. Not only are U.S. corporations increasingly seeking to avoid taxes by reincorporating in tax havens outside the country, but the World Trade Organization (WTO) has consistently ruled against U.S. tax breaks for firms doing business overseas, first under the Foreign Sales Corporation (FSC) and then under its replacement, the Extraterritorial Income Act (ETI).

WTO panels determined that both laws gave tax breaks to certain U.S. exporters that amounted to subsidies violating WTO agreement. The WTO has authorized the European Union (EU) to impose retaliatory tariffs on U.S. imports of more than $4,000 million a year to compensate for the violations. Dam said that the United States will comply with the rulings because EU retaliation would have an impact on the global economy "far beyond" the targeted U.S. products. But the Treasury official said that Congress -- working in concert with the administration -- should focus reform efforts on an aspect of the U.S. tax code, known as Subpart F, and its treatment of active and passive income.

Subpart F gives beneficial tax treatment to certain income generated overseas mostly by large U.S. financial services companies, according to news reports. Dam said that a legislative change dealing with this issue should limit Subpart F to "truly" passive income such as portfolio dividends and interest. He called for legislation that would also address so-called "corporate inversions," but by taking away the incentive for, rather than flatly prohibiting, U.S.-based companies from relocating nominally to low or zero tax countries.

Dam said that an attempt to prohibit such transactions "confuses the symptoms with the disease" and would deny U.S. companies the same opportunity available to foreign companies that want to reduce U.S. taxes on their U.S. operations.

Instead, he proposed to deal with the problem by abolishing related-party interest deductions, limiting income shifting through transfer of intangible assets and eliminating unintended benefits of tax treaties.

But "to truly level the playing field we need to revisit the U.S. tax rules for foreign earned income," Dam said. "These rules have not kept pace with the rules of our major trading partners."

When U.S. tax law treats U.S.-owned and foreign-owned companies alike, Dam said, "our economy will be stronger and U.S. enterprises will be more competitive around the world."   For full text

On October 9, EABC President Willard Berry participated in a panel discussion, “Beyond FSC: New Rules in International Taxation”, at the Washington Trade Pro Expo. His remarks addressed current legislative attempts to remedy the outstanding dispute over the Foreign Sales Corporation (FSC) and its successor, the Extraterritorial Income Act (ETI).  

In particular, he pointed out the concerns of foreign-based companies with US subsidiaries over ‘earnings stripping’ provisions included in a tax bill pending with the House Ways and Means Committee.  Many foreign company subsidiaries are concerned that the new rules effectively raise their US tax burden, inflict significant compliance costs, undermine international norms covering interest deductions, and could potentially deter foreign investment in the United States.

The European Commission has privately circulated a detailed list of products against which the EU will reserve the right to apply over $4 billion in retaliatory sanctions, in a case involving the US Foreign Sales Corporation (FSC) tax regime and its successor, the Extraterritorial Income Act (ETI). An initial retaliation list was released on Friday to representatives from the fifteen EU member states, and will be published in the EU's official journal next week. This list reportedly covers US export products worth approximately $15 billion, and would be subsequently refined to meet the $4 billion threshold after consultations with EU member states and business representatives. According to one Commission official, the new product listing constitutes "a fine-tuning of the list which was first handed to the WTO in November 2000." This prior list covered 46 categories of US exports at the broad 'two-digit' product code level, accounting for $94.3 billion, or 59 percent of the value of all US exports to Europe in 2001. Early reports indicate that the retaliation list is much more specific, listing products at the 'eight-digit' level, and could focus on goods for which US exports represent less than one-fifth of total European imports, in order to minimize the impact on EU importing companies.

Last Friday a WTO arbitration panel ruled that the EU is authorized to apply retaliatory measures totaling $4.043 billion against the US FSC/ETI regime, which the WTO has definitively determined to be an illegal export subsidy. The ruling grants the EU the full amount of damages it had sought, and represents by far the greatest level of trade retaliation ever authorized by the international trade body.

The EU has signaled that it prefers US compliance rather than trade retaliation, and last week Trade Commissioner Pascal Lamy emphasized that "before any countermeasures are taken, we will carefully evaluate progress made on US implementation." Lamy cited specific steps taken so far to comply with the WTO ruling, including a bill introduced in Congress by Rep. Bill Thomas (R-CA) which repeals FSC/ETI while adding tax competitiveness provisions for US-based companies. Referring to the Thomas bill, Lamy called on Congress to "act quickly so that legislation will move forward and enable repeal of the FSC/ETI scheme within a short period of time." US Trade Representative Robert Zoellick, while signaling disappointment over the arbitrators' decision, also drew attention to the Thomas tax bill as a sign of compliance, adding that "when the dust has settled, we hope to find that the competitiveness of US firms has been strengthened, rather than diminished." Thomas also seized on the arbitration ruling to muster support for his tax bill, stating that "this penalty is just one more reason why our tax code needs a fundamental reform."

The EABC responded to the arbitration ruling by calling on both sides to closely manage the dispute, while highlighting the harmful consequences of retaliation in the case. "Rather than making a counterproductive move that would deal a blow to transatlantic commerce, the EU must give the US adequate time to abide by the WTO decision," said EABC Co-Chair and former Deputy Treasury Secretary Stuart Eizenstat.

For a copy of the EABC press release on the arbitration decision,
(PDF file) click here Ref. #35-1

GENEVA/BRUSSELS (Reuters) - The European Union won approval on Friday to slap a record $4 billion in sanctions on the United States over illegal U.S. export tax breaks, scoring a key victory against its giant trading partner. The award, by a special panel of arbitrators at the World Trade Organization (WTO), crowned a five-year feud over the U.S. scheme and comes at a time when EU-U.S. trade ties are under the cloud of another bitter battle over steel. But in a sign neither side wants the disputes to get out of hand, the EU said it would hold off from sanctions as it watched the progress Washington made in scrapping the scheme.

The United States said President Bush was working with Congress to comply with WTO rules and saw the sanctions ruling being made irrelevant by its efforts to change the law. "We find that the amount of $4.043 billion...can be considered to be a reasonable approximation of the actual value of the subsidy," the WTO panel said in an announcement that had been anxiously awaited by both sides for months.  The finding is by far the highest level of retaliation authorized since the Geneva-based international trade body was established in January 1995.

The Foreign Sales Corp (FSC), as the scheme is called, has benefited such firms as Boeing and Microsoft. The $4.043 billion figure met exactly the EU calculations for trade losses it said companies in the 15-state bloc were suffering as a result of the disputed tax concessions.

U.S. officials had argued just under $1.1 billion would be fairer. But the panel said that on the basis of figures provided by the United States, it calculated the annual damage to the EU at $3.74 billion, while the EU's numbers pointed to $5.33 billion -- suggesting it could have awarded Brussels even more. EU Satisfied, U.S. Upset
" We are satisfied by today's decision that makes the cost of non-compliance with WTO crystal clear," said EU Trade Commissioner Pascal Lamy in a statement.
" The arbitrators have endorsed the EU's request, i.e. they have given us an amount of potential countermeasures which will create a major incentive for the U.S. to eliminate this huge illegal export subsidy," he said.

His U.S. counterpart was unhappy. "I'm disappointed the (WTO) arbitrator did not accept the lower figure put forward by the United States," U.S. Trade Representative Robert Zoellick said in a statement. "I believe that today's findings will ultimately be rendered moot by U.S. compliance with the WTO's recommendations and rulings in this dispute," he added.

Commission trade official Nikos Zaimis said the European Union sought fast implementation of the WTO ruling. "We know that they (United States) have (congressional) elections in November. This is an important date for the future. Of course, we would like to see the U.S. comply before that date," he told a news conference.

WTO Chief Calls For Improved Trade Ties
The disputes, including one over steel still rumbling on, have come at a time when both the EU and the United States are supposed to be leading global liberalization trade talks.

WTO chief Mike Moore, about to step down, called on both sides to get over their conflicts.  "I urge both parties to continue to cooperate and work toward resolving this dispute and the others between them in an amicable and constructive fashion," he said.  "The EU and the United States are among the most important members of this organization and both hold a special responsibility to ensure the continued health and soundness of (the) WTO and (the) global trading system."

The EU has said that before taking any sanctions action, it will consult with European industry on what goods it will hit. It has hinted it is prepared to stay its hand as long as Washington is making efforts to revise its laws.  European External Affairs Commissioner Chris Patten said the EU was concerned to "minimize the fallout" from the trade rows.

U.S. Law Changes Face Opposition
There have been calls by some U.S. congressmen for the administration to hit back over losing the FSC case by challenging parts of the complicated EU tax laws which they say help European exporters.  In a bid to hold off EU retaliation, there have been moves in the U.S. Congress on an alternative bill to aid exporters.  But the proposals are opposed by Boeing and other beneficiaries of the scheme, which say that they do not go far enough.

The aeronautics company has warned that nearly 10,000 jobs could be lost unless a comparable system is devised, a powerful argument with congressional elections looming. Despite EU hopes for a quick law change, U.S. politicians were doubtful.  "I don't think there any chance of doing it before 2003," a Senate Finance Committee official said, noting lawmakers have only about five weeks left before they adjourn for the year.

The FSC row has been overshadowed in recent months by a dispute over new steel import duties imposed by Washington in March. The EU last month steered clear at the last minute of hitting Washington with sanctions of more than $300 million. (additional reporting by Robert Evans in Geneva, Doug Palmer in Washington

An arbitration panel at the World Trade Organization (WTO) has again delayed the release of its decision on the damages which the European Union can claim in conjunction with its case against the United States’ Foreign Sales Corporation (FSC) replacement scheme.

The WTO panel ruled definitively last January that the Extraterritorial Income Act (ETI), legislation which replaces the FSC tax regime, comprises an illegal export subsidy.  However the decision establishing damages, which would authorize the EU to apply retaliatory sanctions, was initially expected on April 29 but has now been delayed for a third time.  

The arbitration ruling is now expected in mid-August, as panelists reportedly require additional time to finalize the decision.

House Ways and Means Committee Chairman Bill Thomas (R-CA) has put off until September the markup of his corporate tax bill to stop companies from moving offshore for tax purposes and to bring US tax laws into compliance with the World Trade Organization (WTO) ruling in the Foreign Sales Corporation (FSC) dispute.

Thomas told reporters Tuesday that he was still talking with lawmakers and business groups about possible changes to the bill (HR 5095) and that those consultations would resume after the month-long recess of the House, which begins today.

While Thomas was involved in negotiations this week with the Senate on a corporate accountability bill and trade promotion authority (TPA), the delay in the mark up of HR 5095 was the result of concerns raised by some Ways and Means Committee members with the proposed legislation.  Republicans on the committee have raised objections to the bill because they believe it will increase taxes for US exporters that manufacture in the US and currently receive FSC benefits.

Opposition to the bill has also been generated by provisions to limit the debt deductions for US subsidiaries of foreign firms. For the full text, please visit www.eabc.org

Republican members of the House Ways and Means Committee unveiled a much-anticipated international tax bill that places extensive restrictions and penalties on companies that reincorporate abroad for tax reasons, closes various tax shelter loopholes, and includes provisions to ‘enhance the competitiveness’ of US multinational companies in the global marketplace.

The American Competitiveness and Corporate Accountability Act of 2002 (H.R. 5095), sponsored by Committee chairman Bill Thomas (R-CA), also repeals the Extraterritorial Income Act (ETI), a replacement regime for the Foreign Sales Corporation (FSC), in an effort to comply with a World Trade Organization (WTO) ruling that the FSC/ETI scheme violates international trade laws.  Thomas described the measure as revenue-neutral, meaning that any corporate tax breaks provided through the bill’s competitiveness provisions would be funded by the revenue raised with the FSC/ETI repeal and the tightening of inversion rules.

The Committee chairman has expressed his desire to see the bill marked up by the Committee next week and approved by the House before the summer recess in August.

Click on these links for a copy of H.R. 5095 and a summary provided by the Ways and Means Committee. Ref. # 28-1... For the full text, please visit www.eabc.org

Summary – In a wide-ranging discussion with EABC members on Friday, EU Trade Commissioner Pascal Lamy said that the European Union may forego retaliatory measures against the US if enough European steel manufacturers are granted exemptions from US tariffs. Regarding US compliance with the World Trade Organization’s (WTO) January ruling that benefits for US exporters under the Foreign Sales Corporation (FSC) tax regime violate international trade rules, Lamy told the EABC audience that potential EU sanctions of up to $4 billion worth of US goods would be delayed as long as the US makes enough progress on complying with the WTO decision.  

In addition, he warned that a failure by the US Congress to give President Bush trade promotion authority could have a damaging effect on multilateral efforts at trade liberalization in the World Trade Organization. Commissioner Lamy was in Washington this week for talks with Congressional lawmakers and Administration officials about US steel tariffs, which the EU argues are illegal and has threatened to retaliate against with a so-called “short list” of sanctions by mid-July. Lamy also assessed US progress on compliance with the WTO FSC/ETI ruling.

With respect to the FSC dispute, Lamy said that there was “no ambiguity” in the WTO ruling that the benefits to US exporters under the FSC regime had to be removed and that the “next question” would be how and when the US intended to comply. He said that he had had an “active discussion” with Treasury Secretary Paul O’Neill in a meeting on Thursday and that he would also raise the issue with US Trade Representative Robert Zoellick and lawmakers on Capitol Hill on Friday.

Asked about the possible linkage between US efforts to change the tax code to comply with the WTO ruling on FSC and a recent Treasury Department study on corporate inversions, the Commissioner rejected any notion that foreign-owned companies should have to pay for any costs associated with changes in US tax laws… For the full text, please visit www.eabc.org

Summary – Former U.S. Deputy Treasury Secretary Stuart E. Eizenstat and John M. Weekes, former Canadian ambassador to the World Trade Organization, talked about EU-U.S. trade relations May 17th at the National Press Club Morning Newsmaker Program in Washington.  They predicted that a real chance exists for EU trade sanctions on U.S. goods as a result of the steel dispute between the United States and the European Union.

However, they say, retaliation over the FSC Repeal and Extraterritorial Income Exclusion Act is far less likely. (In Full Text)... As of 17 June, the EU side will have a legal right to retaliate in the ETI Act, at an amount between US $1 billion and US $4 billion, he said.” (Eizenstat).  “Having the right to retaliate, and whether or not it is productive to exercise that right, is a quite difference story,” Eizenstat said.

“It is my hope and belief…that European Union is likely not to retaliate on 17 June, even though it will have the legal right to do so: and will give the United States time to come into compliance. ” ...

WASHINGTON – Bush Administration officials testifying before the House Ways and Means Committee on Wednesday made it clear that major changes to the corporate tax system would be necessary in order to meet the terms of a final World Trade Organization (WTO) ruling on the Foreign Sales Corporation (FSC) tax regime.  In the first Congressional hearing since the WTO ruled that the FSC replacement legislation is not compliant with the WTO rules, legislators emphasized the significant obstacles and political sensitivity of undertaking such reforms and urged the Administration to take a leadership role on proposing specific solutions.

The European Union, which has pursued the long-standing WTO compliant against the US tax regime, will be authorized to pursue retaliatory sanctions once an amount of damages has been set by April 28, but EU officials have suggested they would exercise patience in suspending retaliation if they perceive real progress towards US compliance.

WASHINGTON – In a submission filed today with the World Trade Organization (WTO) the United States continued its strong challenge to the amount of trade sanctions claimed by the European Union in the Foreign Sales Corporation (“FSC”) dispute. Disputing the EU’s claimed amount of $4.043 billion, the United States asserted that the proper amount of sanctions was no more than $956 million.

“The amount we have suggested is linked to the purported impact of the FSC on the EU’s actual trade interests,” said United States Trade Representative Robert B. Zoellick. “Our figure is supported by the facts of this case, WTO rules and common sense.”  

Today’s submission was made in a WTO proceeding in which the U.S. has challenged the EU’s claim that trade sanctions against U.S. exports to the EU may be set at $4.043 billion.

In a submission to the WTO last week, the U.S. provided preliminary comments on the EU’s calculations. In today’s additional submission, the U.S. laid out in greater detail its views regarding the proper method for calculating sanctions in the FSC dispute… For the full press release, please go to www.ustr.gov

WASHINGTON – The European-American Business Council (EABC) called on officials from the United States and the European Union (EU) to continue their efforts to manage and resolve the Foreign Sales Corporation (FSC) dispute, following today’s final rejection of the United States’ FSC replacement regime by a World Trade Organization (WTO) appellate body. The EABC warned that given the unprecedented size of potential retaliation in the WTO case, and the complexity involved in complying with the decision, it is essential that the parties involved work towards achieving a negotiated solution that fulfills WTO requirements. The alternative of retaliatory action by the EU would have a disturbing impact on relations between the US and the EU, and could undermine billions of dollars’ worth of transatlantic trade.

The WTO is expected to rule in mid-January on the US appeal to the Appellate Body challenging the WTO Dispute Settlement unit's rejection of the replacement plan for the Foreign Sales Corporation (FSC) tax benefit for US exporters. A WTO ruling last summer called the US tax regime an illegal export subsidy. The FSC remains a major transatlantic dispute since a loss of the appeal could promise as much as $4 billion in EU trade retaliation against the US.

The US has not indicated what its response would be should the appeal fail. The options include: trying once again to change US law to bring it into compliance with WTO rules; offering the EU trade compensation for trade damage caused by the tax provision; accepting retaliation by the EU; or negotiating new WTO rules related to industrial export subsidies. While many predict that the US will lose the appeal, the US Administration hopes that its appeal filing will result in further guidance from the WTO on how it might comply with rules and provide a "different basis" for a resolution of the dispute.

Leaders on both sides of the Atlantic have made great efforts to keep the dispute from spinning out of control, and continue to work toward that end. Some time remains to pursue other options before retaliation would occur. The mid-January ruling on the appeal would take 10 to 15 days for circulation and adoption. The arbitration process of the amount of damages would then begin and probably not be completed until the middle of April. Then retaliation by the EU would become a real threat.

This letter is a response to Joseph Englert's recent correspondence with U.S. Trade Representative Robert Zoellick.   Click here to view it.

Note: The copy of the letter is in Acrobat PDF format, click here to obtain a free viewer if you need one.