Should Uncle Sam Be Doing More to Get His Hands on the $1.7 Trillion U.S. Companies Hold Overseas? Mike Kemp / Getty Images We're once again in the thick of earnings season and not only are U.S. companies reporting solid profits, but many large, multinational firms are also disclosing big cash stockpiles, especially at their foreign subsidiaries. The Wall Street Journal reported yesterday that some of America's best-known firms are stashing a majority of their cash abroad, where they can shield it from getting taxed by Uncle Sam. For instance, according to the report, Apple stores 68% of its $121.3 billion in cash abroad. Likewise, Microsoft, biopharmaceutical company Amgen, and chip-maker Qualcomm each keep 87%, 63%, and 74% of their cash reserves at foreign subsidiaries. One of the main reasons for this phenomenon is the the U.S. corporate tax code, which refrains from taxing U.S. domiciled firms on profits made at foreign subsidiaries, as long as the cash remains at those subsidiaries and isn't transferred back to the corporate parent. Interestingly enough, this doesn't mean that the money can't actually be sitting in American banks or be invested in U.S. government debt. As the Journal notes: "Some companies, including internet giant Google Inc., software maker Microsoft Corp, and data-storage specialist EMC Corp., keep more than three quarters of the cash owned by foreign subsidiaries at U.S. banks, held in U.S. dollars, or parked in U.S. government and corporate securities, according to people familiar with the companies" cash positions." U.S. Officially Has the Top Corporate Tax Rate. Or Not.) This anecdote is sure to raise the ire of some folks who feel that Corporate America has become far too adept at avoiding taxes. After all, if the rule is that we can't tax foreign profits unless they are brought back to America, then these profits should be kept in foreign banks, not enjoying the safety and security of American banks and dollar-denominated assets. But this argument misinterprets the purpose of deferred taxes on foreign profits. For if a foreign subsidiary of a U.S. company were subject to U.S. taxes and taxes in the country where the subsidiary is domiciled, that would amount to double taxation, and would tempt foreign governments to doubly tax American subsidiaries of foreign firms, which would suppress investment in the American economy. That being said, it's obvious that the corporate tax regime in America and internationally is inefficient and convoluted. As my colleague Rana Foorohar wrote in a recent magazine column, multinational firms have devised very clever ways to shift profits towards low-tax jurisdictions and away from higher-tax jurisdictions like the U.S. There are rules against this sort of thing, but they can be difficult to enforce. In addition, the current system of taxation in many situations promotes investment abroad rather than at home. The U.S. has a high average federal-state combined corporate tax rate of 39.5%. Not all firms end up paying this rate because of various wrinkles in the tax code, but even when you look at effective corporate tax rates, the U.S. still comes in on the high end of the spectrum. Therefore, all else being equal, corporations are going to decide to invest in countries like Ireland with low corporate tax rates. Allowing firms to avoid paying any additional taxes on profits earned abroad only makes the decision to invest in low-tax jurisdictions easier. Unfortunately, most popular proposals for reform are far from perfect. The right is generally in favor of shifting towards a purely "territorial" form of corporate taxation, whereby the U.S. would only tax economic activity that occurs within its borders. Advocates of this system argue that the developed world is moving towards lower corporate tax rates and a territorial system of taxation, and this is putting America at a competitive disadvantage. Why would a company want to be headquartered here when it cannot distribute profits to shareholders without paying additional taxes on profits on top of those paid in the country where the profit was earned? The problem is that a territorial system will incentivize investment in countries with the lowest corporate tax rate, potentially forcing the U.S. and other nations into a race to the bottom as far as corporate tax rates - and perhaps eventually shifting the burden for funding governments from wealthy, powerful multinational companies to individuals and small businesses who are already stretched thin. But there must be a better way. One idea, proposed by economists Kimberly A. Clausing and Reuven S. Avi-Yonah, is to reform the international tax regime to mimic what states in the U.S. do to divy up tax revenue fairly. This system, called "formulary apportionment," taxes companies based on how much it sells to residents of a specific country. For instance if Company A sells 30% of its widgets to American-based consumers, 30% of its profit would be subject to the U.S. tax rate. This sort of system would relieve firms from the temptation to use complicated maneuvers to shift profits between jurisdictions, because it would base taxes off of easily documentable sales, which aren't as easily manipulated as the location of income. And the U.S. could adopt this system unilaterally even if it wasn't able to get cooperation from other wealthy countries. Switching to a formulary apportionment system would immediately incentivize firms to report their income in the U.S., because the U.S. would not be taxing based on reported income. This would draw revenue away from countries who use a territorial system, and encourage those countries to adopt formulary apportionment. Unfortunately, this proposal hasn't made much headway in the U.S., or abroad. Any radical changes to the system will be met with fierce opposition from firms that are benefitting from the corporate-tax race to the bottom that we have now. Hopefully, as the President and Congress tackle tax reform in the coming years, they'll give formulary apportionment the attention it deserves.