U.S. Becoming a Tax Haven : New Laws May Make It World’s Biggest Refuge

Bjorn Borg did it. So did British suspense writer Frederick Forsyth and actor Sean Connery. For years, the world’s rich and famous have set up residence in such exotic locales as Monaco, Ireland and the island of Malta when they were rolling in money and wanted to avoid making stiff income tax payments in their home countries.

Now the United States, where the maximum federal tax rate on the highest earners will plunge from the current 50% to 38.5% next year and 28% in 1988, is making a run at joining the list of low-tax countries.

“The U.S. is on the verge of becoming the world’s biggest tax haven; we’re not talking Cayman Islands or Hong Kong here,” said John Makin, chief economic analyst at the Washington-based American Enterprise Institute, contrasting the relatively small tax refuges elsewhere to the much larger weight of the United States in the global economy. “Other nations are under pressure to react.”

And react they are, for fear in part that corporate capital and entrepreneurial brains might otherwise flee to the United States.

And there are a number of other compelling reasons why the drive to slash tax rates that reached full flower in the United States this year is about to blossom as well in many other advanced industrialized nations around the globe.

Multinational corporations in search of lower taxes, for instance, have a host of complex methods for artificially shifting taxable profits from one locale to another. And even without the competitive pressures from the United States, the generally conservative parties that rule most industrial countries today are salted with high officials who are urging a reduction in tax rates in an effort to spur lagging domestic economic growth.

In Tokyo, for example, after nearly a decade of quiet debate, Japan’s ruling party announced earlier this month a plan for a sweeping overhaul of that nation’s aging tax code. While the Japanese tax package will be different in many ways from the new U.S. tax code, officials in Tokyo acknowledge that they were finally spurred to act in large part by the radical changes in American tax law.

Other Countries Acting

In addition to Japan, countries such as Canada, Australia, West Germany, France and even Sweden have either cut their own rates in recent years or are considering such actions in the near future. Britain, which began dropping its punitive 83% maximum income tax rate to 60% as early as 1979, is also likely to make further changes if Prime Minister Margaret Thatcher is returned to power in the next election either next year or in 1988.

The reasons for the tax rate reductions vary, but many of them are motivated by the need to ensure that corporate capital and rich entrepreneurs don’t leave home in search of a lighter tax burden. By comparison with the new U.S. tax rates, for instance, the top personal tax rates imposed by national governments abroad vary from 80% in Sweden and 70% in Japan to 56% in West Germany and 55% in Canada.

In Canada, the only nationally circulated newspaper, the Toronto Globe and Mail, recently used the country’s obsession with hockey to underline the fear that high taxes will drive its most 1986096245pastures south of its border. Worried that Canadian players who dominate the National Hockey League will migrate to U.S. teams to avoid higher tax rates, the paper said in an editorial, “The danger of the Stanley Cup leaving Canada forever has increased substantially.”

‘Brain Drain’ Threat

Other countries, particularly those with English-speaking populations, are also worried about the exodus of talented individuals to the United States.

“A young man just starting out here might not move to Hong Kong in search of lower tax rates, but he might well go to the United States,” former Australian Prime Minister Malcolm Fraser, a leader of the nation’s conservative party, told a magazine interviewer earlier this year.

With his country’s tax system collecting as much as 60% of everything earned over $22,400, Fraser added, “a small country like ours would only have to lose 100, at the most 200, of its brightest and most inventive people each year to find itself drained of wealth for the future.”

In some European countries, when all national and local taxes are taken into account, the extra--or “marginal”--tax on each increase in earnings can soar to as much as 90% on relatively modest incomes, according to a recent study by the Price Waterhouse accounting firm.

A family of four with an income of $45,000, for example, faces a marginal tax burden of 45% in France, 48% in Germany, 53% in Italy, 60% in Britain, 64% in Denmark and Austria and 90% in Sweden.

Switzerland Comes Close

Only Switzerland, with a tax rate of 34%, comes close to the overall 31% marginal tax rate that will apply at such income levels in the United States after tax revision becomes fully effective in 1988.

“Tax reform is on the agenda in almost all developed countries today,” Roger J. Mentz, assistant Treasury secretary for tax policy, said in a recent interview. “From a competitive standpoint, they can’t afford to allow their tax rates to be too far out of line.”

Mentz’s office has become a popular stopping-off point for dozens of foreign tax officials in search of advice on how to cut tax rates. Also, Mentz is to be a featured speaker at a conference in Paris next month on international tax reform sponsored by the 24-nation Organization for Economic Cooperation and Development.

West Germany and Japan are both contemplating tax revision, primarily in an effort to spur their stagnant economies.

Prodding From Administration

The Reagan Administration has continually prodded both countries this year to stimulate their domestic economies as a way to help ease the U.S. trade deficit. But while the American government has applauded Japan’s efforts, it has frequently criticized West Germany for failing to respond.

Recently, however, Treasury Secretary James A. Baker III acknowledged that the German government could not be expected to adopt new economic measures until after parliamentary elections in January, while signs are growing within West Germany itself that some officials now see the need for more aggressive economic policies.

“Calls for more vigorous German performance no longer ring out solely from the far side of the Atlantic but also from within Germany itself,” a recent Morgan Guaranty Trust Co. report noted. “Between 1980 and 1985, Germany depended almost wholly on increased net exports for what little growth it managed,” but now, the report added, “the party is over.”

Explosive Rise in Yen

And in Japan, where the explosive rise in the yen has brought industrial output growth to a grinding halt, government officials are desperately searching for a way to stimulate the domestic economy without widening the nation’s huge budget deficit.

For both nations, tax overhaul offers one valuable way out of their current economic dilemmas. The difference, though, is that Japan is determined to balance rate cuts with other revenue-generating measures, while West Germany is considering an overall reduction in its tax burden.

In West Germany, “a far-reaching tax reform is one of the most important tasks of the next legislature,” Finance Minister Gerhard Stoltenberg said recently. Another official commented that “West Germany must compete with other countries’ tax programs so that we don’t lose out.”

But while the Bonn government has kept its tax revision plans on ice until after national elections next month, Tokyo has unveiled a proposal to cut the maximum personal tax rate from 70% to 50% at the same time that it would offset the expected revenue loss by putting an end to tax-free savings accounts and introducing a value-added tax, a kind of sales tax. Such a tax is levied on the value added to a product at each stage of the manufacturing process and at the time of purchase by the ultimate consumer.

Strong Incentive to Save

One of the reasons for Japan’s tax overhaul is to reduce the strong incentive for its citizens to save rather than spend. Elimination of government-held tax-free savings accounts that Treasury official Mentz termed “like having a Swiss bank account at your local post office” helps in that goal, but the new sales tax may undercut that aim.

Although West Germany and Japan are generally motivated by domestic considerations in revising their tax systems, Canada is faced with the much more immediate problem of constructing a new tax edifice to keep pace with the U.S. overhaul.

Last July, Canadian Finance Minister Michael Wilson outlined a program to lower personal and corporate income tax rates while reorganizing federal sales and excise taxes. To generate additional revenues that would allow it to slash income taxes even further, Canada is also considering introduction of a version of Europe’s widely used value-added tax.

Wilson made it clear that the driving force behind the proposal is the need to keep Canada’s system competitive with that of the United States in order to attract foreign investment and prevent capital from draining out of the country.

“In setting the rate of corporate taxation,” Wilson said, “we must keep in mind the need to ensure that our domestic tax base is not undermined as income is shifted to countries with lower tax rates.”

Unlikely to Match U.S.

Few countries, however, are likely to cut tax rates as deeply as the United States. That could leave them subject to continued weak growth, some economic critics believe.

“Europe needs tax reform even more than the United States did,” said Alan Reynolds, chief economist at Polyconomics Inc. in Morristown, N.J., and one of the relatively small band of supply-side analysts who argue that tax reductions are the key to economic vitality. “Oppressive tax rates are a luxury that Europe can no longer afford,” Reynolds said. “Until marginal tax rates are substantially reduced, as competition ensures they must be, Europe will continue to be plagued by chronic stagnation.”

But many European countries are reluctant to follow the U.S. lead out of fear that tax reductions would simply cost the government needed revenues and widen already gaping budget deficits--just as the initial round of American tax cuts in 1981 contributed to the huge jump in the U.S. budget deficit since that time.

Baffling Tendency

In Britain, for example, Chancellor Nigel Lawson told a group of British industrialists earlier this year, “I must confess that the tendency now fashionable to hold out the United States as a model for the U.K. baffles me.”

And while such respected sources as the Sunday Times of London have endorsed tax reductions for Britain, others, such as Bill Robinson, director of the independent Institute of Fiscal Studies, have vigorously condemned any tax reduction that is not counterbalanced by other revenue gains.

“I think America went in for some lunatic fiscal expansion resulting in a massive current account deficit with incalculable costs to the world’s financial system,” Robinson said. “No one but America could have got away with it.”

Differences Between Tax Bills

Such criticisms, however, fail to distinguish between the two major U.S. tax bills approved under Reagan. In 1981, the tax cuts--despite claims at the time that they might generate enough economic growth to boost revenues--were nonetheless drafted as out-and-out revenue losers, and tax experts acknowledged that they could cost the Treasury as much as $750 billion over five years.

This year’s tax bill was deliberately engineered to remain revenue-neutral by offsetting tax rate reductions with the elimination of dozens of tax preferences, although there are some critics who doubt it will work out that way.

The crowning irony of this round of international tax-rate reductions is that the United States appears to be forcing many countries to conform more closely to an American model when many U.S. business groups and economists, ranging from Massachusetts Institute of Technology Prof. Lester Thurow on the left to Reagan’s former chief economic adviser Martin Feldstein on the right, have been arguing that this nation s1752135020the consumption-oriented tax systems popular in Europe.

“Most of our trading partners raise a substantially higher percentage of their total revenues from consumption-type taxes,” said Jerry Jasinowski, chief economist at the National Assn. of Manufacturers. Instead of encouraging them to adopt our tax approach, Jasinowski asserted, the United States “should go in the opposite direction if (the nation) really wants to address the problem of international competitiveness.”

Contributing to this story were Times staff writers William Tuohy in Bonn, Tyler Marshall in London, Sam Jameson in Tokyo and Kenneth Freed in Toronto and news researchers Alice Sedar in Paris and Miro Cernetig in Toronto.