Tax break for US exporters deemed illegal subsidy and $4 billion import tariffs imposed

The World Trade Organisation (WTO) has authorised the European Union (EU) to levy over $4 billion a year in punitive sanctions against the USA - the largest sanction in the organisation's history. The decision comes after the WTO ruled that a tax break for US exporters constitutes an illegal subsidy. But the EU is likely to hold off imposing the sanctions to give the USA time to reform its international tax laws - a move which could ultimately benefit US exporters.

The WTO has authorised the EU to impose 100% import tariffs on $4.04 billion a year worth of US exports to Europe in order to redress the imbalance produced by the US Foreign Sales Corporation (FSC) law and its successor, the Extraterritorial Income Exclusion (ETI) act.

The EU sees the sanction as a potential countermeasure that creates a "major incentive for the US to eliminate this huge illegal export subsidy". However, European trade commissioner Pascal Lamy warns that "if I feel things are being dragged out. I would recommend the EU Council and European Parliament to vote for these sanctions to be applied."

The WTO must authorise the EU's list of targeted US goods before countermeasures can be taken, a step for which there is no deadline. In reality, sanctions will probably not be imposed as the USA has committed to make its tax laws compliant with WTO rules. But this will take time, warns US Senate finance committee chairman Max Baucus, who has called for a working group to draw up new legislation.

As the largest US exporter, Boeing would be most affected by abolition of the FSC/ETI tax break, which was worth $222 million last year. A study by the University of Virginia calculates that Boeing reduced its taxes by $685 million between 1991 and 1998 - 10% of its total revenue for the period.

Testifying to Congress in July, Boeing vice-president of tax James Zrust said repeal of the law could result in the potential loss or relocation of 9,600 jobs, plus another 23,000 at Boeing's US suppliers, as the company moved to reduce costs to offset higher taxes. Boeing wants any alternative bill to provide comparable benefits to the existing law, and also wants EU agreement in advance not to challenge any new legislation - agreement it is very unlikely to receive.

Credit Suisse First Boston research analyst Pierre Chao says repeal of the FSC/ETI law without a replacement would act as an instant tax on US exporters, increasing their effective tax rates and lowering earnings and impacting stock prices. Chao estimates "key exporters like Boeing and United Technologies [which owns Pratt & Whitney and Sikorsky] could lose $3-3.5 billion of market capitalisation".

But in the long run, says US trade representative Robert Zoellick, US companies could benefit from new legislation. Treasury secretary Kenneth Dam has described US international tax laws as "unique in their breadth of reach and degree of complexity", and simpler tax laws would lift a huge administrative burden on US exporters.

"One of the ironies of this case is that, when the dust is settled, we hope to find that the competitiveness of US firms has been strengthened, and not diminished," Zoellick says.

Source: Flight International