Lawmakers in Washington are mulling a one-time corporate tax holiday on foreign earnings that could provide a bonanza to many U.S. multinational corporations.

If enacted, the holiday would allow U.S. corporations to bring home $1.2 trillion in profits they have stashed overseas at a much lower rate – about 5% as compared to the usual 35%.

Many large multinationals, particularly those in the health and tech sectors, say the tax holiday would be the equivalent of a "free" stimulus package: the government would recover tax revenue while the companies would have more money to invest in job creation, factories, equipment, and research and development.

Of course, corporations fed most of the booty from a 2004 tax holiday back to shareholders in the form of dividends and stock buybacks.

But that's not what the multinationals want Washington to hear. They've formed a coalition to lobby the job creation/investment angle on Capitol Hill while using the weak economy as an ally.

"The simple truth is there are few policy options left that will inject this amount of money into the economy and cost taxpayers next to nothing," Doug Thornell of SKDKnickerbocker, a public relations firm advising the coalition, told the San Diego Union-Tribune.

To understand why this is so important to the big multinationals, one need only examine how foreign earnings are taxed.

Each U.S. corporation initially pays a tax to the country in which it made a profit. The difference between the foreign nation's tax (usually far below the U.S. rate) and the 35% U.S. tax is what a company owes the Internal Revenue Service. So if a company makes $1,000 in a country that has a tax of 10%, it owes that country $100 and the IRS $250.

But the IRS can't collect its share until the company brings that money back to the United States.

So the obvious tax dodge is to let the profits pile up in foreign bank accounts – though the catch is that the money can't be spent in the United States until it's repatriated.

No wonder the coalition includes so many corporate heavyweights: Oracle Corporation (Nasdaq: ORCL), Cisco Systems Inc. (Nasdaq: CSCO), Apple Inc. (Nasdaq: AAPL), Duke Energy Corporation (NYSE: DUK), Qualcomm Inc. (Nasdaq: QCOM), Google Inc. (Nasdaq: GOOG), Microsoft Corporation (Nasdaq: MSFT), and Pfizer Inc. (NYSE: PFE).

A Taxing Issue

In Congress the tax holiday not only has the support of many Republicans, but also some key Democrats, including Sen. Barbara Boxer, D-CA.

Republican presidential hopeful Mitt Romney has gone so far as to make the one-time tax break a staple in his speeches, promising a recent New Hampshire audience that it would generate "hundreds of thousands – if not millions – of good, permanent, private sector jobs."

Not everyone's enthused about granting the multinationals a tax holiday, however.

Sen. Kent Conrad, D-ND, of the Senate Finance Committee told Businessweek that to enact a tax holiday without reforming the overall corporate tax code "makes a farce out of the whole system."

Likewise, U.S. Treasury Secretary Timothy Geithner has indicated that U.S. President Barack Obama might be open to considering the tax holiday only if it were part of a comprehensive tax reform package.

But comprehensive tax reform could become very complicated. U.S. Rep. Dave Camp, R-MI, Chairman of the House Ways and Means Committee, supports the tax holiday and also has proposed reducing the corporate tax rate from 35% to 25%. The Obama administration has said it might consider both, but only if coupled with the elimination of certain deductions and loopholes – something corporate America is sure to resist.

Many Republicans, however, favor treating the tax holiday as a separate issue.

"Forging consensus on this type of fundamental tax reform will take time, so in the meantime I propose that we allow U.S. multi-national companies to bring back almost $1.2 trillion in overseas profits at a lower tax so they can invest in our economy here at home," House Majority Leader Eric Cantor said Monday in a speech at Stanford University.

Whether or not the tax holiday ends up as part of a comprehensive reform plan will likely determine its fate – when it happens or if it happens at all.

It's not a shoo-in by any means. The most recent attempt to grant a one-time break on foreign profits, an amendment cosponsored in 2009 by Sen. Boxer and Sen. John Ensign, R-NV, was defeated 42-55 on the Senate floor.

History Lessons

Proponents will need to overcome an arsenal of negative data from the 2004 tax holiday. Then, as now, the big multinational corporations dangled promises of new jobs and investment if given a tax break.

But that's not what happened.

Nominally a success – 843 companies brought back $362 billion in profits in 2004 – the exercise mostly resulted in a bonanza for shareholders, with little spent on job creation or other investments.

One recent joint study by economists C. Fritz Foley of Harvard University, Kristin Forbes of Massachusetts Institute of Technology and Dhammika Dharmapala of the University of Illinois estimated that each $1 in repatriated profit in 2004 translated to a $0.60-$0.92 increase in payouts to shareholders – even though the law granting the holiday specified the repatriated money not be used for dividend payments or stock buybacks.

Because money is fungible, companies were able to work around the restrictions. The repatriated profits were used to pay for already budgeted expenses, thus freeing up money – unhindered by those restrictions – for stock buybacks and distribution to shareholders.

That history has even some business leaders questioning the wisdom of a second tax holiday.

"A one-time repatriation of profits is a bad idea," United Technologies Corporation (NYSE: UTX) Chief Financial Officer Gregory J. Hayes told Businessweek. "My fear is that we'll have a repeat of 2004. If companies repatriate these profits and spend it on things like share buybacks, that will create such negative connotations around tax reform with the public."

Others worry that a second tax holiday will send corporations the message they should continue to stash profits overseas, counting on yet another break in the future.

In fact, a 2009 Congressional Research Service study shows several companies that repatriated large sums in 2004 accumulated much larger amounts of foreign profit in the years that followed.

Pfizer brought back $37 billion in 2004 but then went on to accumulate $101 billion in new foreign earnings; Citigroup Inc. (NYSE: C) repatriated $3.2 billion then added $35.8 billion; PepsiCo Inc. (NYSE: PEP) returned $7.5 billion then accumulated $25.5 billion more.

Worse still, the CRS study shows several corporations that brought back significant profits also shed workers. Pfizer cut 10,000 jobs between 2005 and 2006. Hewlett-Packard Company (NYSE: HPQ) brought back $14.5 billion and cut 14,500 jobs. Merck & Co. Inc. (NYSE: MRK) repatriated $15.9 billion and eliminated 7,000 jobs.

Members of the corporate coalition argue that whatever companies do with the money will boost the still-anemic U.S. economy.

In a guest editorial in The Wall Street Journal last October, Oracle CEO Safra Catz and Cisco CEO John Chambers wrote that a tax holiday could "provide needed stability for the equity markets because companies would expand their activity in mergers and acquisitions, and would pay dividends or buy back stock. And when markets go up, confidence increases and businesses and consumers begin to spend."

Critics remain skeptical.

"A tax holiday would bring a substantial amount of cash back to the United States and paying that out to shareholders is good for the economy," Forbes, one of the authors of the economists' study on the previous tax holiday, told Fortune. "But if you're a politician claiming this will create a lot of jobs or new investment, it isn't supported by the data."

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