Cook: Apple’s Tax Practices Are Not Unfair!

On Tuesday morning, Apple (NASDAQ:AAPL) Chief Executive Officer Tim Cook appeared before the Senate Permanent Subcommittee on Investigations regarding what The New York Times‘ iEconomy series termed the “extraordinary lengths” the iPhone maker has taken to avoid paying its fair share of taxes, efforts that have gone well beyond the tax reduction strategies U.S. corporations typically utilize. In particular, the focus of the Senate’s probe centered on Apple’s operations in Ireland.

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A 40-page memorandum released ahead of Cook’s appearance before Congress identified three subsidiaries that have no tax residency in Ireland, where they are incorporated, or in the United States, where the companies are managed. Apple’s arrangement with the country enables it to pay just 1.9 percent tax on its $37 billion in overseas profits even though the average tax rate in the countries of the Organisation for Economic Co-operation and Development was 24 percent in 2012. Many U.S. companies have taken advantage of Ireland’s tax regime to minimize their tax burdens, including Google (NASDAQ:GOOG), Microsoft (NASDAQ:MSFT), and Facebook (NASDAQ:FB).

The report said, “Ireland has essentially functioned as a tax haven for Apple.” The company’s main subsidiary — Apple Operations International, a holding company that includes Apple’s retail stores in Europe — did not pay any corporate income tax in the last five years, according to the document.

In its 17-page testimony submitted on Monday, Apple argued:

Apple, a California company, employs tens of thousands of Americans, creates revolutionary products that improve the lives of tens of millions of Americans, and pays billions of dollars annually to the U.S. Treasury in corporate income and payroll taxes. Apple’s shareholders – from individuals and institutions to pension funds and public employee retirement systems – have benefitted from the Company’s success through the appreciation of its stock price and generous dividends. Apple safeguards the capital entrusted to it by its shareholders with prudent management that reflects the Company’s extensive international operations. Apple complies fully with both the laws and spirit of the laws. And Apple pays all its required taxes, both in this country and abroad.

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As Cook asserted in the opening moments of his testimony, Apple paid a corporate tax rate of 30.5 percent in 2012, which resulted in a bill of $6 billion of the past fiscal year. The iPhone maker was not brought before the Senate subcommittee because it has violated the law, but because an analysis of the company’s current practices will serve to further the legislative body’s attempt to draft new tax codes.

Apple’s testimony had three stages. The easy part was the recitation of how much the company pays in federal taxes. The short part was the delivery of its four recommendations for simplifying U.S. tax codes. Cook, noting that Apple favors simplicity over complexity, said Congress should make the following adjustments to the tax code: be revenue neutral, eliminate corporate loopholes, lower corporate tax rates, and implement a “reasonable tax” on foreign earnings that would allow the company to spend some of its oversea funds. The hard part for Apple was explaining its operations in Ireland.

Opening the hearing, Democratic Senator Carl Levin of Michigan, who chairs the subcommittee on investigations, noted that Apple has a complex system of tax avoidance. He then repeated a statement made on Monday that claimed Apple has sought the “Holy Grail” of tax avoidance by setting up companies without workers in countries such as Ireland.

Later, Republican Senator John McCain of Arizona, noting that the U.S. corporate tax rate was too high, alleged that Apple had taken advantage of numerous tax loopholes that smaller domestic companies could not, giving the company an unfair advantage. He said it was “outrageous” that Apple has avoided paying taxes and the company had violated “the spirit of the law” if not the letter.

In response, Cook stated plainly: “We pay all the taxes we owe.”  He explained that the earnings that flow through the company’s foreign subsidiaries are generated by products it sells outside the United States, so “there is no shifting going on that I see at all.” Sales are taxed to the degree they should be in the local jurisdiction, he said, and then profits are collected by an Irish subsidiary, which is often Apple Operations International. Apple Chief Finance Officer Peter Oppenheimer said specifically that Apple’s AOI does not cut Apple’s tax bill in the United States.

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Cook described the business of AOI in particular. The holding company, he said, collects after-tax profits and makes investments with that money, and the income from those investments are then taxed in the United States.

As to why Apple continues to main subsidiaries in Ireland, which were set up in 1980 as means to distribute products in Europe, Cook said that the company has kept operations in that country because it had build up a skilled workforce that understands the European market, meaning that these subsidiaries are not “shell companies” as the subcommittee had indicated. AOI employs approximately 4,000 workers, he said.

When McCain asked whether Cook thought the company’s tax practice was unfair, he said that he was not an unfair person, and that Apple was not an unfair company. “I don’t see it in that way.”

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