= -21 after adjustments for new investment in California be paid annually as a water's edge election fee. The 1986 property and payroll bases upon which the .03 percent election fee is calculated can be reduced dollar for dollar by new investment in California. In our view, a foreign corporation's ability to avoid being taxed by a state on its foreign income should not be conditioned on payment of a substantial election fee. In addition, the magnitude of the California election fee under the new legislation is such that the choice between water's edge and worldwide unitary may be significantly distorted, particularly for taxpayers with large existing investments in California property. We therefore view the election fee feature of the California legislation as a significant policy concern. B. U.S. 80/20 Corporations Under the California legislation, all U.S. corporations other than possessions corporations, even those which have more than 80 percent of their business activity outside the United States, would be subject to inclusion in water's edge unitary combinations. We believe that U.S. 80/20 corporations should be treated on a comparable basis with foreign corporations having less than 20 percent of their business activity in the United States. That is, when water's edge unitary combinations are defined on the basis of business activity, incorporation as a domestic should be irrelevant. -22 C. Foreign Dividends The California legislation provides that 75 percent of foreign dividend income would be excluded from California corporate income. The percentage exclusion may increase or decrease if the taxpayer's United States employment increases or decreases relative to rest of world employment, but will not decrease below 75 percent so long as repatriated dividends are not more than those repatriated in any of three fixed base years. Equitable resolution of the unitary tax controversy requires balance between domestic and foreign taxpayers. If a water's edge system were adopted without limitations on the ability of states to tax dividends received by U.S. companies from their foreign subsidiaries, domestic companies would be at a competitive disadvantage. S. 1974 required that foreign source dividends be taxed equitably. In the technical explanation of the bill, it was indicated that this requirement would be satisfied if 85 percent of foreign source dividends were exempted from state income tax. In itself, California's adoption of a 75 percent dividends received exclusion represents a relatively minor departure from the recommended 85 percent exclusion of foreign dividends contained in S. 1974. However, linkage of the exclusion percentage with payroll factors and base period repatriated dividends is questionable from a tax policy perspective and may, in some instances, substantially reduce the exclusion amount. -23 Because of these concerns, while we view the California legislation as a significant step in the right direction, we hope that California will revisit these issues. STA D C F M and rese We have similar concerns regarding the treatment of foreign dividends in the water's edge legislation passed in New Hampshire and Utah. In New Hampshire, foreign dividends are subject to customized apportionment formula as a separate source of income. This bifurcated treatment of foreign dividends is clearly inconsistent with the equitable dividend treatment standards of the federal legislation. In Utah, 50 percent of foreign dividends are exempt from tax, but the remaining 50 percent, along with a pro rata share of the payor corporation's business activity factors, is included in the unitary combination calculation. IV. CONCLUSION Because of the recent enactment of state legislation addressing the unitary problem, we do not recommend adoption of restrictive federal legislation at this time. We believe further progress is required to address the concerns we have raised and, if such progress is not forthcoming within a reasonable time frame, we may recommend reconsideration of the legislation in the We continue to support those portions of the legislation future. providing assistance to states in implementing the separate accounting method. de ра P C a STATEMENT OF DALLAS A. HURSTON, ASSISTANT VICE PRESI- Mr. HURSTON. Thank you, Senator. My name is Dallas Hurston, and I am director of tax administration for the Coca-Cola Co. I represent today the Committee on State Taxation, which is comprised of 250 of the largest corporations-certainly those that are most severly impacted by this problem. Needless to say, we are extremely disappointed that the Treasury is backing down on their desire for current legislation to solve the problem. We think that the situation has been put very well. The discrimination against U.S. companies is enough reason by itself to enact legislation, and certainly the California bill does that. In taxing dividends of 80/20 companies the California bill definitely discriminates against U.S. companies. We have submitted in our presentation the points that we would like to see addressed including amendments to Senate bill 1974; but I would like to address one particular issue that has been discussed here, and that is the question of 80/20 companies, since my company-the Coca-Cola Co.-is a vivid example of why that issue discriminates against U.S. companies. The Coca-Cola Co. has been doing business overseas since the turn of the century. We do business in 55 foreign countries and sell our products in 160 foreign countries. Those activities have historically developed through what is known today as 80/20 companies. Probably the term was not even used at the time we expanded, but those activities were basically developed through branches of U.S. corporations. The expansion was done in a U.S. corporation to protect the company's trademarks and patents. The body of common law with regard to those assets and the protection of those assets was not well developed at the turn of the century; and therefore, to provide some protection to U.S. companies, an 80/20 or U.S. corporation was used. Those corporations manufacture in the foreign country and sell in the foreign country. They do not export from the United States nor do they produce in the foreign country for import back into the United States. By necessity, to meet both local consumption needs, the company manufactures in the foreign country and sells in the foreign country. Under the California approach-and that approach, by the way, of many other States, including some of the other States that have repealed and including some States that have never applied worldwide combinations-those 80/20 companies are discriminated against because they do not receive the same treatment as foreign incorporated corporations, and that clearly-clearly-is a situation that should be addressed. The taxation of dividends also discriminates against U.S. corporations. The 80/20 issue is one that should be addressed by the Congress with regard to the States that apply it and the question that was raised by the Senator from Montana. The Department of Revenue, in testifying before the State legislature in Montana, stated that they had never applied worldwide E combination to a foreign corporation. That is a frightening thought-that they have statutes on the books that apply to concepts equally to everyone, and yet, say, Montana had never applied it to a foreign-based corporation. This is on record before the Department of Revenue within the last year. That is the situation that U.S. companies have been faced with. That is the situation we are faced with in the repeal of worldwide combination without addressing dividends, without addressing the 80/20 issue. Thank you. Senator CHAFEE. Now, wait a minute. Let me see if I understood what you said in the last part. You quoted the State of Montana, that they just tax U.S. corporations? Mr. HURSTON. Worldwide combinations, and I think the gentleman who made the statement before the legislature is going to be on the panel. The testimony before the legislature was that Montana had never applied worldwide combination to a foreign-owned corporation. It was only applied to U.S. companies. Clearly, even the States that had applied it were discriminating against U.S. companies. That alone, it seems to me, is reason enough for the Congress to act and to prohibit States from discriminating. Senator CHAFEE. What we will do is we will take each of the witnesses, and then we will get back to you. Senator BAUCUS. Mr. Chairman? Senator CHAFEE. Yes? Senator BAUCUS. I would like to introduce the next witness, if I may? Senator CHAFEE. Fine. Won't you, please? Senator BAUCUs. He is the director of the Department of Revenue of the State of Montana. We are flattered, Mr. Chairman, to learn-particularly in view of the last comment-that Montana is such an important part of national policy. John LaFaver is presently the director of the department of revenue, as I said. He is also formerly the director of the department of rehabilitative services in our State. He is a very sharp guy, and I think you will find, as you listen to him, that he will more than adequately represent our State and probably address the questions that have just been raised. Thank you. Senator CHAFEE. We are delighted. We are glad to have you, Mr. LaFaver. Why don't you proceed? [The prepared written statement of Mr. Hurston follows:] |