New York Times | By JOSEPH KAHN | February 23, 2000
WASHINGTON - The United States has suffered its largest defeat ever in a trade battle, losing a dispute with Europe about tax policies in a ruling that deals a blow to trans-Atlantic relations and could force American companies to pay billions of dollars more in taxes each year.
An appeals panel of the World Trade Organization, the Geneva-based body that regulates trade, has ruled that the United States must scrap a law that allowed companies to avoid paying taxes on some overseas sales by channeling them through offshore subsidiaries.
The decision, which Clinton administration officials expect the trade group to announce on Thursday, orders the United States to rewrite its tax code by Oct. 1 to eliminate what the decision calls an illegal export subsidy or face sanctions.
The United States has lost trade cases before, but no loss comes close in dollar terms. Last year alone, hundreds of United States companies including Boeing, Microsoft and General Motors avoided paying about $4 billion in federal taxes under the provision. Boeing alone used the tax law to save $130 million in 1998, a crucial edge in its competition with the European consortium Airbus Industrie for global aircraft sales.
Clinton administration officials said the unfavorable ruling would set off a scramble to find ways to preserve the tax breaks. One option is to alter the tax code to comply with W.T.O. rules, though it is not clear how that would be done. The United States will also seek to reach a political settlement with the European Union, which brought the case in 1998.
If settlement talks fail, Washington has also contemplated filing a countersuit against what it argues are equivalent European export subsidies. Retaliation of that kind would further strain economic ties at a time when the United States and Europe are already fighting skirmishes over genetically modified products and aircraft noise. Sharp disagreement between the United States and Europe was one factor that led to the collapse of global trade talks in Seattle late last year.
"The rules are widely viewed as creating a level playing field with the European tax system and are important to the business community," Treasury Secretary Lawrence H. Summers said in a statement tonight. "We will work closely with our European counterparts, Congress and the business community to achieve a solution."
Charlene Barshefsky, the United States trade representative, said she would work to ensure that the dispute did not derail cooperation with the European Union on other fronts. "It's in neither of our interests to allow this case to damage bilateral relations," she said.
The defeat comes as United States trade policies are being challenged on several fronts.
The Clinton administration is lobbying Congress to approve trade agreements with China, Africa and Caribbean nations. Congress will also vote this spring on whether to renew United States membership in the World Trade Organization.; some critics of the trade group have accused it of extending its reach into areas where it does not belong, threatening the sovereignty of member nations.
"This could not have come at a worse time for the U.S.," said Peter S. Watson, a trade lawyer and former head of the International Trade Commission. "It makes the U.S. a loser in a major case involving significant financial exposure."
How much financial exposure is still an open question. The administration estimates that the tax breaks could save United States companies as much as $5 billion annually, but a W.T.O. panel has yet to rule on what the total damages might be. In one recent case involving Australia, damages were applied retroactively. If that position was adopted in this case, the European Union could claim billions of dollars for past damages inflicted by the tax breaks.
At issue is a little-publicized tax provision that allows exporters to channel overseas sales through subsidiaries, called foreign sales corporations, set up in places like the Virgin Islands, Barbados and Guam. The United States does not tax sales made by those subsidiaries, nor does it impose duties when they transfer profits to their parent companies.
Analysts say the offshore tax havens clearly violate W.T.O. rules that prohibit nations from subsidizing exports to make them more competitive. But the United States has argued that the tax breaks mirror subsidies the European Union provides to companies there. Europe forgives value-added taxes on exported goods, for example.
The two sides have a pact dating from the early 1980's in which they agreed not to challenge each other's tax policies, Clinton administration officials said. The administration contended during the case that the W.T.O. should not intrude into tax matters covered by such agreements between nations, but the trade body rejected that argument.
Exactly why the European Union chose to bring the case remains unclear. European officials have said they believe that the long-standing United States tax breaks give American companies an unfair advantage.
But administration officials accuse Europe of exploiting American vulnerability on the tax issue out of spite. Europe was bitter when Washington used the W.T.O. to pry open European markets for imported bananas and hormone-treated beef - decisions Europe is still fighting.
Members of Congress and industry executives are urging the administration to find a way to resolve the matter quickly. Business lobbyists said that if the corporations lost the tax breaks entirely, they would find themselves at a serious disadvantage against European competitors.
"One thing we absolutely must not do is to unilaterally disarm," said Homer E. Moyer Jr., a Washington lawyer who represents some companies that employ the tax breaks. "This cries out for some kind of political solution."
Some analysts suggested that one answer would be for the United States and Europe to swap victories - European beef and banana restrictions for United States tax breaks. But the money involved is of uneven magnitude.
The W.T.O. has ruled that the beef and banana restrictions cost United States companies several hundred million dollars in lost exports each year, while the tax ruling involves billions of dollars of export earnings for United States companies.
Administration officials are worried that the dispute might undermine the already tepid support for the W.T.O. in Congress. Lawmakers will vote whether to renew the nation's membership this year. Though the measure has been expected to pass - the United States was a founding member of the W.T.O. in 1995 - opponents now have fresh ammunition to argue that the organization does more harm than good.
Some critics have argued that W.T.O. judges often overreach in their rulings, sometimes encroaching on the sovereignty of member nations. Environmentalists are among the fiercest critics, citing cases in which the organization has struck down some environmental protections. Other opponents have attacked the W.T.O. as the captive of anti-American groups abroad.
"Those who are predisposed against the W.T.O. will use this as a poster child" for their claim that it interferes in domestic politics, Mr. Watson said, adding that he disagreed with that sentiment.New York Times:
