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Executive Summary

House Ways & Means Committee Chairman Rostenkowski's proposal to revise Sec. 936 tax credits is a goal for the next Congress, the Democrat from Illinois noted in his opening remarks at a July 21-22 hearing. Rostenkowski called HR 5270, his "Foreign Income Tax Rationalization and Simplification Bill," a "discussion" draft to "provide for public input through public hearings." Emphasizing that he will not schedule a markup this year, Rostenkowski said testimony from hearings on the bill will enable the committee "to revise this legislation for reintroduction next year." He wants the committee to "be in a position to move ahead next year to provide a much needed simplification of the tax rules affecting multinational companies on a revenue-neutral basis." Section 411 of the bill would reduce the possessions (Puerto Rico) tax credit by 15%. Currently, Sec. 936 of the tax code provides a credit against 100% of a company's possession-based operations and qualified investment income; the bill would reduce the credit to 85%. In July 21 written testimony, Pharmaceutical Manufacturers Association President Gerald Mossinghoff said PMA "strongly opposes" the reduction because "it would have an adverse impact on U.S. employment and trade, the Puerto Rican economy and the research-based pharmaceutical industry." PMA also contended that HR 5270's proposed repeal of the deferral for controlled foreign corporations would exacerbate differences between U.S. and foreign tax rules and thereby interfere with international flow of capital. Maintaining that domestic and foreign tax rules should be harmonized, Mossinghoff contended that the proposal to tax all profits of overseas affiliates, independent of whether the profits were distributed as dividends, would constitute "a sharp departure from international tax norms" and "would create substantial compliance problems for U.S. multinational corporations." During the hearing, Treasury Department Assistant Secretary for Tax Policy Fred Goldberg said that before amending the law, Congress should await the results of a government study of the extent to which the tax code reflects "economic reality." Announced by Treasury Secretary Nicholas Brady on June 3, the study will be completed by "the middle of next year," Goldberg said. Goldberg acknowledged that the current law has "flaws" in that "a disproportionate share of the tax benefits attributable to Sec. 936 is realized by intangible-intensive industries that create relatively few jobs in the possessions, rather than the labor- intensive industries that Sec. 936 was intended to encourage." For example, he said, "the pharmaceutical industry enjoyed 56% of the Sec. 936 benefits" in 1987, according to department figures, and the Treasury lost $70,788 in tax revenues in 1987 "for each job that pharmaceutical corporations created in Puerto Rico." Such data suggest "that while Sec. 936 clearly has created jobs in Puerto Rico, the number of jobs may be too small in relation to" lost tax revenues, Goldberg asserted. Nonetheless, he continued, there may not be "a principled justification for the current proposal to scale back the Sec. 936 credit by 15%" because, "without understanding the probable economic effect of the proposal, the 15% reduction in the credit appears to be an arbitrary choice." Asked by Rostenkowski whether a wage credit would be a more efficient incentive to create jobs in Puerto Rico, Goldberg repeated that studies need to be completed. "Before embarking on revisions to Sec. 936," he said, "we need to consider several factors, including the number of jobs attributable to Sec. 936, the cost to the U.S. fisc of creating those jobs, the alternatives that may be available to realize our objectives more efficiently and the economic impact on Puerto Rico." The Puerto Rico, U.S.A. Foundation called it "particularly ironic" that a bill intended to increase U.S. industry's competitiveness would "reduce significantly the one positive U.S. tax program that over the past 40 years has provided U.S. companies with some measure of tax benefit which, at least partially, equalizes the tax treatment granted by other major trading countries of the world to their multinational companies." Spokesman Carl Nordberg testified that "it is wrong to enact tax legislation without an evaluation of the probable consequences of any proposed modification." Nordberg also maintained that Sec. 936 has not caused "an exodus of jobs from the mainland to Puerto Rico." In the period 1970-1990, he said, "while employment in Puerto increased by 17,200 for pharmaceutical companies, total mainland employment increased by 89,000." The Oil, Chemical and Atomic Workers International Union disagreed. OCAW Projects Director Richard Leonard contended that Sec. 936 has caused "massive relocation of the pharmaceutical industry's most productive capacity to Puerto Rico." He cited a recent Government Accounting Office report ("The Pink Sheet" May 18, p. 3) showing that the drug "industry received $1.3 bil. of the $2.3 bil. in total Sec. 936 tax benefits in 1987, and by 1990, 17 of the most prescribed drugs in the U.S. were authorized for manufacture in Puerto Rico." Industry production on the island "increased by 84% during the past decade, rising from 7,500 workers in 1980 to 13,800 in 1991," he said. "During the same time period, mainland production jobs declined by 11.6% (or 10,300 jobs) through 1986 (despite a sustained economic recovery during those years)." OCAW currently is waging a legal and legislative campaign against American Home Products, which shut down its Elkhart, Indiana Whitehall Labs facility, which OCAW represented. The union has charged that AHP's decision to move the plant's production to Puerto Rico violated RICO statutes. The union suit is scheduled to be heard in San Juan federal court in August.

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