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Don’t Squash the Innovation Box Idea

Appearing before the International Tax Policy Forum and Georgetown University Law Center Conference late last week, Jason Furman, Chairman of the President’s Council of Economic Advisors, threw cold water on an emerging aspect of turbo charging innovation policy—the American adoption of a so-called innovation box. In his speech, “Encouraging Innovation and the Role of Tax Policy,” Furman attempted to halt an innovation policy idea in its infancy and treaded against the grain of his stated objective.

For people on both sides of the political aisle there is no longer a question about whether our tax code is in need of an update. At ITI, we have long argued that we need to modernize our code to include a lower, competitive rate, a sensible territorial system in line with our competitors, and strong incentives to spur innovation-related economic activity. While Furman’s comments spoke directly to the last piece of the puzzle, his remarks have implications on the broader reform conversation.

There is evidence all around us that our tax system is broken. Today, the United States stands alone in how we treat business profits. While our competitors have greatly lowered their corporate tax rates and moved to global rules of taxation, we are still trapped in a Rube Goldberg tax model where on paper we tax profits anywhere they are earned –while in reality – we keep the benefits of more and more activity that could grow our economy trapped offshore.

Other countries have taken notice of the negative impacts of our broken tax system and have taken increasingly clear and direct steps to benefit from Uncle Sam’s mistakes. A key trend is emerging where our competitors are attempting to pull in economic activity related to patents, research and development (R&D), and/ or manufacturing by offering generous incentives for companies to locate these activities within their borders. It’s a two-step process. First, countries put in place frontend incentives to encourage development of innovative new technologies which they couple with back-end incentives — innovation boxes — to entice the resulting economic activity from that innovation. Increasingly, due to consensus reached through the OECD BEPS process, the benefits of these back end incentives are tied to the location of R&D and the jobs that accompany it.

At ITI, we were pleased that the Obama Administration worked with Congress to pass a permanent R&D credit, which provides much needed certainty around a key “frontend” incentive for developing new and exciting technologies. We are further encouraged that the Administration and countless Members of Congress have since acknowledged the need to enhance this credit to ensure the United States maintains its edge as the premier place to foster new ideas and bring them to market.

Last week’s speech was somewhat of a departure from this good work. Furman’s comments miss key considerations in the broader debate and attempt to cut off a much-needed conversation about how the US will respond to global trends.

The framing for an innovation box conversation should instead be about the global competition for certain economic activity. We would have liked to see greater emphasis on how we compare, compete, and align our overall system for success. Mr. Furman suggests that an enhanced emphasis on frontend incentives is the best course of action, and yet, he fails to push for meaningful enhancements to existing policy that might confront the broader trends we face. We are skeptical that moving the credit from 14 to 17 percent is going to have the impact that we need to remain on top. Furthermore, there were various assumptions made about innovation boxes that seem premature at this juncture. Innovation boxes are a relatively new tax policy and their design continues to evolve. What this means is that we don’t yet know the impact of these policies, particularly as they are tied more to R&D and job placement.

While we greatly appreciate the Administration’s unwavering commitment to innovation, we encourage an open mind about new policies that may prove essential to our toolbox. The underlying idea behind an innovation box is that intellectual property related income is highly mobile, and therefore there is a need for tax policies to attract and maintain this economic activity. Bipartisan innovation box proposals attempt to achieve this policy goal by applying a lower tax rate on profits tied to innovation. We acknowledge and embrace that there remain outstanding questions about what an optimal innovation box could look like in the domestic context. That’s where we would like to see the conversation directed.

Time is of the essence. BEPS is pushing our competitors to move quickly to tie incentives to investment and job creation. Americans stand to loose out if the United States fails to act.

Public Policy Tags: Tax Policy