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<div class="timestamp">April 28, 2012</div>
<h1>How Apple Sidesteps Billions in Taxes</h1>
<span><h6 class="byline">By <a rel="author" href="http://topics.nytimes.com/top/reference/timestopics/people/d/charles_duhigg/index.html?inline=nyt-per" title="More Articles by Charles Duhigg" class="meta-per">CHARLES DUHIGG</a> and <a rel="author" href="http://topics.nytimes.com/top/reference/timestopics/people/k/david_kocieniewski/index.html?inline=nyt-per" title="More Articles by David Kocieniewski" class="meta-per">DAVID KOCIENIEWSKI</a></h6>
</span>
<div id="articleBody">
<p>
RENO, Nev. — <a href="http://topics.nytimes.com/top/news/business/companies/apple_computer_inc/index.html?inline=nyt-org" title="More information about Apple Incorporated" class="meta-org">Apple</a>,
the world’s most profitable technology company, doesn’t design iPhones
here. It doesn’t run AppleCare customer service from this city. And it
doesn’t manufacture MacBooks or iPads anywhere nearby. </p>
<p>
Yet, with a handful of employees in a small office here in Reno, Apple
has done something central to its corporate strategy: it has avoided
millions of dollars in taxes in California and 20 other states. </p>
<p>
Apple’s headquarters are in Cupertino, Calif. By putting an office in
Reno, just 200 miles away, to collect and invest the company’s profits,
Apple sidesteps state income taxes on some of those gains. </p>
<p>
California’s corporate tax rate is 8.84 percent. Nevada’s? Zero. </p>
<p>
Setting up an office in Reno is just one of many legal methods Apple
uses to reduce its worldwide tax bill by billions of dollars each year.
As it has in Nevada, Apple has created subsidiaries in low-tax places
like Ireland, the Netherlands, Luxembourg and the British Virgin Islands
— some little more than a letterbox or an anonymous office — that help
cut the taxes it pays around the world. </p>
<p>
Almost every major corporation tries to minimize its taxes, of course.
For Apple, the savings are especially alluring because the company’s
profits are so high. Wall Street analysts predict Apple could earn up to
$45.6 billion in its current fiscal year — which would be a record for
any American business. </p>
<p>
Apple serves as a window on how technology giants have taken advantage
of tax codes written for an industrial age and ill suited to today’s
digital economy. Some profits at companies like Apple, Google, Amazon,
Hewlett-Packard and Microsoft derive not from physical goods but from
royalties on intellectual property, like the patents on software that
makes devices work. Other times, the products themselves are digital,
like downloaded songs. It is much easier for businesses with royalties
and digital products to move profits to low-tax countries than it is,
say, for grocery stores or automakers. A downloaded application, unlike a
car, can be sold from anywhere. </p>
<p>
The growing digital economy presents a conundrum for lawmakers
overseeing corporate taxation: although technology is now one of the
nation’s largest and most valued industries, many tech companies are
among the least taxed, according to government and corporate data. Over
the last two years, the 71 technology companies in the Standard &
Poor’s 500-stock index — including Apple, Google, Yahoo and Dell —
reported paying worldwide cash taxes at a rate that, on average, was a
third less than other S.& P. companies’. (Cash taxes may include
payments for multiple years.) </p>
<p>
Even among tech companies, Apple’s rates are low. And while the company
has remade industries, ignited economic growth and delighted customers,
it has also devised corporate strategies that take advantage of gaps in
the tax code, according to former executives who helped create those
strategies. </p>
<p>
Apple, for instance, was among the first tech companies to designate
overseas salespeople in high-tax countries in a manner that allowed them
to sell on behalf of low-tax subsidiaries on other continents,
sidestepping income taxes, according to former executives. Apple was a
pioneer of an accounting technique known as the “Double Irish With a
Dutch Sandwich,” which reduces taxes by routing profits through Irish
subsidiaries and the Netherlands and then to the Caribbean. Today, that
tactic is used by hundreds of other corporations — some of which
directly imitated Apple’s methods, say accountants at those companies.
</p>
<p>
Without such tactics, Apple’s federal tax bill in the United States most
likely would have been $2.4 billion higher last year, according to a <a title="Martin Sullivan’s report" href="http://taxprof.typepad.com/files/134tn0777.pdf">recent study</a>
by a former Treasury Department economist, Martin A. Sullivan. As it
stands, the company paid cash taxes of $3.3 billion around the world on
its reported profits of $34.2 billion last year, a tax rate of 9.8
percent. (Apple does not disclose what portion of those payments was in
the United States, or what portion is assigned to previous or future
years.) </p>
<p>
By comparison, <a title="Wal-Mart’s corporate filings" href="http://investors.walmartstores.com/phoenix.zhtml?c=112761&p=irol-sec">Wal-Mart</a>
last year paid worldwide cash taxes of $5.9 billion on its booked
profits of $24.4 billion, a tax rate of 24 percent, which is about
average for non-tech companies. </p>
<p>
Apple’s domestic tax bill has piqued particular curiosity among
corporate tax experts because although the company is based in the
United States, its profits — on paper, at least — are largely foreign.
While Apple contracts out much of the manufacturing and assembly of its
products to other companies overseas, the majority of Apple’s
executives, product designers, marketers, employees, research and
development, and retail stores are in the United States. Tax experts say
it is therefore reasonable to expect that most of Apple’s profits would
be American as well. The nation’s tax code is based on the concept that
a company “earns” income where value is created, rather than where
products are sold. </p>
<p>
However, Apple’s accountants have found legal ways to allocate about 70
percent of its profits overseas, where tax rates are often much lower,
according to <a title="Apple’s latest 10-k" href="http://files.shareholder.com/downloads/AAPL/1826229879x0xS1193125-11-282113/320193/filing.pdf">corporate filings</a>. </p>
<p>
Neither the government nor corporations make tax returns public, and a
company’s taxable income often differs from the profits disclosed in
annual reports. Companies report their cash outlays for income taxes in
their annual Form 10-K, but it is impossible from those numbers to
determine precisely how much, in total, corporations pay to governments.
In Apple’s last annual disclosure, the company listed its worldwide
taxes — which includes cash taxes paid as well as deferred taxes and
other charges — at $8.3 billion, an effective tax rate of almost a
quarter of profits. </p>
<p>
However, tax analysts and scholars said that figure most likely
overstated how much the company would hand to governments because it
included sums that might never be paid. “The information on 10-Ks is
fiction for most companies,” said Kimberly Clausing, an economist at
Reed College who specializes in multinational taxation. “But for tech
companies it goes from fiction to farcical.” </p>
<p>
Apple, in a statement, said it “has conducted all of its business with
the highest of ethical standards, complying with applicable laws and
accounting rules.” It added, “We are incredibly proud of all of Apple’s
contributions.” </p>
<p>
Apple “pays an enormous amount of taxes, which help our local, state and
federal governments,” the statement also said. “In the first half of
fiscal year 2012, our U.S. operations have generated almost $5 billion
in federal and state income taxes, including income taxes withheld on
employee stock gains, making us among the top payers of U.S. income
tax.” </p>
<p>
The statement did not specify how it arrived at $5 billion, nor did it
address the issue of deferred taxes, which the company may pay in future
years or decide to defer indefinitely. The $5 billion figure appears to
include taxes ultimately owed by Apple employees. </p>
<p>
The sums paid by Apple and other tech corporations is a point of contention in the company’s backyard. </p>
<p>
A mile and a half from Apple’s Cupertino headquarters is De Anza College, a community college that <a href="http://topics.nytimes.com/top/reference/timestopics/people/w/stephen_wozniak/index.html?inline=nyt-per" title="More articles about Stephen Wozniak." class="meta-per">Steve Wozniak</a>,
one of Apple’s founders, attended from 1969 to 1974. Because of
California’s state budget crisis, De Anza has cut more than a thousand
courses and 8 percent of its faculty since 2008. </p>
<p>
Now, De Anza faces a budget gap so large that it is confronting a “death spiral,” the school’s president, Brian Murphy, <a title="Mr. Murphy’s letter to faculty" href="http://www.deanza.edu/budgetinfo/announcements/News01_23_12.html">wrote to the faculty</a>
in January. Apple, of course, is not responsible for the state’s
financial shortfall, which has numerous causes. But the company’s tax
policies are seen by officials like Mr. Murphy as symptomatic of why the
crisis exists. </p>
<p>
“I just don’t understand it,” he said in an interview. “I’ll bet every
person at Apple has a connection to De Anza. Their kids swim in our
pool. Their cousins take classes here. They drive past it every day, for
Pete’s sake. </p>
<p>
“But then they do everything they can to pay as few taxes as possible.” </p>
<p>
<strong>Escaping State Taxes</strong> </p>
<p>
In 2006, as Apple’s bank accounts and stock price were rising, company
executives came here to Reno and established a subsidiary named Braeburn
Capital to manage and invest the company’s cash. Braeburn is a variety
of apple that is simultaneously sweet and tart. </p>
<p>
Today, Braeburn’s offices are down a narrow hallway inside a bland
building that sits across from an abandoned restaurant. Inside, there
are posters of candy-colored iPods and a large Apple insignia, as well
as a handful of desks and computer terminals. </p>
<p>
When someone in the United States buys an <a href="http://topics.nytimes.com/top/reference/timestopics/subjects/i/iphone/index.html?inline=nyt-classifier" title="Recent and archival news about the iPhone." class="meta-classifier">iPhone</a>, <a href="http://topics.nytimes.com/top/reference/timestopics/subjects/i/ipad/index.html?inline=nyt-classifier" title="More articles about iPad." class="meta-classifier">iPad</a>
or other Apple product, a portion of the profits from that sale is
often deposited into accounts controlled by Braeburn, and then invested
in stocks, bonds or other financial instruments, say company executives.
Then, when those investments turn a profit, some of it is shielded from
tax authorities in California by virtue of Braeburn’s Nevada address.
</p>
<p>
Since founding Braeburn, Apple has earned more than $2.5 billion in
interest and dividend income on its cash reserves and investments around
the globe. If Braeburn were located in Cupertino, where Apple’s top
executives work, a portion of the domestic income would be taxed at
California’s 8.84 percent corporate income tax rate. </p>
<p>
But in Nevada there is no state corporate income tax and no capital gains tax. </p>
<p>
What’s more, Braeburn allows Apple to lower its taxes in other states —
including Florida, New Jersey and New Mexico — because many of those
jurisdictions use formulas that reduce what is owed when a company’s
financial management occurs elsewhere. Apple does not disclose what
portion of cash taxes is paid to states, but the company reported that
it owed $762 million in state income taxes nationwide last year. That
effective state tax rate is higher than the rate of many other tech
companies, but as Ms. Clausing and other tax analysts have noted, such
figures are often not reliable guides to what is actually paid. </p>
<p>
Dozens of other companies, including Cisco, Harley-Davidson and
Microsoft, have also set up Nevada subsidiaries that bypass taxes in
other states. Hundreds of other corporations reap similar savings by
locating offices in Delaware. </p>
<p>
But some in California are unhappy that Apple and other California-based
companies have moved financial operations to tax-free states —
particularly since lawmakers have offered them tax breaks to keep them
in the state. </p>
<p>
In 1996, 1999 and 2000, for instance, the California Legislature
increased the state’s research and development tax credit, permitting
hundreds of companies, including Apple, to avoid billions in state
taxes, <a title="A California report on R&D tax credits" href="http://www.lao.ca.gov/2003/randd_credit/113003_research_development.html">according to legislative analysts</a>. Apple has reported tax savings of $412 million from research and development credits of all sorts since 1996. </p>
<p>
Then, in 2009, after an intense lobbying campaign led by Apple, Cisco,
Oracle, Intel and other companies, the California Legislature reduced
taxes for corporations based in California but operating in other states
or nations. <a title="A California report on taxation changes" href="http://www.leginfo.ca.gov/pub/09-10/bill/asm/ab_0001-0050/abx3_15_cfa_20090215_133520_asm_floor.html">Legislative analysts say</a> the change will eventually cost the state government about $1.5 billion a year. </p>
<p>
Such lost revenue is one reason California now faces <a title="A state report on budget challenges" href="http://www.lao.ca.gov/analysis/2012/update/economic-revenue-update-022712.pdf">a budget crisis</a>,
with a shortfall of more than $9.2 billion in the coming fiscal year
alone. The state has cut some health care programs, significantly raised
tuition at state universities, cut services to the disabled and
proposed a $4.8 billion reduction in spending on kindergarten and other
grades. </p>
<p>
Apple declined to comment on its Nevada operations. Privately, some
executives said it was unfair to criticize the company for reducing its
tax bill when thousands of other companies acted similarly. If Apple
volunteered to pay more in taxes, it would put itself at a competitive
disadvantage, they argued, and do a disservice to its shareholders.
</p>
<p>
Indeed, Apple’s decisions have yielded benefits. <a title="Apple’s latest 10-Q" href="http://files.shareholder.com/downloads/AAPL/1826229879x0xS1193125-12-182321/320193/filing.pdf">After announcing</a>
one of the best quarters in its history last week, the company said it
had net profits of $24.7 billion on revenues of $85.5 billion in the
first half of the fiscal year, and more than $110 billion in the bank,
according to company filings. </p>
<p>
<strong>A Global Tax Strategy</strong> </p>
<p>
Every second of every hour, millions of times each day, in living rooms
and at cash registers, consumers click the “Buy” button on iTunes or
hand over payment for an Apple product. </p>
<p>
And with that, an international financial engine kicks into gear, moving
money across continents in the blink of an eye. While Apple’s Reno
office helps the company avoid state taxes, its international
subsidiaries — particularly the company’s assignment of sales and patent
royalties to other nations — help reduce taxes owed to the American and
other governments. </p>
<p>
For instance, one of Apple’s subsidiaries in Luxembourg, named iTunes
S.à r.l., has just a few dozen employees, according to corporate
documents filed in that nation and a current executive. The only
indication of the subsidiary’s presence outside is a letterbox with a
lopsided slip of paper reading “ITUNES SARL.” </p>
<p>
Luxembourg has just half a million residents. But when customers across
Europe, Africa or the Middle East — and potentially elsewhere — download
a song, television show or app, the sale is recorded in this small
country, according to current and former executives. In 2011, iTunes S.à
r.l.’s revenue exceeded $1 billion, according to an Apple executive,
representing roughly 20 percent of iTunes’s worldwide sales. </p>
<p>
The advantages of Luxembourg are simple, say Apple executives. The
country has promised to tax the payments collected by Apple and numerous
other tech corporations at low rates if they route transactions through
Luxembourg. Taxes that would have otherwise gone to the governments of
Britain, France, the United States and dozens of other nations go to
Luxembourg instead, at discounted rates. </p>
<p>
“We set up in Luxembourg because of the favorable taxes,” said Robert
Hatta, who helped oversee Apple’s iTunes retail marketing and sales for
European markets until 2007. “Downloads are different from tractors or
steel because there’s nothing you can touch, so it doesn’t matter if
your computer is in France or England. If you’re buying from Luxembourg,
it’s a relationship with Luxembourg.” </p>
<p>
An Apple spokesman declined to comment on the Luxembourg operations. </p>
<p>
Downloadable goods illustrate how modern tax systems have become
increasingly ill equipped for an economy dominated by electronic
commerce. Apple, say former executives, has been particularly talented
at identifying legal tax loopholes and hiring accountants who, as much
as iPhone designers, are known for their innovation. In the 1980s, for
instance, Apple was among the first major corporations to designate
overseas distributors as “commissionaires,” rather than retailers, said
Michael Rashkin, Apple’s first director of tax policy, who helped set up
the system before leaving in 1999. </p>
<p>
To customers the designation was virtually unnoticeable. But because
commissionaires never technically take possession of inventory — which
would require them to recognize taxes — the structure allowed a salesman
in high-tax Germany, for example, to sell computers on behalf of a
subsidiary in low-tax Singapore. Hence, most of those profits would be
taxed at Singaporean, rather than German, rates. </p>
<p>
<strong>The Double Irish</strong> </p>
<p>
In the late 1980s, Apple was among the pioneers in creating a tax
structure — known as the Double Irish — that allowed the company to move
profits into tax havens around the world, said Tim Jenkins, who helped
set up the system as an Apple European finance manager until 1994.
</p>
<p>
Apple created two Irish subsidiaries — today named Apple Operations
International and Apple Sales International — and built a glass-encased
factory amid the green fields of Cork. The Irish government offered
Apple tax breaks in exchange for jobs, according to former executives
with knowledge of the relationship. </p>
<p>
But the bigger advantage was that the arrangement allowed Apple to send
royalties on patents developed in California to Ireland. The transfer
was internal, and simply moved funds from one part of the company to a
subsidiary overseas. But as a result, some profits were taxed at the
Irish rate of approximately 12.5 percent, rather than at the American
statutory rate of 35 percent. In 2004, Ireland, a nation of less than 5
million, was home to more than one-third of Apple’s worldwide revenues,
according to company filings. (Apple has not released more recent
estimates.) </p>
<p>
Moreover, the second Irish subsidiary — the “Double” — allowed other
profits to flow to tax-free companies in the Caribbean. Apple has
assigned partial ownership of its Irish subsidiaries to Baldwin Holdings
Unlimited in the British Virgin Islands, a tax haven, according to
documents filed there and in Ireland. Baldwin Holdings has no listed
offices or telephone number, and its only listed director is Peter
Oppenheimer, Apple’s chief financial officer, who lives and works in
Cupertino. Baldwin apples are known for their hardiness while traveling.
</p>
<p>
Finally, because of Ireland’s treaties with European nations, some of
Apple’s profits could travel virtually tax-free through the Netherlands —
the Dutch Sandwich — which made them essentially invisible to outside
observers and tax authorities. </p>
<p>
Robert Promm, Apple’s controller in the mid-1990s, called the strategy “the worst-kept secret in Europe.” </p>
<p>
It is unclear precisely how Apple’s overseas finances now function. In
2006, the company reorganized its Irish divisions as unlimited
corporations, which have few requirements to disclose financial
information. </p>
<p>
However, tax experts say that strategies like the Double Irish help
explain how Apple has managed to keep its international taxes to 3.2
percent of foreign profits last year, to 2.2 percent in 2010, and in the
single digits for the last half-decade, according to the company’s
corporate filings. </p>
<p>
Apple declined to comment on its operations in Ireland, the Netherlands and the British Virgin Islands. </p>
<p>
Apple reported in its last annual disclosures that $24 billion — or 70
percent — of its total $34.2 billion in pretax profits were earned
abroad, and 30 percent were earned in the United States. But Mr.
Sullivan, the former Treasury Department economist who today writes for
the trade publication Tax Analysts, said that “given that all of the
marketing and products are designed here, and the patents were created
in California, that number should probably be at least 50 percent.”
</p>
<p>
If profits were evenly divided between the United States and foreign
countries, Apple’s federal tax bill would have increased by about $2.4
billion last year, he said, because a larger amount of its profits would
have been subject to the United States’ higher corporate income tax
rate. </p>
<p>
“Apple, like many other multinationals, is using perfectly legal methods
to keep a significant portion of their profits out of the hands of the
I.R.S.,” Mr. Sullivan said. “And when America’s most profitable
companies pay less, the general public has to pay more.” </p>
<p>
Other tax experts, like <a title=""Stateless Income" by Mr. Kleinbard" href="http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1791769">Edward D. Kleinbard</a>, former chief of staff of the Congressional Joint Committee on Taxation, have reached similar conclusions. </p>
<p>
“This tax avoidance strategy used by Apple and other multinationals
doesn’t just minimize the companies’ U.S. taxes,” said Mr. Kleinbard,
now a professor of tax law at the University of Southern California.
“It’s German tax and French tax and tax in the U.K. and elsewhere.”
</p>
<p>
One downside for companies using such strategies is that when money is
sent overseas, it cannot be returned to the United States without
incurring a new tax bill. </p>
<p>
However, that might change. Apple, which holds $74 billion offshore,
last year aligned itself with more than four dozen companies and
organizations urging Congress for a “repatriation holiday” that would
permit American businesses to bring money home without owing large
taxes. <a title="WinAmerica Campaign" href="http://www.winamericacampaign.org/">The coalition</a>,
which includes Google, Microsoft and Pfizer, has hired dozens of
lobbyists to push for the measure, which has not yet come up for vote.
The tax break would cost the federal government $79 billion over the
next decade, according to a Congressional report. </p>
<p>
<strong>Fallout in California</strong> </p>
<p>
In one of his last public appearances before his death, <a href="http://topics.nytimes.com/top/reference/timestopics/people/j/steven_p_jobs/index.html?inline=nyt-per" title="More articles about Steven P. Jobs." class="meta-per">Steven P. Jobs</a>, Apple’s chief executive, addressed Cupertino’s City Council last June, seeking approval to build a new headquarters. </p>
<p>
Most of the Council was effusive in its praise of the proposal. But one councilwoman, Kris Wang, had questions. </p>
<p>
How will residents benefit? she asked. Perhaps Apple could provide free
wireless Internet to Cupertino, she suggested, something Google had done
in neighboring Mountain View. </p>
<p>
“See, I’m a simpleton; I’ve always had this view that we pay taxes, and
the city should do those things,” Mr. Jobs replied, according to <a title="Video of Cupertino City Counsel meeting" href="http://www.youtube.com/watch?v=gtuz5OmOh_M">a video of the meeting</a>. “That’s why we pay taxes. Now, if we can get out of paying taxes, I’ll be glad to put up Wi-Fi.” </p>
<p>
He suggested that, if the City Council were unhappy, perhaps Apple could
move. The company is Cupertino’s largest taxpayer, with more than $8
million in property taxes assessed by local officials last year. </p>
<p>
Ms. Wang dropped her suggestion. </p>
<p>
Cupertino, Ms. Wang said in an interview, has real financial problems.
“We’re proud to have Apple here,” said Ms. Wang, who has since left the
Council. “But how do you get them to feel more connected?” </p>
<p>
Other residents argue that Apple does enough as Cupertino’s largest
employer and that tech companies, in general, have buoyed California’s
economy. Apple’s workers eat in local restaurants, serve on local boards
and donate to local causes. Silicon Valley’s many millionaires pay
personal state income taxes. In its statement, Apple said its
“international growth is creating jobs domestically, since we oversee
most of our operations from California.” </p>
<p>
“The vast majority of our global work force remains in the U.S.,” the
statement continued, “with more than 47,000 full-time employees in all
50 states.” </p>
<p>
Moreover, Apple has given nearby Stanford University more than $50
million in the last two years. The company has also donated $50 million
to an African aid organization. In its statement, Apple said: “We have
contributed to many charitable causes but have never sought publicity
for doing so. Our focus has been on doing the right thing, not getting
credit for it. In 2011, we dramatically expanded the number of deserving
organizations we support by initiating a matching gift program for our
employees.” </p>
<p>
Still, some, including De Anza College’s president, Mr. Murphy, say the
philanthropy and job creation do not offset Apple’s and other companies’
decisions to circumvent taxes. Within 20 minutes of the financially
ailing school are the global headquarters of Google, Facebook, Intel,
Hewlett-Packard and Cisco. </p>
<p>
“When it comes time for all these companies — Google and Apple and
Facebook and the rest — to pay their fair share, there’s a knee-jerk
resistance,” Mr. Murphy said. “They’re philosophically antitax, and it’s
decimating the state.” </p>
<p>
“But I’m not complaining,” he added. “We can’t afford to upset these guys. We need every dollar we can get.” </p>
<div class="authorIdentification">
<p>Additional reporting was contributed by Keith Bradsher in Hong Kong,
Siem Eikelenboom in Amsterdam, Dean Greenaway in the British Virgin
Islands, Scott Sayare in Luxembourg and Jason Woodard in Singapore.
</p> </div>
<div class="articleCorrection">
</div>
</div>
<br clear="all"><br>-- <br>Art Deco (Wayne A. Fox)<br><a href="mailto:art.deco.studios@gmail.com" target="_blank">art.deco.studios@gmail.com</a><br>