Bringing it Home: A Study of the Incentives Surrounding the Repatriation of Foreign Earnings Under the American Jobs Creation Act of 2004

Abstract

The American Jobs Creation Act of 2004 (the Act) creates a temporary tax holiday that effectively reduces the U.S. tax rate on repatriations from foreign subsidiaries from 35% to 5.25%. Firms receive the reduced tax rate by electing to take an 85% dividends received deduction on repatriations in 2004 or 2005. This paper investigates the characteristics of firms that repatriate under the Act and how they use the repatriated funds. We find that firms that repatriate under the Act have lower investment opportunities and higher free cash flows than nonrepatriating firms. Further, we find that repatriating firms increase share repurchases during 2005 by approximately $60 billion more than nonrepatriating firms, an amount that cannot be explained by differences in earnings between the two groups of firms. This increase represents about 20% of the $291.6 billion repatriated by our sample firms under the Act. AbstractThe American Jobs Creation Act of 2004 (the Act) creates a temporary tax holiday that effectively reduces the U.S. tax rate on repatriations from foreign subsidiaries from 35 percent to 5.25 percent. Firms receive the reduced tax rate by electing to take an 85 percent dividends received deduction on repatriations in 2004 or 2005. This paper investigates the characteristics of firms that repatriate under the Act and how they use the repatriated funds. We find that firms that repatriate under the Act have lower investment opportunities and higher free cash flows than non-repatriating firms. Further, we find that repatriating firms increase share repurchases during 2005 by $55.80 to $60.85 billion more than non-repatriating firms. This increase represents 19.14 to 20.87 percent of the $291.6 billion repatriated under the Act. This paper provides useful information to policy makers about the effect of a temporary tax holiday on firms' investment behavior.

Barriers to Mobility: The Lockout Effect of U.S. Taxation of Worldwide Corporate Profits

“…The most common yes response from 47.4 percent of the firms was that they used the funds to pay down domestic debt. Consistent with the empirical data (e.g., Blouin and Krull (2008)), the second most common response was that 40.4 percent of the firms used freed up cash to repurchase shares. In addition, 17.5 percent of our respondents say they paid dividends to shareholders with the freed up funds.…”

“…On average, the respondents report that seven percent of the funds repatriated was used for acquisitions and an average of 4.6 percent was still held in cash at the end of 2006. In contrast to Blouin and Krull (2008) and Clemons and Kinney (2008) (but consistent with Brennan (2007)), we do not find an overwhelming indication that firms used the cash to repurchase shares. In fact, on average, only 3.4 percent of the funds were used to repurchase shares and only 0.3 percent on average was used to pay dividends.…”

“…In addition, firms report that the two most common uses for cash "freed up" by the repatriated cash were paying down domestic debt and repurchasing shares, as one would expect in an efficient market (additional cash does not create new investment opportunities). This result sheds light on the empirical finding (in Blouin and Krull (2008) for example) that firms used the repatriated cash for share repurchases, which the authors point out is not a "permitted use" of the funds. The more detailed data from the survey reveal that to a large extent the firms used the cash from the repatriations for permitted uses and used "freed up" cash to repurchase shares.…”

“…In an attempt to investigate this possibility, we examine whether our respondent sample differed in terms of "unexpected repatriations" as defined in Blouin and Krull (2008). We compare our respondent firm repurchases over the years [2004][2005][2006][2007] to the average repurchase level of the firms in the Blouin and Krull (2006) study.…”

“…Several papers have investigated the use of funds using archival publicly available data. For example, Blouin and Krull (2008) examine firms that repatriated dividends and their spending activities following the repatriation. The authors conclude that firms used the cash to repurchase shares and that there was not an increase in capital investment.…”