Are Obama’s offshore tax plans good for Indian suppliers and Mexico?

India is still the main offshore destination for those companies that want to deploy labour arbitrage to reduce their cost. This approach to reduce cost by replacing jobs in the U.S. and European countries with jobs in Asia and Africa is not something American and European politicians like to see (now even less then before). This political sentiment is demonstrated by among others president Obama who is thinking about ending tax breaks for companies that "ship jobs overseas. What the effect could be on offshore suppliers is however not clear yet. Most likely he wants to eliminate U.S. multinationals' ability to deduct business expenses associated with overseas operations while deferring tax payments on profits earned abroad (companies don't pay taxes to the U.S. government on income earned abroad until they bring the money back ('deferral').

In that case companies with their headquarters in the U.S. and delivery centres (shared service centres/ captives) outside the U.S. would be affected. These companies can be divided in two categories:

• American companies which own captives in other countries (e.g. GE, American Express, Proctor & Gamble) and,
• American companies which provide outsource services from the offshore locations to among others U.S. clients (e.g. IBM, Accenture)

Indian, Chinese, Vietnamese and other suppliers, not having their HQ in the U.S. are not or much less affected (unless Obama wants to include ‘outsourcing’ as a whole within the scope of its new tax rule). In this last case it would be very difficult to implement as ‘outsourcing’ is a very broad term and can include also manufacturing of clothes, car parts, washing machines etc. I mean, where would the legislation it start and where end? And which large new administrative government organisation is going to exercise control? (it would create a lot of jobs however…)

So what can the companies owning captives in other countries do to evade the new ruling? Well, one of the things that pops to my mind is selling of the captive to a local supplier and shift to a ‘classic’ outsource model. This would only work of course of ‘offshore outsourcing’ is out of scope.

If offshore outsourcing gets into scope, I guess that Mexico will become an even more popular destination as it is nearshore and within the NAFTA (North American Free Trade Agreement). Within the NAFTA there should be free trade of goods and services and I expect Mexico therefore to be unaffected. Expect TCS, Wipro and many other offshore suppliers in that case to start invest heavily in Mexico and Canada soon (and an increasing desire of Middle American countries to get into the NAFTA).

But as I think that including ‘outsourcing’ within the scope of the new tax ruling would make things far to complex do I have to agree for now with the statement of the CEO of Infosys on this matter: "Right now, I do not see any impact on our business" and he further mentioned that he would continue to monitor the situation. I will do the same from my end.