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The rising tax-electivity of US corporate residence

In 1975, Bill Gates moved to New Mexico and founded Microsoft there. This may have been a mistake. William Woods, while head of the Bermuda Stock Exchange, claimed that Gates “would be fabulously more wealthy if he had started Microsoft in Bermuda . . . [H]is ignorance about tax cost him a fortune.”1 As the author of the article, quoting Woods, adds, “Mr. Gates has not done badly even so, but he knows better now. The new company that he recently cofounded is now incorporated in Bermuda.”2 Notwithstanding any boosterism or hyperbole that one might detect in this statement, Woods had an undeniable point. Gates’ new company, as a foreign corporation for U.S. federal income tax purposes, is taxable in the United States only on what the U.S. rules classify as domestic source income. Microsoft, by contrast, as a U.S. corporation and thus, under the rules, a resident taxpayer just like any individual who is an U.S. citizen, potentially is taxable in the United States on all of its worldwide income. This may be inconvenient for a company like Microsoft, not just because it earns vast profits abroad, but also because its resident status impedes tax planning that otherwise might have been available to minimize its domestic source income, as defined by the U.S. rules. Once a company is incorporated in the United States, however, escaping its status as a U.S. resident is difficult. It may require genuinely being purchased by new owners, such as a private equity fund or else a distinct foreign company with its own shareholders and manag-