That Will Leave a Mark

Microsoft has evaded taxes for years by shuffling revenue through its subsidiaries for years.

Following a detailed audit, the US Department of Internal Revenue took exception, to the tune of $29 billion dollars.

Given Microsoft's numbers, $198.3 billion in revenue, and $72.7 billion in profits, a 36% profit margin, this won't destroy the company, but it will leave a mark:

In a long-awaited development, the largest audit in the history of the IRS has finally taken its next step. On Wednesday, Microsoft announced that the agency had notified the company that it owes $28.9 billion in back taxes, plus penalties and interest.

The case is epic not only in dollars but in scope. As ProPublica reported in an in-depth narrative in 2020, the IRS saw the case as a chance to prove the agency’s effectiveness. Often cowed by the prospect of facing off against corporations with endless resources, the IRS set out to be bolder and more aggressive. It took the unusual step of hiring a corporate law firm to represent the agency, a step that incensed Microsoft. The company, along with others in its industry, responded by rallying allies in Congress to rein in the IRS.

The audit is already well over a decade old and figures to grow older, since Microsoft is allowed to appeal the IRS’ conclusions and says it plans to. The audit focused on a deal the agency would later describe as “illusory in nature, serving no material economic purpose except to shift income.” In 2005, ProPublica wrote, Microsoft “sold its most valuable possession — its intellectual property — to an 85-person factory it owned in a small Puerto Rican city.” Having struck a favorable tax deal with Puerto Rico, Microsoft then channeled its profits to the facility, which burned Windows and Office software onto CDs.

At the time, some Microsoft executives celebrated this “pure tax play,” and they had reason for optimism. Initially, the IRS did not take an aggressive tack. An early audit resulted in a much more modest change in 2011.

But earlier that same year, the IRS had set up a new unit to audit intra-company deals that sent U.S. profits to tax havens — deals that were especially common among tech companies like Google, Facebook and Apple. The leader of the new unit decided that Microsoft’s deal in Puerto Rico was worth a much closer look. The IRS withdrew its initial finding and dug in to build a deep, comprehensive case.

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The judge sided with the IRS, writing “the Court finds itself unable to escape the conclusion that a significant purpose, if not the sole purpose, of Microsoft’s transactions was to avoid or evade federal income tax.” He agreed with the IRS’ characterization of the deal as a tax shelter.

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The $29 billion that the IRS was seeking, he wrote, covered 2004 to 2013. He asserted, however, that the total, were the IRS to ultimately prevail, would be reduced by about $10 billion in taxes that Microsoft has already paid on its overseas profits. A major feature of President Donald Trump’s 2017 tax bill was a requirement that companies repatriate those profits, though they paid a special, low tax rate when they did. Microsoft had stored up $142 billion in offshore profits by 2017.

Here is hoping that model will be extended to other companies, particularly those in the tech sector.