Re-incorporating a company overseas in order to reduce the tax burden on income earned abroad. Corporate inversion as a strategy is used by companies that receive a significant portion of their income from foreign sources, since that income is taxed both abroad and in the country of incorporation. Companies undertaking this strategy are likely to select a country that has lower tax rates and less stringent corporate governance requirements.
Corporate inversion is one of the many strategies companies employ to reduce their tax burden. One way that a company can re-incorporate abroad is by having a foreign company buy its current operations. Assets are then owned by the foreign company, and the old incorporation is dissolved.
For example, take a manufacturing company that incorporated itself in the United States in the 1950s. For years the majority of its revenue came from U.S. sales, but recently the percentage of sales coming from abroad has grown. Income from abroad is taxed in the United States, and U.S. tax credits do not cover all taxes that the company has to pay abroad. As the percentage of sales coming from foreign operations grows relative to domestic operations, the company will find itself paying more U.S. taxes because of where it incorporated. If it incorporates abroad, it can bypass having to pay higher U.S. taxes on income that is not generated in the United States. This is a corporate inversion.
Corporate inversion is not considered tax evasion as long as it doesn’t involve misrepresenting information on a tax return or undertaking illegal activities to hide profits.