The Truth About Obama's 'Tax on Outsourcing'

U.S. President Barack Obama had barely finished his seven-minute speech decrying a tax code "that says you should pay lower taxes if you create a job in Bangalore, India, than if you create one in Buffalo, New York," when the press reports started pouring out. Headlines referred to the President's plan to close overseas business tax loopholes as a 'tax on outsourcing' and proclaimed that he was taking direct aim at Indian offshore outsourcing firms--and the American companies who hire them. Misconceptions about offshoring and outsourcing littered their initial analysis of Obama's plan.

To clear up those misperceptions, CIO.com separates fact from fiction, pointing out what is known and--just as important--what isn't clear about the White House's proposal and what it means for IT vendors, their customers, and for IT jobs.

Perception: Outsourcing and offshoring are synonymous.

Reality: More than a decade into the age of offshore outsourcing, people still get these two concepts confused.

Outsourcing is the practice of contracting out of goods or services to a third party. You can outsource IT services anywhere in the world--from Bangalore to Buffalo.

Offshoring refers to the practice of completing work at a non-domestic location, whether by workers at a company's own offshore subsidiary (often called a "captive" center) or by a third-party. When you combine the two--offshore outsourcing--you're getting more specific, referring to contracting with an overseas vendor for goods or services.

Understanding the difference between the terms is more than just good semantics; it can create clarity around what Obama might actually be proposing and whom it will affect.

Perception: Obama wants to tax offshore outsourcing.

Reality: In his remarks last week, Obama said his budget will end tax breaks for companies that "ship jobs overseas." But no one is quite sure whether Obama is talking about companies with captive offshore operations or companies that outsource to third-parties based overseas, or both.

"I still don't know what the President is referring to when he talks about eliminating the tax benefit associated with offshoring jobs," admits Daniel Masur, an outsourcing attorney and partner in the Washington, D.C. office of Mayer Brown.

Masur, like most, assumes Obama wants to eliminate U.S. multinationals' ability to deduct business expenses associated with overseas operations while deferring tax payments on profits earned abroad.

The confusion stems from the fact that there's more than one way to ship a job overseas (see the difference between offshoring and offshore outsourcing above).

In fact, Obama's plan addresses only those U.S. companies who operate subsidiaries overseas (the captive centers.) In the IT vendor community, that would include, for example, IBM Global Services and Accenture. It would also affect a good number of non-vendor Fortune 500 companies who maintain a presence abroad, such as GE and Proctor & Gamble, some of which provide their parent companies with IT services.