President Reagan yesterday announced he would propose legislation to prohibit states from including income from foreign operations when they tax corporations.
The announcement on the so-called worldwide unitary method of taxation, which had been expected for some time, served to defuse a pending crisis between the United States and Great Britain. The British Parliament this summer passed legislation imposing retaliatory tax measures on U.S. corporations operating in Britain.
The British government released statements in London and Washington yesterday promising not to implement the new law if the administration introduced its bill before the end of the year and had it passed into law before Jan. 1, 1987.
The president's promise to curb the unitary taxation method was expected to put pressure on California to repeal its law. California is the largest state still using the unitary tax. The state legislature tried to repeal the tax law this summer, but failed.
A senior Treasury Department official said that if California repealed its unitary tax -- a move that could cost the state as much as $500 million in lost tax revenue per year -- "there might be a re-evaluation" of the administration's commitment to pushing a bill. "But this should be regarded as a full-court press," he added.
Six states at present employ the unitary method, under which income from all subsidiaries here and abroad is taken into consideration in state formulas determining what fraction of that income to tax. Besides California, they are Montana, Idaho, North Dakota, Alaska and New Hampshire. Utah is in the process of repealing its unitary method. Five other states also have repealed the method in the last few years.
Companies contend that it unfairly distorts income and results in over-taxation. Supporters of the method say states have the right to determine corporate income as they wish, and that companies could shift large hunks of profits abroad to avoid taxation without the unitary approach.
Reaction was mixed on Capitol Hill, where proposals to deal with the unitary method in one form or another have been circulating for years. Sen. Charles McC. Mathias Jr. (R-Md.), a strong opponent of the method and a sponsor of legislation to outlaw it, said he welcomed the administraton's action.
But Sens. Max S. Baucus (D-Mont.) and Steven D. Symms (R-Idaho) -- both members of the Senate Finance Committee -- opposed the administration action and said they would introduce a bill to deny tax benefits to companies based in countries that enact measures similar to the British law.
The National Governors Association and the National Conference of State Legislatures also oppose federal action to overturn the unitary method, while Fred E. Ferguson of the Council of State Chambers of Commerce called Reagan's announcement "the best action they could have taken."
Reagan's statement was vaguely worded, expressing support for the "concept of legislation" that would require a "water's edge" approach to taxation of multinationals and would deal with state taxes on dividends paid by foreign subsidiaries to their parent company in the U.S.