Embrace the irony, Starbucks

You may have noticed that Starbucks have been having a bit of a rough time in the press recently.

It is not hard to see why: people look at the amount of turnover the company generates in the UK and wonder how it doesn’t end up paying any corporation tax.

Of course, most people realise corporation tax is paid on profits, not turnover, so the question is modified to, “Why don’t Starbucks make any profit in the UK?”

The coffee-shop giant’s response that property costs in the UK are high seems reasonable; few people have chosen to pick a fight with that particular factor.

Instead, the two culprits singled out are the royalties paid to the company’s Netherlands-based parent and the price of supplies, which are routed through the Swiss entity – which appear to be enough for most people to draw the conclusion that there a clear-cut case of tax avoidance.

There’s one fact people haven’t considered: the Starbucks group has been paying more tax as a result of making losses in the UK.

Not more tax in the UK, granted, but the profits in the Netherlands and Switzerland are being taxed – and while those jurisdictions have lower tax rates than the UK, there’s no sense in having profits taxed there while creating huge losses in the UK.

Starbucks UK’s only available option is to carry forward its losses to be used against future profits of the trade.

Here’s the thing: unless Starbucks UK ultimately creates a profit, those losses are worthless.

And then the profits realised in the Netherlands and Switzerland are profits that would not have been taxed. Troy Alstead, Starbucks’ finance bigwig, said at the Public Accounts Committee that some of this is routed back to the US, where there is a higher tax rate. But this is an aside in the argument because it doesn’t matter whether the rates are lower or higher.

The point is that the UK entity cannot use the massive losses it is creating to offset against the profits in other jurisdictions.

So, why would Starbucks deliberately set out to make significant losses year-in-year-out knowing they would result in more tax?

The answer is it didn’t; realising profits in the lower tax jurisdictions would be seen as a reasonable tax-efficient option, provided the UK business was sufficiently profitable. But the UK business wasn’t sufficiently profitable.

In fact, the company made 14 years worth of losses in 15 years trading here, as its critics are so quick to point out. Besides, it is only fair the profits of the economic activity created by the Dutch and Swiss companies are recognised.

The value they provide is somewhat a matter of opinion, to which I defer to those who know more about transfer pricing.

This brings me to my final point: HMRC challenged the royalty payments to the Dutch company. So instead of getting a deduction of 6% of turnover in the UK, the Netherlands’ arm received 4.7%.

Here’s the irony: given Starbucks have accepted the adjustment and consistently used it for almost ten years, it has helped to reduce the group’s tax liability.

The smaller reduction has reduced the losses the coffee powerhouse has made in the UK. It has therefore reduced the profits in the Netherlands and US that would not have otherwise been taxed.

The adjustments made with the intention of increasing their tax liability have had the opposite effect.

Of course, the losses may prove to be more valuable if Starbucks can create a profit in the UK.

But that’s a timing difference, and I daresay the business would not have wished to wait so long to realise that asset – especially with real increases in tax liabilities in the US, Netherlands and Switzerland as a result.

As to what this means, I would speculate that those who believe Starbucks is guilty of tax avoidance and is therefore immoral will dismiss my argument or simply view it as a case of irony when tax avoidance backfires.

But for me, I believe that, as a tax efficient structure, Starbucks UK’s activities aren’t effective simply because they aren’t profitable right now; the company has no reason to create more costs on the UK business because it increases the risk of accumulating potentially worthless losses.

And given the public emotion being directed at Starbucks in the UK, I might suggest it won’t be profitable for a little while yet. So, those losses are going to keep on being worthless until then.

Of course, given the public furore the coffee shop chain may be more than willing to agree a further tax adjustment to the royalties paid to the Netherlands. It might save the firm some face with the public.

And some tax.

Ben Saunders CTA is an assistant business tax manager at LexisNexis