Academic journal article Accounting Horizons

How Chevron, Texaco, and the Indonesian Government Structured Transactions to Avoid Billions in U.S. Income Taxes

Academic journal article Accounting Horizons

How Chevron, Texaco, and the Indonesian Government Structured Transactions to Avoid Billions in U.S. Income Taxes

Article excerpt

SYNOPSIS: This paper explains the transactions, agreements, and accounting that Chevron, Texaco, and the Government of Indonesia used to structure transactions that avoided billions in U.S. income taxes. Although ChevronTexaco became a merged entity on October 9, 2001, for many years Chevron and Texaco operated as separate corporations, with each owning 50 percent of a group of primarily non-U.S. companies collectively known as Caltex. Transactions were structured such that Chevron and Texaco subsidiaries paid Caltex excessive prices for Indonesian crude oil, leading to excessive dividend income (with foreign tax credits) and cost of sales deductions on U.S. income tax returns. When one of the equal shareholders purchased more overpriced oil than the other, Caltex paid monthly "Special Dividends" to the "overlifter" that could be construed as cost rebates, not dividends. To compensate for the extra taxes it received, the Government of Indonesia provided Caltex with oil in excess of the amount called for under the formal production-sharing contract (PSC) with the Government of Indonesia.

We estimate that this arrangement allowed Chevron and Texaco together to annually avoid paying some $220 million in federal income taxes and $11.1 million in state income taxes from 1964 to 2002. These estimates produce total federal and state taxes avoided of $8.6 billion and $433 million, respectively, for the combined company, ChevronTexaco.

INTRODUCTION

The purpose of this paper is to explain the transactions, agreements, and accounting methods that Chevron and Texaco employed, and apparently continue to employ, to reduce tax paid in the United States. Our principal objective is to enable students, academics, and policy makers to appreciate the extensive transaction structuring and controversial accounting that can occur when large multinational corporations cooperate with foreign governments to avoid U.S. taxes. Another objective is to encourage federal and state tax officials to reexamine this arrangement.

Although ChevronTexaco became a merged entity on October 9, 2001, for many years Chevron and Texaco operated as separate corporations, with each owning 50 percent of a group of primarily non-U.S, companies collectively known as Caltex. (1) Transactions were structured such that subsidiaries of Chevron and Texaco paid Caltex above-market prices for Indonesian crude oil, leading to lower U.S. income and higher Indonesian income and related taxes. Without some form of compensation, Chevron and Texaco officials might have violated their responsibilities to shareholders if they deliberately shifted income from the lower U.S. marginal tax rate to the higher Indonesian marginal tax rate. However, further examination indicates that Chevron and Texaco officials were indeed concerned about shareholder wealth, as Caltex received compensation for the excess Indonesian tax from the Indonesian Government's wholly owned oil company, Pertamina.

Caltex sold its Indonesian oil production to only U.S. subsidiaries of Chevron and Texaco, termed offtakers, at approximately $4.55 more than fair market value. Special Dividends were paid by Caltex to either Chevron or Texaco, depending on which of the firms' offtakers bought more of the overpriced oil. The above-market price created additional dividend income (with foreign tax credits) and cost of sales deductions that were reported on U.S. income tax returns.

Offtaker: U.S. subsidiary of either Chevron or Texaco that purchases crude oil produced by Caltex. By paying above-market prices for this oil, an increased cost of goods sold was deducted on U.S. income tax returns of Chevron and presumably Texaco.

We roughly estimate that the arrangement enabled Chevron and Texaco together to avoid some $8.6 billion in federal income taxes and $433 million in state income taxes across the 39-year period ending December 31, 2002, excluding potential interest and penalty additions. …

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