Google, owner of the world's most popular search engine, has cut its worldwide tax bill by about $1 billion a year using a pair of strategies called the “Double Irish” and “Dutch Sandwich,” which move profits through units in Ireland, the Netherlands and Bermuda. Google reported an effective tax rate of 18.8 percent in the second quarter, less than half the average combined U.S. and state statutory rate of 39.2 percent.

Tax Holiday

“This is a routine inquiry,” said Jim Prosser, a spokesman for Mountain View, California-based Google. He declined to comment further.

Dean Patterson, a spokesman for the IRS in Washington, said federal law prohibits the agency from discussing specific taxpayers.

U.S. companies are sitting on at least $1.375 trillion in earnings in their foreign subsidiaries on which they have paid no federal income taxes, according to a May report by JPMorgan Chase & Co. Companies including Google, Cisco Systems Inc., Pfizer Inc., Apple Inc. and Microsoft Corp. are lobbying Congress for a tax holiday on bringing home those profits, which would otherwise be subject to U.S. income tax at the 35 percent corporate rate with a credit for foreign taxes already paid.

The Obama administration is opposed to that tax break and has been stepping up criticism of tax preferences for various industries and millionaires. Last week, Senate Democrats proposed a new surtax on people earning at least $1 million a year, a move that would generate an estimated $453 billion over the coming decade.

France Probe

The French tax authority also began reviewing Google's income shifting in December, examining transactions between the company's French and Irish subsidiaries, according to two people with knowledge of the probe. The French inquiry was prompted by the October 2010 Bloomberg article on the company's tax-cutting strategy, the people said.

A spokesman for the French budget ministry, which oversees the tax authority, declined to comment, saying the agency cannot discuss individual cases.

Multinational companies cut their tax bills by shifting earnings into subsidiaries in offshore tax havens, a strategy that is drawing increased scrutiny from the IRS.

In May, the IRS appointed its first transfer-pricing director, Samuel Maruca. Last year, it announced the assignment of additional agents and attorneys to examine a few large companies as part of a pilot program. The IRS wouldn't discuss whether Google is one of those companies.

Valuable Patents

Moving profit abroad is particularly important for cutting the tax bills of technology and pharmaceutical companies because of their valuable and easily transportable collection of patents and copyrights. Google, Cisco, Facebook Inc., Microsoft and Forest Laboratories Inc., maker of the blockbuster antidepressant Lexapro, have used tax-cutting strategies that move profits into units — often with no employees or offices — in havens such as Bermuda, the Cayman Islands and Switzerland, Bloomberg has reported.

In recent years, the IRS has engaged in a number of high profile disagreements with multinational companies over their transfer pricing. In 2006, the agency announced it was settling its dispute with GlaxoSmithKline.

In 2009, the IRS lost a closely watched U.S. Tax Court case with Veritas, now a part of computer-security software maker Symantec Corp. In that dispute, over intellectual property rights moved to an offshore subsidiary, the IRS sought $545 million.

Enforcement Setback

The win for Veritas was a major setback for the IRS's ability to enforce transfer-pricing rules, according to H. David Rosenbloom, an attorney at Caplin & Drysdale in Washington, and director of the International Tax program at New York University School of Law.

Income shifting by multinational companies cost the U.S. $90 billion in federal tax revenue during 2008, according to a March article in the trade journal Tax Notes by Kimberly Clausing, an economics professor at Reed College in Portland, Oregon.

Google cuts its tax bill by about $1 billion a year using a technique that allocates profits to a unit managed out of a law firm in Bermuda, where there is no corporate income tax. In 2009, the most recent year for which records are available, this subsidiary collected 4.34 billion euros (about $6.1 billion) in royalties from a Google unit in the Netherlands, according to a Dutch corporate filing.

As of June 30, Google held $18.8 billion in cash in its foreign subsidiaries, almost half its total $39.1 billion in cash and marketable securities.

'Buy In'

The IRS has already approved a major part of Google's strategy. In 2006, the agency signed off on a 2003 intracompany transaction that moved foreign rights to its search technology to an Irish subsidiary managed in Bermuda called Google Ireland Holdings. That deal — known as a “buy in” in tax parlance — meant subsequent profit overseas based on those copyrights has been attributed to foreign subsidiaries rather than to Google in the U.S. where the technology was developed.

The IRS approval came in an accord known as an advance pricing agreement. Those arrangements are part of an agency program intended to forestall disputes with companies, including disagreements over the price paid by offshore units for patent and other intellectual property rights.

Google Acquisitions

That deal between the IRS and Google only covered rights the company held as of the 2003 licensing deal with its Irish unit. It didn't cover copyrights subsequently acquired by the U.S. parent and then moved abroad.

Following that 2003 transaction, Google made several acquisitions, spending $1.65 billion for online-video site YouTube in 2006; $625 million for e-mail security service Postini in 2007; and $3.2 billion for web-advertising company DoubleClick Inc. in 2008. The IRS now is examining the prices paid by the foreign subsidiaries for the rights to software and other intangibles moved offshore that formerly belonged to those three companies.

According to U.S. Treasury Department rules, foreign units licensing rights from their U.S. parents are supposed to pay an “arm's length” price, or the amount that would be paid by an unrelated company. If the offshore subsidiary pays too little, that has the effect of shifting income overseas, thus helping the parent avoid U.S. income taxes.

SEC Review

Google's taxes have also drawn government scrutiny from the Securities and Exchange Commission. Last December, the SEC asked the company for “greater detail” about the profit it said it had earned in countries with lower tax rates and the impact on its effective tax rate, according to correspondence released by the agency in March. The SEC said in a February letter that it had completed its review of Google's filings. It is unclear what action, if any, the agency took.

In August, Google announced it was spending $12.5 billion to acquire Motorola Mobility Holdings Inc., the Libertyville, Illinois telecom-equipment and mobile-phone maker. Google said it was doing the deal primarily for Motorola's collection of valuable patents. Prosser didn't respond to a question about whether Google would be moving any of those patent rights offshore.

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