Barclays and Colgate lose US tax case: Supreme Court says California has right to demand that companies pay on earnings outside the state

KENNETH Clarke, the Chancellor, warned California to speed up reform of its tax system after Barclays Bank and Colgate Palmolive lost their US Supreme Court bid challenging the state's controversial tax on foreign companies.

Under the state's 'unitary' tax system, foreign-owned multinational companies face a tax bill based on their worldwide income.

The court yesterday upheld California's system and rejected claims from the two companies for the repayment of tax paid on their earnings outside the state. Barclays had been seeking up to dollars 30m, but the bank made clear that the issue in the case was the principle of unitary taxation rather than the amount.

The British Government has previously hinted that it might retaliate against California's unitary taxation, which was scaled back in 1988 and virtually ended last year. The Government would find it hard to take action on a matter of principle when the tax burden has been lifted in practice.

California is currently producing detailed regulations following reforms last September. However, it now has the right to reintroduce unitary taxation whenever it wants.

Last night Mr Clarke said the Government had always strongly opposed the imposition of worldwide unitary tax on UK-owned companies.

He warned: 'Any step backwards will only deter foreign investment and I share the concerns of British business that the regulations and the clean-up legislation have not yet been enacted.

'Consequently, the UK will retain its retaliatory powers against the possibility that the States might damage UK-owned companies at some time in the future.'

Barclays said it regretted the decision on an important issue of international taxation that affected numerous other UK and foreign multinationals as well as Barclays.

It added: 'Any weakening of the certainty provided by the internationally accepted arms-length approach to taxation is likely to have adverse consequences for world trade generally.'

California's total potential liability, had the Supreme Court ordered refunds to all foreign-based companies, was about dollars 4bn.

'The Constitution does not impede application of California's tax to Barclays and Colgate,' Justice Ruth Bader Ginsburg wrote in the Supreme Court opinion.

She rejected Barclays' argument that the tax imposed inordinate compliance burdens on foreign firms and unconstitutionally discriminated against commerce.