Towards better global corporate tax regime

‘Since the 1980s, countries have competed for business by reducing companies’ taxes. A few nations, like Ireland and Bermuda, have adopted extremely low rates and become tax havens for companies like Google and Apple. Last week, 130 countries, including the United States, agreed to a blueprint to tax their companies’ profits at a minimum 15 percent rate — no matter where the profits are booked. The pact is a step in the right direction. But for working-class Americans who have fallen behind as tax cuts helped the rich get richer, 15 percent is too little, too late.’ – Excerpts from a recently published New York Times (NYT) article ‘This is tax evasion: plain and simple’ by Gabriel Zucman and Gus Wezerek

The announcement to this effect was first during finance ministers of G7 meetings in London whereby, according to a Guardian article on June 5 ‘Rishi Sunak announces “historic agreement” by G7 on tax reform’, UK’s Chancellor Rishi Sunak pointed out with regard to multinationals paying a minimum of 15 percent tax in each of the countries they operated from: ‘This is a truly historic agreement and I’m proud the G7 has shown collective leadership at this crucial time in our global economic recovery.’

More recently, on July 1, 132 countries and jurisdictions as of July 9, 2021, including Pakistan, agreed - as pointed out by OECD (under whose auspices the deal was conducted) – to the ‘Statement on a Two-Pillar Solution to address the tax challenges arising from the digitalisation of the economy’, whereby as per the OECD, the scope of the agreement ‘aims to ensure that large Multinational Enterprises (MNEs) pay tax where they operate and earn profits, while adding much-needed certainty and stability to the international tax system. … It would re-allocate some taxing rights over MNEs from their home countries to the markets where they have business activities and earn profits, regardless of whether firms have a physical presence there. … [and will] put a floor on competition over corporate income tax, through the introduction of a global minimum corporate tax rate that countries can use to protect their tax bases.’

Also, the initial threshold at which this minimum 15% tax rate to be implemented, will also fall over time, as pointed out by this five-page agreement under ‘OECD/G20 Base Erosion and Profit Shifting Project’, whereby ‘In-scope companies are the multinational enterprises (MNEs) with global turnover above 20 billion euros [$24 billion] and profitability above 10% (i.e. profit before tax/revenue) with the turnover threshold to be reduced to 10 billion euros [$12 billion]… with the relevant review beginning 7 years after the agreement comes into force, and the review being completed in no more than one year.’ Moreover, a recently published article in the Economist ‘A global corporate tax deal takes shape’ pointed out ‘To address the common complaint that digital companies can make profits somewhere without registering the physical presence often necessary to tax them, governments will be able to levy some tax if local revenues exceed just €1m. In small, poor countries with GDP of less than €40bn [$47 billion] the threshold will be only €250,000 [$296,150].’

The next steps with regard to implementing this deal include reaching an agreement on a detailed implementation strategy by October this year. Among issues to be discussed during this time and how to move thereafter, according to the same Economist article, include ‘Having secured a high-level agreement, negotiators have agreed on a deadline of October to settle important details. Some countries are pushing for a minimum tax rate of 15%; others want the floor to be higher. The base of profits subject to the minimum tax, the precise amount of taxing rights to be reallocated and the precise scope of unilateral measures to be withdrawn also have to be hammered out. After that, in 2022 governments must draw up an international treaty to reallocate taxing rights, to be implemented in 2023. The deal also envisages that minimum taxes might be legislated for in 2022 and implemented in 2023, though countries could do that without waiting for a treaty.’

While a significant number of countries have joined in, a few with corporate tax rates amongst the lowest in the world on MNCs, like Hungary, Estonia, Ireland, and Barbados, among others did not sign up on the agreement. This is because of the apparently obvious reason of these countries under higher corporate tax rates would become less attractive for multinational companies, as both destinations for MNCs’ incomes, and also relocating some part of their business.

Having said, while the move towards a minimum corporate tax is welcome, yet there is a common consensus that the rate needs to increase to at least 25 percent to provide any meaningful resistance to MNCs’ game of avoiding taxes, and for stopping the ‘race to bottom’ by some countries at least in terms of lowering tax rates in this regard.

Nobel laureate Joseph Stiglitz in his recent Project Syndicate (PS) article ‘The global tax devil is in the details’ highlighted this aspect in the following manner ‘…an agreement to establish a global minimum tax of at least 15% is a major step forward. But the devil is in the details. The current average official rate is considerably higher. It is thus possible, even likely, that the global minimum will become the maximum rate. An initiative that began as an attempt to force multinationals to contribute their fair share of taxes could yield very limited additional revenue, much lower than the $240 billion underpaid annually. And some estimates suggest that developing countries and emerging markets would also see a small fraction of this revenue.’

In PM Imran Khan’s statement that he made recently to the United Nations (UN) High Level Political Forum whereby he rightly indicated that ‘I welcome the US proposal for a minimum global corporate tax to prevent profit shifting and tax evasion’ but perhaps was not aware that the minimum rate of 15 percent will be both too low to create much hindrance to ‘profit shifting’ by MNCs, and also in raising meaningfully higher tax revenues, especially by developing countries. Barring they forgot to put it in the policy brief to PM, one expects the involved ministries dealing with these subjects to be more aware on these issues, and prepare better-informed policy briefs for the PM. Alas, a chance was missed by him to throw his weight behind the call for a much-needed higher minimum corporate tax rate, for instance at 25 percent as per the general consensus being voiced these days. Hope this will be rectified in his statements going forward.

The other concern that Stiglitz highlighted in the same article, and which make a lot of sense, is firstly with regard to better defining corporate profits, whereby he pointed out: ‘ensuring a broad and comprehensive definition of corporate profits, such as one that limits deduction for expenses relating to capital expenditures plus interest plus pre-entry losses plus... It would probably be best to agree on standard accounting so that new tax-avoidance techniques do not replace the old ones.’ Also, he argued that Pillar One only targeted very large global firms, which needed to be corrected. Moreover, he recommended that ‘…the demand by some developing countries that a larger share of corporate profits be subject to reallocation is more than reasonable.’ On the other hand, he commended the current agreement on ‘moving away from the “physical presence” test for imposing taxes – something that makes no sense in the digital age.’

Given the spending needs in the wake of the outbreak of pandemic, especially in developing countries, it is hoped that countries will take lead in legislating this agreement into law in their respective countries, and that there will be greater and quicker widespread realisation to increase the minimum tax rate so that overall greater tax revenue comes through at the earliest in these difficult times of pandemic-caused greater stimulus and welfare needs.

At the same time, this agreement, if meaningfully implemented, will also help check money laundering into tax safe-heavens, which could otherwise provide much-needed support to fiscal and balance of payments accounts, especially of developing countries, and more so at a time when vaccine purchase needs, high food and oil prices, and rising debt challenge are strongly knocking on the door of macroeconomic stabilization, and adversely impacting income inequality and poverty situation in many countries, especially the developing ones. Moreover, it is hoped that the most well represented forum in the shape of UN will provide more stronger, and even leadership role, which primarily OECD, G7, and G20 have provided up till now, in this endeavour of implementing a meaningful minimum global corporate tax rate.

(The writer holds a PhD in Economics from the University of Barcelona; he previously worked at the International Monetary Fund)

He tweets@omerjaved7

Copyright Business Recorder, 2021