EXPLANATION: Deterring tax evasion from global companies
Negotiators from 131 countries have agreed on a major overhaul of the taxation of the world’s largest multinational companies. This is an effort to deter complex international avoidance schemes that have cost governments billions in revenue.
The radical proposals aim to better cope with a world where globalization and an increasingly digital economy mean that profits can easily flow from one jurisdiction to another. The deal sealed last week during global talks in Paris is being discussed Friday and Saturday within the Group of 20 finance ministers meeting in Venice.
The key feature of this complex package is an overall minimum corporate tax of at least 15%, following the outline of a proposal by US President Joe Biden.
While the tax deal is complex in its details, the idea behind the minimum tax is simple: If a multinational company escapes tax abroad, it will have to pay the minimum at home.
Here’s why it was proposed and how it would work.
THE PROBLEM: TAX HAVENS AND THE “RACE DOWN”
Most countries tax only the domestic business income of their multinational corporations, on the assumption that the profits of their foreign affiliates will be taxed where they are made.
But in today’s economy, profits can easily cross borders. Income often comes from intangible assets, such as trademarks, copyrights and patents. These are easy to move to where taxes are lowest – and some jurisdictions have been all too willing to offer little or no taxation to attract foreign investment and income, even if companies do. no real activities.
As a result, corporate tax rates have fallen in recent years, a phenomenon described as a “race to the bottom” by US Treasury Secretary Janet Yellen.
From 1985 to 2018, the average global statutory corporate tax rate fell from 49% to 24%. From 2000 to 2018, U.S. companies made half of all foreign profits in just seven low-tax jurisdictions: Bermuda, Cayman Islands, Ireland, Luxembourg, the Netherlands, Singapore, and Switzerland. The OECD estimates that tax evasion costs between 100 and 240 billion dollars, or between 4 and 10% of global corporate tax revenues.
This is money governments could use when they see deficits rise through spending on pandemic relief.
THE SOLUTION: THE GLOBAL MINIMUM IMPT
The talks aim to put a floor on corporate tax rates by forcing countries to legislate a minimum they would withhold on untaxed foreign income. In other words, if company X with headquarters in country Y paid little or no tax on profits in country Z, country Y would tax these profits in its country up to the minimum rate.
This would remove the reason for using or creating a tax haven. Biden has proposed a floor of 15% for global negotiations, although it may be higher.
ANOTHER PROBLEM: THE TAXATION OF âDIGITALâ COMPANIES
Another objective is to know what to do with companies that make profits in countries where they have no physical presence. It could be through digital advertising or online retailing. Countries led by France have started imposing unilateral “digital” taxes that hit America’s biggest tech companies like Google, Amazon and Facebook. The United States calls these unfair trade practices and has threatened retaliation through import taxes.
THE SOLUTION: ALLOCATION OF TAX DUTIES
Biden’s proposal focuses on the 100 largest and most profitable multinationals, regardless of what type of business they are in, digital or not. Countries could claim the right to tax part of their profits – under a proposal backed by the Group of Seven Wealthy Democracies, up to 20% of corporate profits above a 10% profit margin . Governments should cut unilateral taxes, defusing trade disputes with the United States
The deal, reached last week in talks hosted by the Organization for Economic Co-operation and Development, plays a role in pushing Biden for changes he says would make the tax system fairer and raise incomes for investments in infrastructure and clean energy. The United States has already passed a foreign income tax under the Trump administration. But Biden wants to roughly double the Trump-era rate to 21%, and also charge that rate country by country so that tax havens can be targeted. The president is also seeking to make it harder for U.S. companies to merge with foreign companies and avoid U.S. taxes, a process known as a reversal.
All of these changes must be approved by the US Congress, where the Democratic president has only a slim majority. Biden wanted a diplomatic victory at the OECD talks so that other countries impose some form of minimum tax to prevent companies from evading potential tax obligations.
The agreement reached at the OECD is expected to be ratified at the meeting of finance ministers since 20 G-20 countries have joined the signing of the OECD agreement. More technical work would then be needed at the OECD before the G-20 gives its final blessing at a summit of heads of state and government on October 30 and 31 in Rome. Then comes implementation at the national level.
The global minimum tax would be voluntary. Countries should therefore incorporate it into their own national tax codes on their own initiative. According to Gabriel Zucman, an economics professor at the University of California at Berkeley who has written extensively on tax havens, the minimum tax will still work even if some countries do not sign up. He said in a tweet that “the fact remains: if some countries refuse to apply a minimum tax, then other countries will collect the taxes they refuse to collect.”
The proposal to tax companies on profits where they do not have a physical presence, such as through online businesses, would require countries to sign a written international agreement.
A key obstacle will be approval by the US Congress. Biden’s tax proposals, which would be necessary to comply with the global minimum, face opposition from Republicans, and the Democratic president has only a narrow majority. The rejection by the United States, the world’s largest economy and home to many of the world’s largest multinationals, could seriously undermine the global deal. Any party under a tax treaty would require a two-thirds vote in the US Senate. Still, Biden could argue that the move would relieve U.S. tech companies from heavy domestic digital taxes that would have to be removed in favor of the global deal – a prospect that could have bipartisan appeal.