With the recent landmark G7 accord, the idea of a global minimum tax rate is having something of a renaissance; Ian Borman and James Mastracchio give the lowdown
Members of the G7, which include Canada, France, Germany, Italy, Japan, the UK and the US, have reached an agreement that a global minimum tax should be implemented and the respective treasuries will support a broader global effort. While the reported rate would be 15% and the digital tax of the individual countries would cease, the details of how the minimum tax would be imposed, on which corporations and on what terms is unknown.
Some sort of global minimum corporate tax rate has been talked about for many years – but the idea is currently having a renaissance under OECD proposals and the Biden administration. Some feel that the political capital may well be in place to bring new rules into force, even if these are imposed unilaterally. So, what is it and will it happen?
The purpose of a global minimum tax rate is to disincentivise the shifting of profits to lower tax jurisdictions. The idea was to force multinationals to pay tax in the jurisdictions where their goods and services are sold, but this has proved impractical, so the actual proposals are a little different.
The US proposals are an amendment of the US’s Global Intangible Low-Taxed Income (GILTI) tax rules. These rules charge additional tax in the US for US companies that pay a lower tax rate elsewhere, topping up their tax obligation to US levels. GILTI also prevents the application of tax credits against US taxes arising from investments in low tax jurisdictions.
This approach mirrors that of the Organisation for Economic Co-operation and Development (OECD)/G20’s Inclusive Framework on Base Erosion and Profit Shifting (BEPS)’s Pillar Two proposal, which is intended to be a comprehensive agreement on jurisdiction-by-jurisdiction global minimum taxation. The income inclusion rule proposed under Pillar Two applies on a “top down” basis, meaning that it is applied only by the ultimate parent entity of a multinational group and not applied to lower-tier holding companies.
Currently, the ability to blend non-US tax payment under the GILTI rules presents an incentive to US-headquartered businesses who have some of their operations in higher tax countries (including developing nations) to base some of their profitable activities in low tax jurisdictions. A key part of the new proposals would require multinational businesses to calculate GILTI on a jurisdiction-by-jurisdiction basis, thus preventing the blending of low-rate income with income from controlled foreign corporations operating in high tax-rate countries.
Under US proposals, the global minimum tax rate is proposed to be set at 21% – though this could change to mirror the Pillar Two rate – but in fact companies would need to subject to 26.25% tax to benefit from a full deduction against the 21% (or however much is agreed as the minimum rate). This would not affect developing nations – almost all of which have higher corporate tax rates than the US – but instead would potentially impact offshore jurisdictions and a small number of developed economies, such as Ireland, which have low corporate tax rates.
In their current form, the US proposals can only affect companies that are US taxpayers, so they include ‘anti-inversion’ provisions designed to discourage companies from off-shoring their parent to a non-US jurisdiction. In addition, they would only affect companies with annual revenues of $500m – representing the top 250 US taxpaying companies. A key part of acceptability is that they don’t apply to smaller businesses. Some of the other US proposals will apply to smaller businesses, such as the proposal to disallow tax deductions in the US for disproportionate US borrowings. Certain other provisions may impact cross-border businesses, especially private equity investments.
Since 2018, the US corporate income tax rate has been 21%, though from 1994-2017 the top effective corporate income tax rate was 35%. Alongside the proposals for a global minimum corporate tax rate, the Biden Administration is also proposing meeting in the middle of these figures, increasing the US corporate tax rate to 28%.
The proposals are certainly ambitious and many countries and organisations around the world have applauded efforts to limit countries’ ability to opportunistically set low corporate tax rates. However, what might seem simple is in fact enormously complicated. Countries such as Ireland, which currently has a 12.5% corporate tax rate, see low levels of taxation as a key method of stimulating growth. As such, it seems unlikely that they will agree to the change and, with each European Union member state able to veto, it’s difficult to see a path to a minimum tax rate across the EU bloc.
It is difficult to know how effective a global minimum tax rate will be if adopted and implemented, but it seems likely that low tax jurisdictions will use any opportunity to replace low tax rates with other incentives by something else, potentially making labyrinthine tax systems even more complex. But with the G7 nations taking the first major step towards a global minimum tax rate, discussions are certain to continue across jurisdictions.
Ian Borman is a finance partner in the London office of Winston & Strawn; fellow partner James Matracchio is resident in New York and Washington DC and co-leads the firm’s federal tax controversy and criminal tax practices
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