Is Tax Competition Dead? | Skadden, Arps, Slate, Meagher & Flom LLP
G7 support for OECD-backed tax reforms could be a big step towards a more cohesive and overhauled global tax regime, depending on the details and whether it is actually passed.
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- The winners could be countries with higher tax rates seeking to collect more income from multinationals.
- Losers could include businesses that are currently earning substantial income in low-tax jurisdictions.
- The deal could put pressure on the Biden administration to align its corporate tax reform proposals with those of the OECD, including reducing planned tax hikes.
- Many important details remain to be resolved, including the scope of the rules, tax rates and mechanisms to mitigate double taxation.
The G7’s unanimous support for a proposed deal to forge more uniform global corporate tax principles, including a minimum rate, garnered widespread coverage in the business press when it was announced on June 5. The deal has been touted as a harbinger of global convergence in corporate tax regimes. .
What will this mean for multinational corporations, the U.S. corporate tax system, and the Biden administration’s proposals to increase corporate tax rates? It’s too early to tell, but here’s a quick guide to what the deal could and couldn’t do, and the roadblocks to getting it through.
What exactly did the finance ministers agree on?
Despite the fanfare, it was simply a deal to reach a deal – with the goal of a new deal at the G20 summit on July 9-10. Many questions, large and small, remain unanswered.
While the G7 was in favor of a global minimum tax, his press release refers to a minimum rate of “at least” 15%, suggesting persistent disagreement on the precise rate. And little detail has been provided on the mechanisms for allocating more revenue to jurisdictions where products and services are ultimately consumed.
Was the announcement meaningful?
Yes, in several ways, although it is incomplete.
- It signals a move towards a more uniform global corporate tax structure and a consensus that governments should try to curb tax competition.
- The United States is actively leading the discussion and has appeared, for the first time, to fully subscribe to the two-pronged conceptual scheme that the Organization for Economic Co-operation and Development has been discussing for years. The OECD framework consists of rules requiring companies to recognize more income in end markets (“pillar one”) and pay minimum tax rates (“pillar two”). The first pillar addresses concerns from countries that argue that tech companies profit from their citizens without paying enough taxes in the jurisdiction. The second pillar targets tax competition between countries.
- The minimum rate of 15% in the G7 statement suggests a consensus for a level higher than the rates in force today in several jurisdictions (including Ireland), but well below the minimum rate of 21% proposed by the administration Biden for the foreign income of American companies.
- The minimum rate would be applied country by country, so that companies could not offset high taxes in one market with lower taxes in another.
What does this mean for the foreign revenues of American companies?
It is not yet clear. The 2017 tax reforms that lowered the basic statutory corporate tax rate to 21% added provisions to collect more taxes on income from foreign affiliates (mainly through a provision known as its acronym GILTI), although at more favorable rates. There is no sign that the Biden administration will abandon this structure; on the contrary, he proposed to tighten the rules and increase foreign income rates.
If the United States takes the first pillar approach, it could lead to American businesses recognizing more revenue in higher tax countries. In the absence of coordination mechanisms, they could also face double taxation. At the same time, Biden’s proposals include new restrictions on foreign tax credits. The bottom line is that many US multinationals can see higher global tax rates.
Will this affect the rate increases proposed by the Biden administration?
The administration proposed to raise the basic statutory rate for companies from 21% to 28% and the minimum tax on foreign income from 10.5% to 21%, as well as to refuse deductions for payments made to low-tax subsidiaries.
If other countries set their rates at or slightly above the 15% minimum, a 28% / 21% structure could place US companies at a significant competitive disadvantage. This could put pressure on the White House to compromise on rates. The 28% proposal is already meeting with significant opposition in the US Senate. But lowering rates to 28% / 21% would reduce the revenue increases the administration relies on to fund major spending programs.
Does the G7 project have implications for the digital service taxes (DST) recently imposed by some countries?
The first pillar is supposed to replace the growing number of DSTs that mainly affect large US-based tech companies. The G7 statement said that an agreement “provides for appropriate coordination between the application of new international tax rules and the abolition of all taxes on digital services.”
The United States and tech companies have complained that DST distinguishes a particular industry and country of origin. It remains to be seen whether the final first pillar scheme addresses or reinforces these concerns.
What are the chances that the G7 / OECD structure will be adopted?
Inevitably, there would be winners and losers, both companies and countries. Low tax jurisdictions can lose investment and tax revenue as their tariff advantage is removed. And moving the revenue recognition site is a zero-sum game that will benefit some countries at the expense of others. Therefore, it is likely that there will be opposition and significant negotiations on the scope of these rules and the relevant applicable rates.
In the United States, some Republicans have voiced objections to the G7 deal, saying it cedes taxing power to other countries and discourages investment and growth by raising corporate tax rates .
The EU is a question mark. Any EU-wide directive would require unanimity, which is unlikely. And doubts remain about the ability of EU member states to implement these changes unilaterally.
But many believe that unanimity is not necessary to make the system work as long as there is agreement between a critical mass of jurisdictions that host enough large multinationals. If these headquarters jurisdictions adopt rules taxing income earned by low-tax subsidiaries or deny deductions for payments made to low-tax subsidiaries, these “sticks” could eliminate the benefits of accounting for income. income in low-tax countries.
What G7 ministers said
We strongly support the ongoing efforts under the inclusive G20 / OECD framework to address the tax challenges arising from globalization and the digitization of the economy and to adopt a global minimum tax. We are committed to reaching a fair solution on the allocation of taxing rights, with market countries being granted taxing rights on at least 20% of profits exceeding a 10% margin for the most multinational companies. large and most profitable. We will ensure proper coordination between the application of the new international tax rules and the removal of all taxes on digital services, and other relevant similar measures, on all businesses. We are also committed to applying an overall minimum tax of at least 15% country by country. We agree on the importance of moving the deal forward on both pillars in parallel and look forward to reaching an agreement at the July meeting of G20 finance ministers and central bank governors.
– Communiqué from G7 Finance Ministers and Central Bank Governors, June 5, paragraph 16.