Will a Global Minimum Corporate Tax Work?

A global minimum corporate tax rate of 15% that the G7 nations have endorsed will need coordination among countries to ensure they uniformly apply it and don’t work at cross purposes, according to Wharton experts. On June 5, after two days of talks in London, G7 finance ministers agreed to “reforms which will see multinationals pay their fair share of tax in the countries they do business.” The plan is to tax companies irrespective of where they are headquartered.

The G7, made up of the seven largest advanced economies, said its “seismic agreement on global tax reform” was necessary to prevent MNCs from dodging taxes by locating themselves in tax havens. G7 members will also support an extra tax on the world’s largest and most profitable companies. That potentially targets technology companies like Google, Amazon, and Facebook, requiring them to pay taxes wherever they sell their services, a New York Times report noted. In order to take effect, the G7 proposals must win support from the broader Group of 20 nations at their meetings in July and October, and the 139 countries in the OECD’s Inclusive Framework have to sign on.

The global minimum tax rate of 15% is “a good idea in concept, [where] ‘bad apples’ will probably have to pay a little bit more tax than what they’re currently paying,” Wharton accounting professor Jennifer Blouin said on the Wharton Business Daily radio show that airs on SiriusXM. (Listen to the podcast above.)

The Cost of Uncertainty

“But what’s going to hang folks up is: How would we do it when it comes to actually paying the tax?” said Blouin. “And second, how do we keep other countries, then, from undermining it after we set up this minimum tax? It has to be coordinated. If all players don’t sign up and agree to some centralized management of the process, it falls apart.”

“The various countries should figure out a tax policy and then stick with it,” Wharton accounting professor Wayne Guay told Knowledge@Wharton in a separate interview. “The only thing worse than tax rates that are too high, too low, or too gameable are tax rates that keep changing.” He noted that the U.S. “changed the tax landscape dramatically at the beginning of 2018,” after the 2017 Tax Cuts and Jobs Act reduced the corporate tax rate from 35% to 21%. “Companies put the brakes on various types of investments leading up to that new tax plan and have been struggling to figure out how to restructure their global operations ever since.”

The uncertainty over the eventual outcome of the G7 proposal will lead to similar disruption, Guay warned. “The G7 seems determined to overhaul global taxes once again, and no doubt firms will again put the brakes on various types of investments until they get greater certainty on what the new tax landscape will look like,” he said. “Uncertainty is one of the biggest headaches that companies face and one of the biggest impediments to operational efficiency.”

Cracks are already appearing in the G7 plan. Blouin pointed out that Switzerland plans to offer companies subsidies to offset the 15% tax; it is home to MNCs including Nestle, Novartis, and Roche. Ireland has a 12.5% corporate tax rate and is among the countries whose approval is necessary for the G7 tax plan to take effect. But Ireland wants to retain its tax rate to offset the disadvantages of a small country in attracting foreign investment, according to a Wall Street Journal report.

The Biden administration has welcomed the G7 proposal, which is consistent with the Treasury dfepartment’s earlier proposal as part of OECD and G20 tax negotiations. Treasury Secretary Janet Yellen said in a statement that a global minimum corporate tax “would end the race-to-the-bottom in corporate taxation.”

According to a Treasury department report on Biden’s Made in America Tax Plan, seven of the top 10 locations for U.S. multinational profit in 2018 were tax havens. “Bermuda, a country of merely 64,000 people, shows 10% of all reported U.S. multinational foreign profit,” it noted. British overseas territories including Bermuda, the Cayman Islands, and British Virgin Islands ranked among the top tax havens, according to a Guardian article that cited a report by Tax Justice Network, a campaign group.

Clearly, if the G7 proposal becomes reality, many tax havens that now offer lower tax rates will be losers. Prominent among those losers will be Ireland because it has used its low tax rate to attract tech companies, call centers, and the like, said Blouin. Others would include the Netherlands and the U.K., which both offer a light tax rate on realty income or income from the development of intellectual property, she noted. “So this minimum tax essentially undermines all of those types of investment incentives,” she added.

Different Strokes on Big Tech

The G7 proposal will affect tech companies that sell services, like Amazon, Facebook, and Google, in a different way than Apple and Microsoft, which sell hardware and packaged software, Blouin noted. “It’s interesting who we’ve heard from, but it’s also interesting who we haven’t heard from,” she said. Amazon, Facebook, and Google have welcomed the G7 proposal, “but I don’t think we’ve heard from Apple or Microsoft,” she added. On the eve of the G7 meeting in June, The Guardian revealed that Microsoft’s Irish subsidiary, which for tax purposes is a resident of Bermuda, paid almost no tax on $315 billion in profits in 2020.

Amazon, Google, and Facebook like the G7 proposal because it includes a provision to remove a “digital services tax” in the European Union and elsewhere, which is levied not on profits but on select gross revenue streams. “They like the certainty of paying a minimum tax on profits, rather than a tax on their gross revenue,” said Blouin.

The U.S. companies that face the digital services tax have the backing of the U.S. government. The Trump administration had called the tax “unfair” and launched retaliatory action with a Section 301 investigation covering 10 countries. The U.S. Trade Representative in March recommended trade tariffs against six of those countries, but in June it suspended that action for 180 days to make room for multilateral tax negotiations at the OECD and G20 nations.

Disconnects Within U.S. Policies

The U.S. has to address the inconsistency between the G7 proposal and its so-called GILTI tax, or a minimum tax on Global Intangible Low-Taxed Income, which is the income earned abroad by U.S.-controlled foreign corporations. In an attempt to prevent U.S. companies from moving their intangible assets and related profits to countries below the federal corporate tax rate of 21%, the 2017 Tax Cuts and Jobs Act had set the GILTI tax rate in a range of between 10.5% and 13.125%. “[The GILTI tax] is not going to operate the same way [as the G7 proposal], and Washington is going to have to concede this,” Blouin said.

In recent Senate testimony, Democrats called for the GILTI tax rate to be raised to 21%. The Biden administration also wants a 21% GILTI tax rate, or the taxes on foreign profits by U.S. corporations, and a 28% tax rate on domestic profits as proposed in the American Jobs Plan. “We are going to have to concede some issues, and it will be interesting to see if we do so when we finally come down to adopting the legislation,” said Blouin.

According to Blouin, if the G7 minimum tax results in “a big revenue raise” for the U.S., the Biden administration may not feel the need to push ahead with its plan to raise corporate taxes to 28%, said Blouin. “If [the G7 minimum tax] is arguably going to raise some revenue, then maybe we’re looking at an increase in the corporate tax rate to something more reasonable, which is 24% or 25%,” she said. “Then we’re more likely to see some legislation passed in the next 12 months or so.”

The Treasury department report cited earlier has estimated $500 billion in additional tax revenue over the next decade by raising the GILTI tax to 21%, and $2 trillion over that period including the effects of other proposals to counter profit-shifting by foreign-headquartered MNCs.

The U.S. would also have to reconcile itself to not being in charge of shepherding G7’s minimum tax proposal. “The U.S. has always been a leader in setting tax policy, and [other] countries have looked towards us to guide the process,” said Blouin. “This would be probably the first time where they’ve tossed their hat in with a group where they’re not exactly running the show.”