Recently, a noteworthy announcement was made by the Organisation for Economic Cooperation and Development (OECD). As many as 136 countries, which together represent over 90% of the global economy, have agreed to implement a Global Minimum Tax (GMT) rate of 15%. This includes populous nations like India. The reason behind this worldwide accord is to ensure that large corporations – including big tech giants like Apple, Alphabet (Google’s parent company), and Facebook – pay their fair share of taxes.
Objective of the Global Minimum Tax
The GMT has been designed with a primary goal in mind: to prevent low effective tax rates among the world’s largest corporations. These mammoth entities often establish a complicated network of subsidiaries to transfer profits from major markets to low-tax countries, also known as Tax Havens. These havens include countries like Ireland, the British Virgin Islands, the Bahamas, or Panama. The introduction of GMT aims to restrict opportunities for multinational enterprises to participate in profit shifting, thereby ensuring they pay taxes where they conduct business.
The ‘Two Pillar’ Solution
The global minimum tax rate is proposed to apply to multinational firms with $868 million in sales worldwide. It involves a ‘two-pillar’ solution.
Pillar 1: Minimum tax and subject to tax rules
While governments retain the freedom to set their local corporate tax rates, there are provisions for adjustment. If companies avail lower tax rates in one country, their home governments could “top up” their taxes to the minimum 15%, thereby eliminating the advantage of shifting profits.
Pillar 2: Reallocation of additional profit shares
The second pillar allows countries to tax approximately 25% of a multinational corporation’s ‘excess profit’ – defined as profit surpassing 10% of revenue in the countries where revenues are generated.
Implementation Timeline
The agreement calls for countries to pass laws in 2022 to implement the tax by 2023. Countries that have recently introduced local digital services taxes will have to repeal them.
Potential Impact
These tax provisions aim to curb tax competition between governments vying to attract foreign investment. Economists expect this deal to encourage multinationals to repatriate capital to their home countries, potentially boosting those economies.
The Need for the Global Minimum Tax
Income derived from intangible sources like drug patents, software, and royalties on intellectual property has increasingly been moved to tax havens, allowing companies to avoid paying higher taxes in their traditional home countries. In the wake of strained national budgets due to the Covid-19 crisis, governments are keen to discourage multinationals from diverting profits – and consequentially tax revenues – to low-tax countries. OECD estimates suggest that the minimum tax could generate an additional $150 billion in global tax revenues annually.
Global Tax Reforms
The GMT agreement suggests a progressive step towards global taxation reforms, following the inception of the Base Erosion and Profit Shifting (BEPS) program. BEPS strategies involve exploiting gaps and mismatches in tax rules to artificially shift profits to low or no-tax locations. To combat this, the OECD has issued 15 actions.
Associated Challenges
Despite its benefits, there are concerns surrounding the implementation of the GMT. Its potential impact on national sovereignty is a key issue; it could encroach the rights of nations to determine their tax policies, effectively removing a tool commonly used to implement suitable policies. The tight timeline for bringing the laws into effect by 2023 presents another challenge, while questions have been raised about the deal’s effectiveness with critics arguing that the deal will not eliminate tax havens.
About OECD
The OECD is an intergovernmental economic organisation aimed at stimulating economic progress and world trade. It was established in 1961 and is headquartered in Paris, France, with a total of 36 members. While India is not a member, it is considered a key economic partner.
