Explainer: Deterrence of tax avoidance by global companies

A wide range of countries have agreed on a major overhaul of how to tax the world’s largest companies when doing business across borders.

This is an attempt to better address the world, which means that globalization and the increasingly digital economy can easily move profits from one jurisdiction to another. The agreement was signed Thursday between 130 countries in consultations overseen by the Paris-based Organization for Economic Co-operation and Development, but there are still details and hurdles to resolve before it comes into force in 2023.

The main feature is a global minimum corporate tax of at least 15%, which supports a rough outline of the proposal from US President Joe Biden.

The details of tax transactions are complex, but the idea behind the minimum tax amount is simple. If a multinational company is exempt from taxation abroad, it must pay the minimum amount domestically.

This is why it was proposed and how it works.

Problem: Tax havens and “race to the bottom”

Most countries only tax the domestic business income of multinational corporations, assuming that they are taxed where the profits of their foreign subsidiaries are earned.

But in today’s economy, profits can easily slide across national borders. Revenue often comes from intangible assets such as brands, copyrights and patents. They can be easily moved to the place with the lowest tax. In some jurisdictions, companies may be willing to offer tax breaks or zero taxes to attract foreign investment and returns, even if they are not actually doing business.

As a result, corporate tax rates have fallen in recent years, a phenomenon that US Treasury Secretary Janet Yellen calls “race to the bottom.”

From 1985 to 2018, the average global corporate tax rate dropped from 49% to 24%. From 2000 to 2018, US companies accounted for half of all foreign profits in seven low tax jurisdictions: Bermuda, Cayman Islands, Ireland, Luxembourg, the Netherlands, Singapore and Switzerland. The OECD estimates tax avoidance costs of $ 100 billion to $ 240 billion, or 4% to 10% of global corporate income tax revenues.

It’s the money the government can spend to see the deficit increase from spending on pandemic bailouts.

Solution: Global minimum tax

The talks are trying to set a lower corporate tax rate by enacting a minimum amount to be levied on tax-exempt foreign income in each country. In other words, if Company X, headquartered in Country Y, pays no or little tax on the profits of Country Z, Country Y will tax those profits at home up to the minimum tax rate.

It will remove the reason for using tax havens, or the reason for installing tax havens. Biden has proposed a 15% floor for global negotiations, but it could be higher.

Another issue: taxing “digital” businesses

Another focus is what to do with companies that are making a profit in a country that does not physically exist. It could be through digital advertising or online retail. France-led nations have begun to impose unilateral “digital” taxes that hit the largest US tech companies such as Google, Amazon and Facebook. The United States has called for these unfair trade practices and threatened retaliation by import taxes.

Solution: Tax allocation

Biden’s proposal focuses on the 100 largest and most profitable multinationals, digital or not, regardless of business type. Countries can claim the right to tax a portion of their profits — up to 20% of a company’s profits above a 10% rate of return, under a proposal endorsed by seven wealthy democratic groups. ..The government needs to ease trade disputes with the United States and roll back unilateral taxes

Biden’s plan

OECD talks are playing a role in helping Biden make changes that make taxation more equitable and profitable for investment in infrastructure and clean energy. The United States has already passed taxes on foreign income under the Trump administration. However, Biden wants to double the rate in the Trump era to 21%, and wants to charge that rate on a country-by-country basis so that it can target tax havens. The president also aims to make it more difficult for US companies to merge with foreign companies to avoid US taxes. This is a process called reversal.

All of these changes need to be approved by the US Parliament, which has a small majority of Democratic presidents. Biden wanted a diplomatic victory in the OECD talks so that other countries would impose a form of minimum tax to prevent businesses from avoiding potential tax obligations.

What’s next?

The agreement reached in the OECD will be taken up by a group of 20 countries representing 80% of the world economy. However, all 20 G20 countries have participated in signing the OECD Agreement, with at least a broad agreement on the outline. The G20 was able to give the final blessing at the summit meeting in Rome, October 30-31.

The world minimum tax is optional. Therefore, each country must enact it in its own tax law on its own initiative. Proposals to tax companies on non-physically nonexistent revenues, such as online businesses, require countries to sign international agreements in writing.

Some countries that participated in the OECD talks did not sign the agreement. Both Ireland and Hungary have corporate tax rates below at least 15%. Ireland’s Treasury Minister Paschal Donohoe said Ireland’s 12.5% ​​interest rate is a “fair interest rate.” On Thursday after the deal was announced, Mr. Donoho remained “committed to the process” despite reservations for fees, aiming to “find results that Ireland can still support”. Said that.

According to Gabriel Zucman, a professor of economics at the University of California, Berkeley and a broad author of tax havens, the minimum tax amount will continue to work even if some countries do not register. “The facts remain. If some countries refuse to apply the minimum tax, others will collect the tax they refused to collect,” he said in a tweet.


AP Business Writer Josh Boak contributed from Washington, DC.

Explainer: Deterrence of tax avoidance by global companies

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