The G7 deal on minimum corporate tax is flawed
The global minimum corporate tax rate has been variously described as ‘historic’, ‘landmark,’ and a ‘gamechanger’. According to the United States (US) and G7 countries, subjecting companies to a minimum tax rate on a country-by-country basis will end the “race to the bottom” on corporate tax rates, and disincentivise base erosion and profit-shifting (BEPS) practices. But, the proposal is not as straightforward as it seems.
G7 finance ministers do not set the global tax agenda. Much of the recent international tax reform has taken place under the aegis of the G20 nations, which include, among others, the US, India and Brazil. The 15-point action plan on BEPS was spearheaded by G20. All major post-BEPS changes have been carried out under the BEPS Inclusive Framework, which includes 139 member-countries and 14 observer nations, including over 70% of non-Organisation of Economic Cooperation and Development (OECD) and non-G20 countries and jurisdictions. So, to call the G7 agreement on minimum corporate tax a “global agreement’’ is both misleading and naïve.
The BEPS Inclusive Framework has been discussing global minimum tax since 2018 as part of a package deal. The package, bifurcated into Pillar 1 and Pillar 2, aimed at tackling the direct tax challenges posed by the digital economy.
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The Pillar 1 approach – on allocation of taxing rights – faced serious objections from developing countries which felt that their taxing rights were not being adequately protected. The Pillar 2 approach – on a global minimum corporate tax rate – will have no teeth of its own in the absence of fair and equitable reallocation of taxing rights in the context of the digital economy.
Countries, including India, lose billions of dollars every year to corporate tax avoidance. Large multinational corporations use sophisticated and creative means to avoid paying corporate tax in countries in which they undertake business activities. This is mainly done by way of transfer-pricing, debt-financing and restructuring of intellectual property rights. Profits are taken out of high tax jurisdictions and shifted to those with low or no corporate income tax rate. When seen in this context, the global minimum corporate tax will discourage businesses from adopting preferential tax rate structures and arrangements to some extent.
The question that we must ask ourselves is who will the proposal benefit the most? A short answer to that would be the US itself. This is because any “top-up” tax collected from businesses which have paid less than the minimum tax rate in overseas jurisdictions will be go back to the US since most large businesses who benefit from preferential tax rate structures are tax residents in the US. The proposal has also come at a time when the US is seeking to increase its domestic tax rate from 21% to 28% (i.e., higher than the rate in many countries) to finance its $2.3 trillion public works plan. No wonder then that the US has suddenly become the champion of global tax reform.
We need to see how countries respond to the G7 proposal. The rate of tax – mooted to be 15% – is likely to be a bone of contention. Earlier, the US had proposed a 21% rate, while the OECD insisted upon a rate of 12.5%, apparently to keep Ireland’s interests in mind. The rate of at least 15% may set the ball rolling, but it is too low and will kickstart a new “race to the minimum.”
Countries like India have a corporate tax rate of more than 15%, but companies pay much less in tax, thanks to a range of tax incentives and schemes. The idea of a global minimum tax proposal will die sooner than we had thought if countries continue to provide tax incentives.
In the past decade, the average corporate tax rate has gone down significantly. One explanation for this is that countries have now come to realise that optimal corporate tax rates attract foreign investment, which will contribute to a nation’s overall growth. The global minimum tax proposal unfairly targets smaller countries that have no option other than low corporate tax rates to attract investments and retain their competitiveness.
India must strongly oppose a US- and G7-centric proposal disguised as international tax reform. This is particularly important when India is reeling under economic distress due to the Covid-19 pandemic. The tax system should be certain and fair, but also flexible. And that includes making changes in tax rates from time to time to suit the immediate and long-term needs and interests of our exchequer.
Ashish Goel and Shilpa Goel are Supreme Court lawyers
The views expressed are personal
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