The Impact of the Global Minimum Tax on Corporate Flows
Is this the end of shifting profits from high-tax to low-tax jurisdictions?
The landscape of international taxation is undergoing a seismic shift with the implementation of the Organization for Economic Co-operation and Development’s (OECD) Global Minimum Tax (GMT). First proposed in 2019 to address the transformative impact of digital products and services on the taxes of multinational enterprises (MNEs), over 140 countries signed the Inclusive Framework on Base Erosion and Profit Shifting (BEPS) in 2021.
This groundbreaking agreement aims to establish a minimum effective tax rate of 15% for large multinationals and promises to reshape the flow of corporate activities and investments across borders. But what exactly does this mean for businesses and the global economy?
One Challenge, Two Pillars
Globalization, along with the advent of the digital economy, provided a catalyst for many MNEs to shift profits to countries with advantageous tax regimes, which resulted in the loss of USD 240 billion annually in lost tax revenue, according to the OECD. To combat these lost revenues due to mismatched tax systems, the following pillars were introduced:
Pillar One: Expands a country’s authority to tax profits from foreign companies with no physical location on their soil. This is expected to reallocate taxing rights on more than USD 125 billion of profit to market jurisdictions each year.
Pillar Two: Also referred to as Global Anti-Base Erosion Rules (GloBE), Pillar Two establishes a global minimum tax of 15% for companies with revenues over Euro 750 million (approximately USD 808 million), which is expected to generate approximately USD 150 billion in additional global tax revenues annually.
So far, 37 countries have either introduced draft legislation or adopted final legislation, transposing Pillar Two’s model rules into their national laws and taking concrete steps to implement the agreement. An additional 13 jurisdictions are still working on the legal framework for implementation.
While all 27 EU member states have agreed to adopt the GMT, and many have introduced draft legislation or adopted final laws to implement the GloBE Rules, none have yet activated the top-up tax mechanism or other aspects of Pillar Two.
Shifting Corporate Flows and Top-Up Tax Rule
Companies may adjust their global structures to minimize tax liabilities, possibly impacting specific industries or regions, as firms pivot their foreign investments. Indeed, countries that offer tax credits or subsidies will likely be on the receiving end of global corporate migration.
Even established tax havens like Switzerland, Ireland and Bermuda are considering additional tax credits and subsidies in an attempt to retain corporate investments. Among the incentives being considered are expanded child care, qualified refundable tax credits, research and development tax credits, as well as education, training and start-up subsidies.
In an effort to reduce incentives for profit shifting, Pillar Two contains an aspect referred to as the “top-up tax rule”, a mechanism that applies if an MNE’s effective tax rate in any particular jurisdiction falls below the 15% minimum. In such cases, the MNE’s home country can impose an additional tax (the “top-up tax”) to ensure the effective tax rate reaches at least 15%.
Bipartisan Conflict Delays U.S. Deployment
Currently, the United States has yet to officially join the 140+ countries that agreed to implement Pillar Two within the OECD Inclusive Framework. However, the U.S. Treasury Department actively participates in discussions and contributes to technical aspects of the implementation.
Though U.S. domestic tax regulations haven’t changed, American companies face potential impacts from the agreement. For example, U.S companies operating in Switzerland may need to pay a 15% tax in Switzerland, regardless of existing U.S. tax structures.
The consequences of this divergence are multi-faceted. U.S. government tax revenue could decrease as companies shift profits to compliant nations. The lack of U.S participation creates uncertainty and complexity for global businesses operating across different tax regimes.
Exactly how much is at stake for the United States? According to the Tax Foundation, Pillar Two would “reduce U.S. corporate tax revenues by $64.3 billion over ten years.” At the same time corporations will likely report more of their U.S. income, raising U.S. tax revenues by $99.3 billion. “On net, we estimate that foreign Pillar Two adoption increases U.S. corporate tax revenues by $34.9 billion over 10 years,” says the Tax Foundation.
Will GLoBE Reduce globalization?
Another possible scenario would be companies shifting their operations back to their home countries as tax rates begin to even out globally. Globalization offered companies opportunities to grow revenues and decrease costs, by shifting operations to lower-tax nations.
The intricacy of global supply chains was put under extreme strain during the pandemic, and pushed many firms to rethink their strategies. Combined with added taxes and penalties, firms may return to domestic operations.
Looking Ahead
There are many potential benefits to the GMT, as it levels the playing field across jurisdictions, provides an opportunity for greater transparency and should foster greater equality in economic growth. However, the GMT will be challenging to implement and administer for corporations, and could also introduce trade disputes and political tensions.
While some countries offer refundable tax credits, the U.S. is seen as a disadvantage as it offers non-refundable tax credits that are not allowed under the agreement. As the U.S. determines its next steps, continued monitoring and evaluation of the tax’s impact on businesses and the global economy is essential.
Watch this space for breaking global tax news as it develops.
