Looking at falling tax rates, this decision is hardly surprising. As a first step, this decision has been ratified at the recent G-7 meet. The next step will be to get the decision ratified at the G-20 meet. The whole process will take some time but one thing appears to be clear. The current practice of large corporations avoiding payment of taxes by shifting their domiciles to tax havens like Ireland, Netherlands, Luxembourg and Cayman Islands, may not work any longer.
Major takeaways from the minimum 15% global corporate tax
The G-7 nations consisting of the US, UK, Germany, France, Italy, Japan and Canada have supported a plan to impose a global minimum tax (GMT) of 15% on multinational companies. Here is what you need to know about GMT.
a) With the in-principle agreement at the G-7 meet, the next step is to get this ratified at the G-20 meet in July. This decision has been taken at the level of the finance ministers of these seven nations. The decision will require approvals from respective parliaments.
b) As a first step, the finance ministers of G-7 nations have made a commitment to move towards achieving a robust global minimum tax rate of 15%. There are 2 things to note here. Firstly, this move is likely to be phased over time. Secondly, 15% is just the initial benchmark and is subject to upward revision based on consensus.
c) As Joe Biden outlined during his election campaign, the idea is to make large profitable companies out of a market to actually pay taxes there. Such taxes can be utilized to bankroll the aggressive infrastructure plans of various governments as a means to boost growth in the post-pandemic scenario.
d) Currently, 60% of American MNCs book foreign income through tax havens like Bermuda, Cayman Islands, Ireland, Luxembourg etc. Under GMT, an American company earning revenues out of the German market will pay taxes in Germany while a Japanese company like Honda will have to pay the requisite tax on US business in the US.
e) For rich countries like the US, this is better than the proposal to raise corporate tax rates from 21% to 28%. A better way would be to plug these offshoring leakages so that tax revenues can be meaningfully enhanced without raising tax rates.
f) This 15% is only the floor and the final rate could be higher. Interestingly, even US companies like Apple and Google, which extensively use the offshoring route to save tax, have welcomed the proposed move by the government.
g) Currently, large US corporations can shift their domicile to tax havens in order to save tax. Under the proposed GMT regime, companies around the world will pay at least 15% tax. The US also plans to get tough on companies relocating domiciles just to save tax.
h) Once the G-20 approval is sought, the G-7 will expand the scope of GMT to all 140 countries so that the regulatory arbitrage can be totally done away with.
But there are going to be challenges too
There are interesting challenges that the idea of GMT could pose. Firstly, it is going to be a big challenge to tax seamless businesses like Amazon, Google and Facebook, where establishing domicile can be tricky. Secondly, the US wants GMT to supersede the digital tax that countries like Italy and France are proposing.
Thirdly, a number of countries may be loath to giving up taxation sovereignty as GMT would essentially mean giving up some of your right to tax. Lastly, this move could also have implications for the taxation of financial flows and could make many of the emerging markets less attractive if such treaties are overruled.
How will this move impact India?
Prima facie, India should benefit from this move as the effective domestic tax rate in India at 22% is still above the 15% rate. Also, the concessional regime that India has been planning at 15% to attract FDI, has not taken off since global tax rates are much lower at an effective level. However, with the GMT of 15% being imposed, India should actually see benefits for its 15% concessional tax regime for FDI. While it may still be too early, this move may actually benefit the Make in India plans that India has laid out. On the downside, it also means that the portfolio flows may get impacted if this tax overrules double tax treaties. But GMT is certainly a good place to start off.