Roughly $240 Billion in Corporate Tax Goes Unpaid. There’s a New Plan to Fix That
The global corporate tax system looks set for its most far-reaching overhaul in a century as pressure builds for a radical change to rules that permit tech giants, among others, to channel profits to low-tax locations.
For years, government officials and consumer activist groups have singled out the likes of Apple, Amazon and Facebook for the relatively meager amount of tax they pay in foreign markets where revenues are brisk.
The issue has turned into a political hot potato in countries like Britain and France, even after some of the firms reformed their business practices to pay more in local tax.
The Paris-based Organization for Economic Cooperation and Development (OECD) has stepped into the debate in the hopes of finding a compromise. It set out proposals last week to finally bring the global tax system into line with the digital business world, which allows multinationals to build sizeable businesses in countries without necessarily having extensive offices or staff there.
A first test of whether governments back the proposals will come tomorrow and Friday when finance ministers from the Group of Twenty (G20) economies—which include the United States, Brazil, China, India, Japan and European countries—debate them at a meeting in Washington.
Not just tech companies
The proposals would affect not only the online giants but would also apply to “large consumer-facing businesses” such as luxury goods companies or carmakers.
If approved, the OECD guidelines would apply to firms with revenues of more than 750 million euros ($830 million). Mining and oil and gas companies would be exempt; more talks are needed on whether to include financial services firms, the OECD said.
“The current rules dating back to the 1920s are no longer sufficient to ensure a fair allocation of taxing rights in an increasingly globalized world,” the report said.
The proposals could have a significant impact on government finances and the corporate landscape. Experts believe that large economies, like the United States, China, Germany, France and Britain, stand to benefit from the proposed redistribution of corporate taxes while countries with a low-tax model, such as Ireland, may need to rethink their strategies.
“It will change the global tax system to mean that big countries with large consumer markets get a higher portion of the tax base. And exporting countries, and particularly small exporting countries, will lose out relative to those,” Gerard Brady, chief economist at Ibec, Ireland’s largest business lobby group, told Fortune.
He said at least 10% of the Irish corporate tax base—or about one billion euros ($1.1 billion) a year—would be at risk under the OECD plan, which he described as “probably the biggest change in a century in terms of how companies are taxed globally.”
However, he said if the changes brought certainty to the global tax environment, then any hit to the bottom line might be worth paying.
Small countries like Ireland compete globally thanks to low corporate tax rates. And so any plan that would ensure multinationals pay a minimum level of tax would pose a bigger challenge to them. The OECD hopes to address such fallout in a second tranche of tax proposals due next month.
“It means that a lot of countries are going to have to move to other ways of competing, whether that be investment, trying to attract skilled workers or other inducements for innovation and R&D, that countries are going to have to change how they run their industrial model and particularly ones like Ireland,” he said.
Brady said he believed there was political momentum behind the tax reform process and the changes would go through, though it might take until 2023 or 2024 to implement them.
A $240 billion tax bill looms
Apple, Google and Facebook all have their European bases in Ireland, which has a corporate tax rate of 12.5 percent, and employ thousands of people there. In 2016, the European Union ordered Apple to pay Ireland $14 billion in back taxes, ruling the firm had received illegal state aid, but Apple and the Irish government are appealing the decision.
The OECD’s proposals would re-allocate some profits and corresponding taxation rights to countries where multinational companies have a market presence. It would also ensure that multinationals be required to pay tax in markets where they do significant business but don’t have a physical presence.
The OECD, a 36-country intergovernmental organization, estimates that profit shifting—most often defined as when multinational enterprises exploit gaps between different countries’ tax systems—costs governments between $100 billion and $240 billion in lost revenue each year, equivalent to between 4% and 10% of global corporate tax revenue.
More than 130 countries, with input from business, academics and the public, have all weighed in on the OECD/G20 effort to rethink the corporate tax system for the 21st century. Work has been going on for several years with the goal of reaching a consensus solution by the end of 2020.
A new urgency is spurring on the negotiations as governments around the world have vowed to go it alone with their own tax if a global accord isn’t reached.
France has introduced a tax on big tech companies, drawing a threat from U.S. President Donald Trump to retaliate with a tax on French wine. Italy and Britain have said they will implement digital taxes next year and Spain is also considering one.
The European Union dropped plans in March to introduce an EU-wide digital tax, although the idea could yet be revived under the next trade commissioner at the European Commission.
All this adds up to a now-or-never moment.
”Failure to reach agreement by 2020 would greatly increase the risk that countries will act unilaterally, with negative consequences on an already fragile global economy. We must not allow that to happen,” OECD Secretary-General Angel Gurría said last week.
If the tech companies have a favored outcome, it’s to secure a multilateral agreement rather than deal with a hodgepodge of national tax laws. Amazon, for one, said it welcomed the OECD proposals as “an important step forward.”
“Reaching broad international agreement on changes to fundamental international tax principles is critical to limit the risk of double taxation and distortive unilateral measures and to provide an environment that fosters growth in global trade,” it said in a statement.
Google has said previously that it supports moves toward a new comprehensive, international framework for taxing multinational companies.
“Corporate income tax is an important way companies contribute to the countries and communities where they do business, and we would like to see a tax environment that people find reasonable and appropriate,” Karan Bhatia, Google’s vice president for government affairs and public policy, said in a blog post in June.
“While some have raised concerns about where Google pays taxes, Google’s overall global tax rate has been over 23% for the past 10 years, in line with the 23.7% average statutory rate across the member countries of the OECD,” he said.
The fear of countries acting unilaterally has made it more likely that governments will reach agreement at a global level despite the complexities of the negotiations and of changing the long-entrenched tax system.
No presence, no problem
Last week’s OECD paper dealt with the first track or “pillar” of its work, focusing on the allocation of taxing rights.
Under the OECD’s approach, a country’s ability to collect tax from a multinational firm would not depend on its physical presence in that country but would be largely based on sales.
Governments would be given the power to tax companies on a share of their worldwide profit above a certain level using a formula. There would also be binding dispute prevention and resolution mechanisms.
The OECD is inviting comment on its proposals before a public consultation meeting on Nov. 21-22.
“Realistically, while this proposal is not at this stage endorsed by any of the countries, on pillar one it’s the only proposal on the table at the moment, and there is a clear desire from a lot of large countries, and from the G20, to get an agreement and to make international reforms to deal with some of these issues. So I suspect that, come January, something will be agreed on a work program to move this to the next stage,” PwC’s International Tax Policy Director David Murray told Fortune.
“It’s a huge amount of work to try to get all the detail on this done next year but there is a political will to do that,” he said.
He said it was “hard to say” at this stage whether the U.S. government agreed with the OECD’s approach “although it’s clear the U.S. Treasury has been very engaged in this process. There haven’t been a huge amount of public statements made by any of the large countries involved.”
The U.S. government has argued that the tax reform should not solely target the tech giants, most of which are based in the United States. Rather, it argues, it should be broadened to include companies that rely on so-called “marketing intangibles” like brands or trademarks. These ideas appear to have been incorporated into the OECD’s proposal.
Murray said he imagined that the United States “would find something to like” in elements of the plan but the OECD’s proposals were broad.
“It doesn’t really go into a lot of detail on precisely what they mean by ‘consumer-facing businesses’ and where you might draw the line between what’s a consumer-facing business and what isn’t. A lot of the devil will be in the detail,” he said.
The OECD says that developing countries’ greater reliance on corporate tax meant they suffered disproportionately from companies shifting their profits to low-tax jurisdictions.
However, a report commissioned by the Independent Commission for the Reform of International Corporate Taxation, a group campaigning for reform of the tax system, and issued just before the OECD published its proposals last week, said the planned reform of the tax rules would likely further intensify global inequalities and fail to curb rampant tax abuse.
“The OECD’s reform plan is expected to reduce profits booked in corporate tax havens by just 5%, and redistribute the proceeds largely to the richest countries—despite the fact that lower-income countries currently lose a higher share of their tax revenues to corporate tax abuse.
“High income countries stand to receive around 80% of the redistributed profits as tax base. Upper-middle income countries are expected to see some benefit, but lower-middle income countries are projected to see their tax bases actually shrink by 3%,” the analysis by Alex Cobham, chief executive of the Tax Justice Network, said.
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