A global minimum corporate tax rate: goodbye tax avoidance?

“Together we can use a global minimum tax to make sure the global economy thrives based on a more level playing field in the taxation of multinational corporations, and spurs innovation, growth and prosperity”. These words are taken from a speech that Janet Yellen, current U.S. Secretary of the Treasury, pronounced on Monday at the Chicago Council on Global Affairs.

The former central banker is referring to the talks that are taking place at the OECD and G20 level around proposals of reform to the system of international taxation. In this article, we will examine what this “global minimum tax” is, the reasons put forward for its introduction and the main criticisms by its detractors.

As you may recall, we have already talked about the developments in drafting an international agreement on a digital service tax, which is based on the same premises. Let me restate them here for the sake of clarity, as they are crucial to grasp the rationale behind these proposals.

Tax avoidance explained

Research by the Tax Justice Network shows that, globally, countries are losing out around $427 billion a year in revenues from tax avoidance by the rich and by multinationals.

In particular, the mechanism that allows it is called “profit-shifting” and exploits loopholes in the international tax system. What takes place in practice is that multinationals manage to record sales as if they were made in other countries, especially low-tax jurisdictions. A way to implement this is to establish a subsidiary in one of such so-called “tax havens” and to make it the owner of the company’s intellectual property rights. Hence, the subsidiary can record large royalty payments for the use of such rights from the subsidiary that actually sells the goods or services. This allows the actual revenue-generating subsidiary to deduct high costs from its income and, thus, to have artificially low profits, on which very few taxes will be paid, while the other subsidiary will record the majority of profits in the tax haven jurisdiction.

While these techniques are used by companies having a physical presence in the place where their customers reside, for digital service companies tax avoidance is even easier, as current international rules allow them to just record revenues in the place where they have their “permanent establishment”, as explained in the aforementioned article.

"Protest Against Tax Avoidance . 21.09.2012" by wheelzwheeler is licensed under CC BY-NC-SA 2.0