- The US proposes a 21% global minimum corporate tax rate among major economies
- This would avert global 30-year race to the bottom and reduce base erosion and profit shifting
- The tax reform threatens individual country sovereignty
Harare: Since he assumed power in January 2021 after the contentious elections in November 2020, United States President Joe Biden is on the race to undo his predecessor, Mr. Trump’s major policy positions and implement his ‘bold and progressive agenda’ he pledged to the electorate.
After Congress passed his US$1.9 trillion American Rescue Package in February, Mr. Biden has now proposed another mouthwatering US$2.3 trillion American Recovery Plan to revamp dilapidating infrastructure. To finance this package, the Biden Administration have to reform the tax code and hike corporate tax rate from the current 21% to 28%.
However, tax increases in the US put it at disadvantage with those jurisdictions known as tax havens such as Ireland with a 12.5% corporate tax. According to Investopedia, a tax haven is generally an offshore country that offers foreign individuals and businesses little or no tax liability in a politically and economically static environment.
Cognisant of such threats to their domestic agenda, the Biden Administration has proposed a global minimum tax rate. This is corporate tax rate major economies of the world would need to reach consensus on in principle and provide a word of honor not to undercut. The call by the US has been warmly received by other major economies including Germany and France as well as international organizations such as the Organization for Economic Cooperation and Development (OECD).
The motive behind this global coordination is to prevent multinational companies (MNCs) from relocating in search of lower tax rates since the rates will essentially be the same everywhere. According to US Treasury Secretary Janet Yellen, the global minimum tax rate is a way to reverse a “30-year race to the bottom” -a trend in which nations have resorted to reducing corporate taxes to lure foreign investment and create a more favorable environment relative to their neighbors.
This race to the bottom is encouraging domestic base erosion and profit shifting (BEPS) due to MNCs’ exploiting gaps and mismatches between various nations’ tax system. Since developing nations like Zimbabwe relies mostly on corporate income tax, they suffer from BEPS disproportionately. It is estimated that BEPS practices cost countries about US$240 billion in lost tax revenues annually, which equates to about 10% of world corporate income tax revenue.
This global tax reform in a generation would establish a system under which a company from a certain country will pay at least a certain percentage of its profits in taxes regardless of where those profits were earned. The idea is to also ensure that corporates pay taxes where their customers are located not where they are headquartered. So, in a country where a global minimum tax is enforced, domestic companies that move some of their operations to a low-tax jurisdiction abroad would have to pay their home countries governments the discrepancy between the minimum rate and whatever rate the companies paid on overseas earnings.
For instance, if a country with global minimum tax rate of 20% is home to a company that earned profits abroad that were taxed at 10%, it would be entitled to bring that company into global minimum tax compliance by charging it extra 10%.
In my view, the global tax policy reform is a step in the right direction as it makes sure that governments across the world have stable tax systems that can raise enough resources (revenue) to invest in critical public goods and give them ability to respond to crises. More importantly, this move ensure that all citizens share the burden of financing government operations fairly.
Nevertheless, governments should not be overly optimistic that the establishment of a global minimum tax will end the fight by countries to attract global capital. Generally, competition on mobile resources like labor and capital is ‘ad infinitum’ -continue forever, without limit. Outside of tax competition, we could end up with nations offering direct and uneconomic subsidies to attract corporate investment. Also, a global minimum tax offers little protection against tax evasion.
Another challenge which comes with this tax reform is threat to sovereignty. A minimum tax would take away a key tool used by nations to enforce policies suiting them. For example, in the midst of a global pandemic, Covid-19, developing nations constrained in giving huge stimuli may witness a long path to economic recovery than the first world nations. Hence, a lower tax rate can be used to alternatively advance economic activity.
Currently, the average corporate income tax rate across 177 countries tracked by the (OECD) is at 23.85% and the US is proposing a 21% global minimum rate.
It is highly likely going to be a daunting task to reach consensus on the exact tax figure considering, for instance, the European Union where there are various corporate tax rates among member countries.
