G7 Countries Agree to Increase Tax for Multinational Companies

Samuel Dupret reports on recent plans to increase taxation for multinationals, and explores how and whether this can be achieved.

Photo by Olia Danilevich

On the 5th of June 2021, the G7 nations committed to global tax reforms concerning multinational companies. These reforms are aimed at countering some of the ways in which multinational companies have avoided paying their fair share of taxes.

Multinational companies have been reducing the size of taxable profit of many countries (i.e. ‘base erosion’). One technique they use is ‘profit shifting’, wherein they have subsidiaries in tax havens (countries with low or zero corporate tax rates) charge their other subsidiaries in countries with higher taxes for ‘services’ – such as marketing, intellectual property, or office supplies – usually with inflated costs. This process reduces the profits in high-tax countries and move (‘shift’) the profits to low-tax ones.

Tax-Related Issues Caused by Multinational Companies

A 2017 analysis from the Tax Justice Network suggested that profit shifting leads to $500 billion in lost tax revenue each year. These losses represent a large part of the total tax revenue for low-income countries. According to Alex Cobham from the Tax Justice Network, this money could eliminate extreme income poverty.

Multinational companies have also caused a ‘race to the bottom’ where countries compete with each other to attract said companies by lowering their corporate tax rates. An analysis from the Tax Foundation shows that the worldwide average corporate tax rate (weighted by GDP) has gone from 46.52% in 1980 to 25.85% in 2020.

The Tax Reform Proposed

The G7 countries have committed to a two pillars solution based on the first action of the OECD and G20’s (139 countries) 15-action Inclusive Framework on Base Erosion and Profit Shifting (BEPS).

For Pillar One, they agreed that multinational companies with at least a 10% profit margin will have 20% of any profit above this 10% margin to be reallocated from their headquarter country to be taxed in the countries in which the company actually operates and earns profit. Pillar One should tackle base erosion and profit shifting and increase tax revenue.

For Pillar Two, they agreed to a global 15% minimum corporate tax. According to U.S. Treasury Secretary Janet Yellen, this will: “end the race to the bottom in corporate taxation and ensure fairness for the middle class and working people in the U.S. and around the world” as well as encourage countries to compete in more positive ways – with research and development for example. A simulation from the EU Tax Observatory suggest that a minimum 15% rate could generate 50 billion euros in tax revenue for the EU in a year.

Advances and Hurdles in Implementation

The G7 does not have formal powers to bind the countries to this agreement, nor to force the rest of the world to join in with the global minimum tax. However, these are powerful and influential nations. The good news is that, on the 1st of July 2021, 130 countries from the OECD have agreed to join in with the two-pillar framework.

However, a few countries are still holding out. European nations with low corporate tax rates, such as Hungary, Estonia and Ireland oppose the deal. Hence, this is making it difficult for the global tax rate to be implemented in the EU where tax proposals must be agreed upon unanimously. In the U.S., the global tax reforms will face the same hurdle as the Biden Administration’s other tax plans; namely, passing the reforms through a split congress. Multiple Republicans are intent on stopping these reforms.

In a communiqué from the 9-10th of July Venice meetings, the G20 members have confirmed their endorsement of the two pillar framework. Other members of the OECD/G20 Inclusive Framework on BEPS that have not yet endorsed the agreement are urged to join. The finals details should be finalised by the G20 Rome summit in October.

Problems with the Tax Reforms

Commentors have noted that the 15% global tax rate is too low – especially considering Biden’s initial proposal was 21% – and that it should at least be considered a floor from which to go higher.

Alex Cobham has criticised Pillar One for only reallocating a fraction of the profits above the 10% margin. Instead, Alex Cobham puts forward the Tax Justice Network’s alternative plan, the Minimum Effective Tax Rate for Multinationals, which would allow countries to tax all profit – not just a fraction – that is due to the real presence and value produced by multinationals in these countries.

As expressed by the Tax Foundation, there is uncertainty concerning exactly how and which companies will be evaluated according to Pillar One, as well as general questions about potential ‘carve-ins’ and ‘carve-outs’. As mentioned before, some countries oppose the minimum global tax rate and might want to be carved out. The UK has pushed for financial services to be carved out of Pillar One. On the other hand, there are concerns that the “any profit above this 10% profit margin” part of Pillar One might rule out certain companies – especially Amazon, whose 2020 profit margin was 6.3%. Measures are being explored to ‘carve in’ Amazon by targeting the very profitable Amazon Web Services division.

On the 1st of July, the OECD released a preview of new details in the implementation of the two-pillar solution. This still has to be finalised, and with the G20 summit coming up we can imagine that some changes might occur. However, it includes a carve out from Pillar One for extractives (e.g. mining, oil, gas, forestry) and financial services. This seems to undercut the commitments for a greener and fairer financial system taken at the G7 summit.

In conclusion, the new global tax reforms will be an important step towards a fairer global economy where multinational companies pay their fair share in taxes. However, there is still more to be done in implementing these reforms and preventing unfair carve-outs.

Article on a similar topic: The Summary of the G7 Summit in Cornwall

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