Global Minimum Corporate Tax Rate: Quashing Tax Havens
During this week’s G20 meeting, the US put forward a highly publicised proposal for a global minimum corporate tax rate. This would remedy a long-standing problem that enables multinational companies to shop around for the most favourable tax jurisdictions, allowing them to pay lower or even no tax on their profits. This article explains how corporate tax works, it analyses the impact of the differing rates around the globe, and examines the recent proposal of a minimum rate applicable throughout the world.
How does corporation tax work?
Companies have to pay Corporate tax, which differs from the taxes that individuals pay, in that Corporate tax essentially combines the two main taxes that are levied on individuals; Income tax and Capital Gains tax. Corporate tax is levied on the profits of a company, which is calculated by subtracting a company's costs from its income. What qualifies as expenditure for tax purposes is not always clear and it varies from jurisdiction to jurisdiction.
Whilst it is relatively easy to determine the income of a company by simply checking its cash inflows, calculating a company’s profits is much harder. An assessment of the costs will have to be undertaken to determine whether they are incurred solely and exclusively for the purpose of trading and whether they are not barred by statute. Things like salaries, utility bills, purchases of materials, payments for legal and other business-related services, and interest payments, would all be considered as qualifying expenditure.
Most jurisdictions tend to also provide allowances that enable a company to reduce its taxable profits. The most significant allowances in the UK are the Annual Investment Allowance and the Writing Down Allowance. The Annual Investment Allowance incentivises companies to invest in new capital, by allowing them to spend on new plants and machineries and deducting up to £1 million per year from their trading income when they do so. This may be significant for smaller companies, but multinationals are unlikely to find much benefit from an allowance capped at £1 million.
By comparison, the Writing Down Allowance is more important to big companies, as it enables them to deduct 18% of the balance sheet value of their plants and machineries from their trading income each year. This allowance can save millions for companies that have such assets in the UK, reducing their taxable income and consequently their tax liability. Neither of these allowances is especially appealing to companies specialising in services though, making the UK less attractive to them.
Differing corporate tax rates and their impact
The most significant aspect of corporate tax, though, is its rate. Rates vary widely from country to country. The corporate tax in the United Arab Emirates for foreign companies is the highest in the world and it can reach up to 55% of a company’s profits. In Germany, Japan, and Australia, the tax rate is around 30%. In the US, the current rate was reduced to 27% by the Trump administration, but the new US president, Joe Biden, plans to increase this rate to fund his ambitious investment programmes.
At the other end of the spectrum, there are 15 jurisdictions that do not charge any corporate tax, including the tax havens of the Bahamas, Bermuda, the British Virgin Islands, the Cayman Islands, Guernsey, and the Isle of Man. Of the countries which do charge corporation tax, the lowest corporate tax is charged in Barbados, at just 5.5%. Other significant countries with low corporate tax include Qatar (10%), Ireland, Cyprus, and Liechtenstein (all 12.5%). These countries have all managed to attract foreign companies to their jurisdictions, enticing them with the offer of low or non-existent corporate tax rates.
The increasingly international nature of trade has allowed big multinational corporations to reduce their tax liabilities by effectively changing their tax residence. They can set up companies in the aforementioned jurisdictions and, once they do that, they transfer their profits from other parts of the world into these jurisdictions, through artificial contracts of service or licensing. For example, a US-based company could sell its patents to a Bahamas-based company and then agree to license the patent from them for a significant licensing fee. This would increase the qualifying expenditure of the US-based company, reducing its tax liability, whilst the profits from the licensing fee would be subject to the 0% corporate tax in the Bahamas.
In 2017 it was revealed that Google made use of this tactic, transferring around $23 billion of its income from other parts of the world into Bermuda, where it didn’t have to pay any corporation tax on this sum. Google was heavily criticised for its tax avoidance tactics and was forced to pledge that it would put an end to these practices, but there are thousands of other companies that are using similar tactics without any scrutiny.
The UK and much of Europe is in the middle of the tax spectrum, charging between 17.5% and 25%, with the UK’s corporate tax rate being 19%. This means that they are vulnerable to the tax-avoidance tactics of the large multinational companies, as they can’t offer them the tax advantages prevalent in the jurisdictions with lower tax rates. It is for this reason that many countries have decided to impose a digital services tax on large multinational companies so that they can ensure that these companies pay a fair share to the tax authorities of the country in which they make their profits.
US Proposal for minimum global corporate tax rate
Digital services taxes have been the medium through which countries tried to tackle the issue of multinationals minimising their tax liabilities. These taxes would be levied on the income of companies that provide a social media service, a search engine, or an online marketplace, limiting the tax’s scope to a small number of companies. Yet, Janet Yellen, the US Secretary of Treasury, has pushed forward a much more ambitious proposal than the localised and fragmented digital services taxes.
She has proposed a minimum global corporate tax rate, meaning that all multinational companies would have to pay at least a specified rate of tax on their profits. The envisioned rate is 21%, higher than the current rate in a lot of countries, including the UK. If the proposal succeeds, it will eliminate the incentive for companies to shift their profits from one jurisdiction to another, and would make tax havens redundant.
In exchange for a restriction on the corporate tax rates that other countries can impose, the US has offered to give all other countries the right to tax the profits of the world’s largest companies (most of which are based in the US) proportionally to their sales in each country. This would replace the digital services taxes and would provide a global uniform taxation system for the likes of Amazon, Apple, and Microsoft, whose operations span the whole world but whose profits are only taxed in a few select jurisdictions.
This uniform system may be preferable to the multinational companies who have been impacted by the imposition of the digital services taxes. Although their tax liability is likely to increase when compared to its current levels, they might support the minimum global corporate tax if that means digital services taxes are removed. The alternative could mean the enactment of more such taxes in the countries that do not yet have one. This would both increase their tax liabilities and increase administrative costs, as they would have to source legal advice and accountants for each jurisdiction, making a uniform tax system more appealing to them. The support of these companies could be crucial in the future prospects of the proposal, as they can put pressure on countries to push for the outcome they desire.
It is unlikely that the proposal will gain the support of the jurisdictions which have benefitted from their ability to charge lower corporate taxes. Yet, the pressure of the international community and, perhaps more importantly, the pressure from the companies themselves, may allow the US’s plan to go ahead, and global businesses could soon have to pay the new minimum global corporate tax rate.
 KPMG – Corporate Tax Rates Table (accessed at 09/04/2021)  Reuters - Google shifted $23 billion to tax haven Bermuda in 2017: filing  Accountancy Daily - Google revenue hits £1.6bn, pays only £44m in corporation tax