Imagine if a little creativity and internet access would enable you to save all your income tax. To achieve this, you would have to set up a subsidiary online in Ireland or the Netherlands, a kind of second tax ego that manages all your income. You would transfer the money there first and then forward it to an account registered in Bermuda. You would be able to access the funds but never have to pay tax on anything. All of this would be perfectly legal.
For employees and the majority of companies, going ahead with such an idea is impossible. Many multinational corporations, on the other hand, can use a few legal tricks to reduce their tax burden in this way. To do this they use their presence in many countries, with enticing arrangements in various tax havens. Profits are then shifted by subsidiaries in high-tax countries which move large fees for licenses or the use of trademark rights to low-tax countries.
Alphabet, the parent company of Google, for example, has been transferring its profits earned in Europe to Bermuda via Irish and Dutch companies for years. There, corporations do not have to pay taxes on profits. What’s on the North Atlantic island? Nothing, but Google has registered the intellectual property behind its search engine to a Bermuda-based company.
The corporation has said it wants to phase out this practice. But the problem with international tax law has always been that for every legal loophole that is closed, another is found elsewhere.
A new minimum limit
But what if the whole practice of profit shifting could be rolled back by a change in the international tax system? Such a reform is currently being discussed within the framework of the Organization of Industrialized Countries (OECD), and it looks as if a big one is within reach. The proposal around which everything revolves is the introduction of a global minimum tax for companies. The amount being discussed currently is 12.5 percent.
Here’s the idea: multinational corporations can continue to shift their profits. But if they fall below a tax threshold, the country in which the company is based could levy an additional tax. Example: a group from Austria shifts profits to a subsidiary in the Cayman Islands. There are no taxes on profits there either. If a global minimum tax of 12.5 percent had been agreed upon, Austria could reclaim the profits of the subsidiary at this rate.
In Europe, it is mainly Germany and France that are pushing this proposal, which has been discussed since 2018. Now the US government is vocally expressing interest. Treasury Secretary Janet Yellen said this week the idea could end the 30-year tax race to the bottom. This is symbolically valuable: without the US as the world’s largest economy, major tax policy reforms are hard to implement.
But what exactly can a minimum tax change? “If the concept is seriously implemented and not watered down by exemptions, there is great opportunity in the minimum tax. It would then be the end of the business model of the classic tax havens”, says Johannes Becker, an economist at the Westphalian Wilhelm University in Münster.
Is there a threat of dilution?
Undiluted would mean that the basic ideas behind the proposal are implemented consistently. For example, the effective taxation of companies would have to be taken into account. The basis for this is profit, which is calculated according to the rules of commercial law. These rules are similar internationally.
If the global minimum tax rate is met or exceeded in one country, there is no compensation. It only happens where there is a shortfall. For the digital corporations from America, such as Facebook or Google, the USA would remain responsible for possible back taxes.
The revenue of states would increase through such a reform, but within manageable limits: the OECD expects an increase of 50 to 100 billion US dollars. Total corporate tax revenue would increase by up to three percent. Austria’s revenue is estimated to increase by an additional 300 million euros – this was calculated by the experts in the Chamber of Labour on the basis of the figures from the OECD.
This shows that only a modest group of corporations uses global interdependence to shift profits.
However, for economist Becker, the benefit is something else: the minimum tax would reduce tax competition between countries. Instead of trying to attract companies via low tax rates, states would have to rely on more classic incentives such as good infrastructure.
The industrialised countries and emerging markets want to agree on a minimum tax by mid-2021. Not only are the technical details open for discussion, but also the level of the tax. Ten percent has also been put on the table. There are still many obstacles. For example, there is the question whether the protective powers of many tax havens, such as the United Kingdom, to which the Caymans or Bermuda belong, will go along with it. Countries like Ireland and the Netherlands are also big beneficiaries of the current regime.
“The OECD must now use the impetus from the US to achieve the highest possible minimum tax rate”, says Dominik Bernhofer, tax expert at the Chamber of Labour. “We must not take our cue from the tax havens when it comes to the minimum tax rate.”
Why is Germany making a strong case?
By the way, it is interesting that Germany has been so in favour of the initiative. As part of a reform of international tax law, there is also a discussion about changing the current principles: at the moment, a country can tax the profits of companies if the corporation has a physical presence in the state, such as a production site.
Many countries are calling for reform and want to tax where companies make their sales. For exporting countries like Germany and its companies, this would be disadvantageous. For Germany, the minimum tax would be a way of warding off a reform of that sort.