International Tax Reform: Toward a global corporate tax and the end of tax havens?

After more than a decade of negotiations, 130 of the 139 countries that had entered into negotiations signed the OECD’s new reform concerning the harmonization of the new global tax agreement on July 10 in Venice. These 130 jurisdictions alone represent 80% of global GDP. The idea behind this reform is to make multinational companies pay a tax deemed “fair,” regardless of the country where they operate.

For years, a debate has been taking place within the OECD: what international tax rules should be imposed on multinational companies?

The beginning of this month was eventful. The member countries of the Organisation for Economic Co-operation and Development, also known as the OECD, agreed on the full implementation of a global minimum tax. This new international tax framework introduces a global minimum tax of 15% on companies to discourage the world’s largest businesses from using tax havens with low tax rates.

Statutory corporate tax rates in OECD countries

Indeed, under the current system, the U.S. government considers itself disadvantaged by certain American multinational companies.

How and why?

Some multinational companies have only their headquarters in the USA, while their actual operations are carried out in countries where they have business activities and customers. As a result, American multinationals would pay less tax to their own government and more to other governments. In addition, the foreign profits of these same companies are taxed much more heavily. From 2000 to 2018, American companies generated half of all their foreign profits in seven low-tax jurisdictions: Bermuda, the Cayman Islands, Ireland, Luxembourg, the Netherlands, Singapore, and Switzerland. That is why the new OECD agreement provides for a global minimum tax rate of at least 15%, which would result in multinational companies generating substantial profits in low-tax jurisdictions paying more tax. All G20 countries, including the USA, the United Kingdom, China, and France, supported the initiative. However, some countries have chosen to retain their tax rates, which are below 15%. For example, Ireland has a corporate tax rate of 12.5%, while Estonia applies tax only to distributed corporate profits. These new rules call into question a century-old, flawed international tax system that is not adapted to the globalized economy of the 21st century. The U.S. Secretary of the Treasury, Janet Yellen, stated: "Today is a historic day for economic diplomacy."

A two-pillar reform

Pillar 1 aims to redefine where multinationals pay their taxes, while Pillar 2 sets the minimum tax rate.

• Pillar 1: this pillar concerns multinational companies and aims to make the distribution of tax payments fairer. The goal is to reallocate taxing rights to the country of origin of the company, rather than allowing the countries where companies conduct their activities and generate their profits to control tax payments. It was specified that multinational companies generating profits of more than 100 billion dollars would be taxed in the country where the profit is generated
• Pillar 2: this pillar concerns the global minimum tax. The new minimum tax rate of at least 15% would apply to companies whose revenue exceeds the threshold of 750 million euros (889 million dollars). The G20 countries agreed on the 15% rate, while other countries are attempting to obtain higher tax rates.

This historic agreement is intended to support the various governments that need this tax revenue to revitalize and restart their economies while investing in public services, infrastructure, and all the measures necessary for post-COVID-19 reconstruction. This agreement could generate more than 150 billion dollars in tax revenue each year. It was implied that companies “in the initial phase of their internationalization” would be exempt from this minimum tax. Some business sectors would not be covered by these new laws - negotiations are still ongoing. French Finance Minister Bruno Le Maire described it as “the most important international tax agreement concluded in a century” during a press conference. U.S. Treasury Secretary Janet Yellen spoke about the USA’s willingness to lower its corporate tax rate, despite the response from other countries, which were lowering their rates even further in return. Multinational companies tend to establish themselves where tax rates are low, resulting in a significant loss of revenue for governments engaged in a race to the bottom on tax rates. Within the European Union, for example, the average rate fell from 50% in 1985 to 22% today. This agreement is being finalized after years of discussions and brings an end to the race to have the lowest tax rate. The final, detailed plan is scheduled for October 2021. This plan aims to discourage multinational companies from transferring their profits to tax-favorable jurisdictions, regardless of the country where their activities are carried out. The signing of this historic agreement marks the beginning of a “new world.” The intention behind this agreement is to prevent companies from seeking low and advantageous tax rates. The goal is to make them pay their fair share of tax, regardless of where they conduct their business or where their headquarters are located. The implementation process is likely to be lengthy and is expected to enter into force in 2023. It should be noted that the last time international tax rules were modified was in 1928.