The significance of the global minimum corporate tax rate

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The introduction of a global minimum corporate tax rate is probably the second best thing to happen in 2021 after mass Covid vaccination. Here is the why, what, when and how of the matter:

Why is this needed?

Although almost all countries have a corporate tax rate, there are plenty of loopholes that large corporations take advantage of, especially by using tax-havens (Tax-havens are countries such as the Cayman Islands, Mauritius, Luxembourg etc. where they charge a very low or nil tax rate, therefore Companies set up their headquarters in these countries despite making their money elsewhere, thereby paying very low tax in that tax haven and robbing the countries that made this money for them of their tax revenue). Sounds very unfair? Isn't it? But it is just aggressive tax planning and therefore perfectly legal to do so. Because no one can stop a company from setting up their base in another country but also taxing them in both countries would amount to double taxation which is also not fair. In a bid to address this, for several decades since the 1980s, countries across the world kept reducing their corporate tax rates to attract companies to their land, but the tax lowering war eventually became a 'race to the bottom' and no country was benefitting much and only the large corporations gained, therefore it has been finally labelled as a failure. 

To put it in even simpler terms, the OECD's (a 38 member group of developed countries) median corporate tax rate was 43% in the 1980s and it is currently at 23%, but this is still higher than 0-15% charged by the tax havens, therefore despite reducing taxes all these years, the countries across the world are still losing their fair share of tax revenues to these tax havens and the corporations. Reducing tax rate and attracting companies and therefore more investments and new jobs would spur economic growth in the short term but for a country to keep developing on a long term basis, it needs to put money in education, healthcare and other infrastructures and for that to happen, countries need larger budgets which means a need for larger and consistent tax revenue.

Pic credits: Tax Justice Network's report of 'The State of Tax Justice 2020:Tax Justice in the time of COVID-19' published in November 2020

What's the proposed solution?

The G7 (a 7 member group of rich nations) which met on June 11, 2021, proposed a global minimum corporate tax rate of 15% to end this 'race to the bottom' and also to address the large economic damage all countries are facing during the ongoing Covid-19 pandemic. This was aimed mostly at large profitable corporations but the finer details are yet to be finalised. After the G7's proposal, this has been subsequently backed by 130 countries to date including India. Few countries have opposed the plan including Ireland which could also be considered as a tax haven since its tax rate is just 12.5% and is also the European headquarters of Apple, Google, Facebook and many others for obvious reasons. 

When does it begin?

The deadline for finalising the implementation plan is October 2021 and the new global minimum corporate tax rate will be effective from 2023. This is currently expected to go ahead and get implemented as proposed since there is a huge backing for the same but ratification by every country in its legislature within these two years could be a hurdle.

How does it change things?

Once implemented, it is estimated to generate around $150 billion in additional tax revenue globally every year, which is pretty huge (to put this in context, only 25 countries' total annual budget is bigger than this amount including India whose annual budget stands at $220 billion).

The change is also expected to begin the end of the tax havens and therefore affects countries like Ireland. For example, in 2017, Apple paid $1.5 billion in taxes to Ireland which is 7% of all corporate taxes that the Republic of Ireland received that year. So eventually when this is implemented, Ireland are going to lose a significant portion of their revenue, but this is the cost that they'll have to pay for the world moving to a much fairer taxation system.

Since developed countries usually have a lower corporate tax rate compared to developing countries, they are set to gain more from this but developing nations don't lose anything, in fact, they are expected to gain a little too because this global minimum tax rate is only the pillar two of the two-pillar program proposed by the G7, the first pillar is a fairer distribution of profits and taxing rights among countries which are expected to benefit all, including developing nations. So what does that mean in simple terms? For example, take the case of Facebook Inc, the tech conglomerate that owns Facebook, Instagram, Whatsapp and many others earn significant revenue from India through ads across their apps but currently, they don't pay a fair corporate tax on this ad revenue generated in India from Indians on the basis that since all their assets and resources are elsewhere (US, Ireland) and therefore they need not pay tax here but this is set to change since as per this pillar one proposal, taxing rights are being transferred from where the assets/headquarters are located to where the revenue is generated, which would help many countries including India.

The Tax Justice Network (a group that has been advocating for a minimum global tax rate for several years) estimates India to gain $4 billion from the soon to be implemented change. An alternate plan by Tax Justice Network to implement a minimum effective tax rate (METR plan) which would benefit developing economies more has not been considered by the G7 and OECD. The biggest criticism of the plan comes from tax justice campaigners and few developing countries that the proposed 15% is very low and it should be at least 21%. Either way, this is a huge change to the corporate world and probably the biggest taxation change in several decades and most importantly a step in the right direction that the majority of the world has agreed on.