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ARTICLE15 October 2021

Hammarstedt: Don’t rush the implementation of the OECD Global Tax Agreement

Agreement may have been reached on digital tax and global minimum tax - but the hardest negotiations are still ahead.

Claes Hammarstedt, Senior Advisor International Tax Policy at Swedish Enterprise

On 8 October, 136 of the 140 countries participating in the OECD’s negotiations agreed on a plan for the taxation of the digital economy (Pillar 1) and the introduction of a global minimum tax (Pillar 2). After Ireland, Estonia and Hungary decided to come onboard, all EU countries have now endorsed the new proposal. The plan is expected to be endorsed at the G20 summit at the end of October.

Pillar 1 changes the rules for the 100 or so largest and most profitable companies, shifting part of the taxation of profits from the country where production and headquarters are located to those countries where the consumers are located. The companies covered by this change are those with a global turnover above EUR 20 billion and a profit margin above 10%. For these companies, 25% of the part of the profit that exceeds 10% (the so-called ‘excess’ profit’) will be transferred to and taxed in the countries where the companies have made their sales. The OECD agreement states that the turnover threshold may be reduced from EUR 20 billion to EUR 10 billion after seven years.

The proposal for a global minimum tax of 15% will apply to all companies with a global turnover above EUR 750 million.

According to the implementation plan both proposals will be applied from 2023 onwards.

The OECD’s proposal to move parts of the taxation of profits from the country where the head office, production, research- and development are located to the country where sales are made is obviously not good for a small, export-dependent country such as Sweden. Given the high thresholds, initially only a few Swedish companies are likely to be affected. However, when these thresholds are halved after seven years, the situation will be very different, as many Swedish companies are then likely to fall under the scope of the extremely complex regulations. Sweden also risks becoming a major loser when tens of billions of kronor in tax revenues end up in the countries where Swedish companies make their sales.

On the issue of the global minimum tax, its proponents argue that it is necessary to stop the race to the bottom for corporate tax rates and to achieve a fairer distribution of tax revenue. There is reason to be critical of both arguments; when it comes to corporate tax rates, the race has turned out to be one towards the middle, i.e., around a 20% rate, rather than to zero.

The fairness argument also feels shaky. The fact that all countries share the same corporate tax rate does not necessarily ensure a level playing field. For Sweden, with a corporate tax rate of 20.6%, the minimum tax may not be an issue. However, the introduction of a global minimum tax constitutes a sharp restriction on countries’ sovereignty and on their opportunity to formulate their tax policy based on what is best for their national needs. In addition, it undermines the opportunity for many developing countries to compete with larger market countries. These larger markets have a natural appeal for investments, and therefore do not have the same need to offer an attractive corporate tax rate. However, for those countries with a smaller domestic market and poorer infrastructure, a lower corporate tax rate may be needed to be able to attract investment.

The fact that the 136 countries have agreed does not mean that the negotiations are over. It is now the real negotiations will begin. In addition to the fact that a lot of details remain to be solved, there are major question-marks surrounding the implementation process. A key player in all of this will be the US, or to be more specific, the US Congress.

Up until this spring, negotiations were proving sluggish. The so-called ‘Blueprints’ presented by the OECD in the autumn of 2020 were heavily criticized for being overly complicated. At that time, the likelihood of reaching an agreement any time soon seemed remote. Then, in April 2021, the Biden administration announced its ”Made in America Tax Plan” with proposals for sharply higher US taxes and made a U-turn in the OECD negotiations by proposing that only the 100 largest and most profitable companies should be covered by Pillar 1. Given that the US, since the onset of the OECD work, has been critical to the introduction of a digital tax, and has made it very clear that it will not accept rules that discriminate against US companies, this announcement seemed surprising to say the least. Even if such a proposal does not explicitly single out American companies, it is not a secret that more than half of the 100 largest and most profitable companies in the world in fact are American. Preliminary analyses show that about two-thirds of the profits that are to be allocated to market jurisdictions are estimated to come from US companies.

For the proposal to be approved by the US Congress, in addition to a majority vote in the House of Representatives, the support of two-thirds of the Senate will also be required. The Biden administration has recently cast some doubts on the process by challenging the current voting procedure, suggesting that a simple majority vote in the Senate should be sufficient. How this plays out in the end, remains to be seen. For now, the Democrats have majority by a few votes in the House of Representatives, but not enough votes in the Senate. There, both Democrats and Republicans have 50 senators each, and the Vice President’s casting vote is needed to tip the scales in favour of the Democrats. However, to reach the required two-thirds majority, 17 Republican senators must be convinced to change side and vote with the Democrats. Given the Republicans’ critical stance on tax increases in general, it seems unlikely that they would agree to a global regulatory framework that disproportionately affects US companies, and in addition, to a large extent would be financed by what they no doubt consider to be US tax revenues.

At the same time, the Biden administration is keen to see the introduction of the global minimum tax. The US has plans to raise its own minimum tax for US foreign investment. The introduction of a global minimum tax set at the same level as the US one would maintain the competitiveness of US companies. It is therefore possible that this part of the OECD proposal has a better chance of being supported by the US Congress.

From an outside observer’s perspective, the optimal solution for the United States would be to introduce the global minimum tax, but to scrap Pillar 1. By so doing, the competitiveness of American companies will be maintained while the US does not have to give away tax revenues to market jurisdictions.

For many countries, such a scenario would probably be a difficult one to swallow. A number of the countries at the OECD negotiating table consider the two proposals as a single package. If one proposal falls, then so does the other. Thus, the EU
and the rest of the world would be well advised not to rush ahead with the implementation before it is possible to more clearly discern the direction of congressional decision making in the US.

Internationella skattefrågorOECDTaxDigital taxGlobal minimum tax
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Publisher and editor-in-chief Anna Dalqvist