We’ve written a lot about efforts by the OECD to form an international tax cartel and raise global taxes. A key component of those ongoing efforts is the Base Erosion and Profit Shifting (BEPS) project that seeks to radically rewrite the rules for income taxes on multinational corporations.
The OECD proposes two main pillars of reform. Pillar One addresses where tax is collected, while Pillar Two addresses how much is collected.
Pillar One seeks to shift at least some taxation of so-called “digital services” from where companies are located, an origin-based system, to where buyers are located, a destination-based system. EU nations favor destination-based taxation because their onerous tax and regulatory regimes resulted in non-EU companies, primarily from the United States, dominating the global tech industry.
Pillar Two seeks to eliminate tax competition by imposing a global minimum tax of 15 percent. This tax harmonization of corporate income taxes would be bad for workers, consumers, and investors, and would likely preface efforts to harmonize other tax rates such as those on personal income or capital gains.
A new report produced by EY describes how Pillar Two will impact the operations of U.S.-based multinational enterprises even if the U.S. does not adopt Pillar Two policies. It estimates:
Widespread adoption of Pillar Two outside of the United States could increase the cash tax effective tax rate (ETR) on US MNEs overall by 2.6 percentage points, with their ETR on foreign income rising by 4.5 percentage points and their ETR on domestic income rising by 1.4 percentage points.
The estimated corporate income tax increase for US MNEs in this report of 18% is greater than the International Monetary Fund’s estimated average increase for all in-scope MNEs globally of 6%. All in-scope MNEs globally includes both US and non-US MNEs. This suggests the increase in corporate income tax would be, on average, larger for US MNEs than all in-scope MNEs.
Widespread adoption of Pillar Two outside of the United States is estimated to reduce the domestic employment of MNEs by roughly 370,000 workers, as well as annual domestic MNE investment by roughly $22 billion. Job losses represent permanent reductions.
The report then highlights two possible policy responses to mitigate the harm to the U.S. economy:
Adapting US tax law to account for rising global tax costs could mitigate this reduction in US economic activity. To illustrate the potential impact, this report considers two commonly discussed changes to the US tax on Global Intangible Low-Taxed Income (GILTI) that could partially offset the increase in taxation for the US MNE sector from Pillar Two. GILTI operates as a tax on the foreign earnings of US MNEs.
Eliminating the GILTI haircut: Under current law, GILTI generally allows US MNEs to take a credit against US tax for taxes paid to foreign jurisdictions to prevent double taxation. However, the tax credit that the United States allows for foreign taxes paid on GILTI is limited to 80% (i.e., the “GILTI haircut”). Thus, GILTI effectively taxes at a rate of up to 13.125% even though the (after-deduction) statutory GILTI rate is 10.5%. That is, the credit can eliminate GILTI-related tax liability if the foreign tax rate is at least equal to 13.125% (13.125% x 80% = 10.5%).
Eliminating expense allocation: Certain GILTI rules require the allocation of a portion of US expenses, like interest expense, to foreign source earnings, limiting the use of foreign tax credits. Eliminating expense allocation would allow the further use of foreign tax credits to offset US tax and mitigate double taxation. Overall, it is estimated that these two changes to the US tax on GILTI would increase the domestic jobs at MNEs by roughly 140,000 workers and the annual domestic investment of MNEs by roughly $8 billion. Put differently, these changes could offset approximately 40% of the estimated economic impact of widespread adoption of Pillar Two outside of the United States.
Lawmakers should consider these options for limiting the damage of the OECD’s global tax harmonization schemes.
However, a more forward looking policy would prevent such challenges from arising in the first place. I’ve written before about how the OECD’s reliance on a phony form of consensus for political legitimacy leaves it vulnerable. Lawmakers need to address the immediate problem of Pillar Two first, but stopping these initiatives at the source will prevent the need to scramble to protect U.S. interests in the future.
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Image credit: Vinícius Pimenta | Pexels License.
