US Carveout Tests Global Minimum Tax Agreement
The global agreement to set a minimum corporate tax rate faces fresh challenges. Earlier this month, the United States secured a carveout from the Organisation for Economic Cooperation and Development (OECD)-backed framework. This carveout allows America's largest companies to rely on domestic tax rules instead of the proposed 15% minimum rate.
More than 140 countries endorsed the framework. Washington's own tax rules will now be treated as sufficient for US-based multinationals. The move does not undo the broader agreement. However, it raises serious questions about consistency across nations.
Experts worry the global consensus against tax avoidance could weaken over time. This revives old fears of a "race to the bottom" in corporate tax rates. Countries might compete by lowering taxes to attract business.
Understanding the OECD's BEPS Project
The OECD and G20 countries negotiated a new global tax architecture. Their goal is to curb base erosion and profit shifting (BEPS). This practice involves multinational corporations shifting profits to low-tax jurisdictions with little real economic activity.
An inclusive framework launched in 2016. In 2021, over 140 countries agreed to a two-pillar solution. This addresses tax challenges from digitalization and globalization.
Under pillar two, large multinational groups face a 15% global minimum effective tax rate. Countries implement this through coordinated domestic rules. Pillar one seeks to reallocate taxing rights to market jurisdictions like India. These are places where digital and consumer-facing companies earn revenues without a significant physical presence.
Together, the framework aims to restore taxing rights eroded by changing business models. Countries are at varying stages of implementing these rules.
India's Position on Implementation
Implementation of BEPS-related measures has been uneven globally. A key instrument is the multilateral instrument (MLI). It is designed to quickly amend bilateral tax treaties to include agreed anti-avoidance standards.
About 100 countries have signed the MLI. Around 80 have ratified it. Countries must notify which of their bilateral tax treaties are covered. Application remains treaty-specific and subject to domestic procedures.
India has both signed and ratified the MLI. Enforcement requires further domestic steps. Officials say India is closely watching global developments. Uncertainty around implementation by major jurisdictions is a key concern.
The United States participated in BEPS negotiations. However, it has not signed the MLI. Washington prefers bilateral treaty changes and domestic law measures instead.
Details of the US Carveout
The United States has not agreed to some critical elements of the OECD/G20 tax deal. These include the global minimum tax and the reallocation of taxing rights.
In January last year, President Donald Trump issued a memorandum. It stated the US is no longer bound by the global tax deal. Commitments made by previous administrations do not apply unless enacted by Congress.
The memo also directed officials to investigate foreign tax measures affecting American companies. It asked them to consider "protective measures or other" action.
Subsequently, on 5 January this year, the OECD announced a carveout for US companies. This came through a 'side-by-side arrangement'. New safe harbours apply to multinational groups whose ultimate parent entity is in an 'eligible jurisdiction'. These jurisdictions must meet minimum taxation requirements.
This effectively keeps US companies largely outside the OECD's minimum tax net. US domestic tax laws are deemed sufficient to address tax avoidance concerns.
Implications of the Carveout
The new safe harbours apply to any multinational group headquartered in an eligible jurisdiction. Other countries could potentially seek similar treatment in the future. This raises concerns that the global tax deal could gradually be diluted.
The carveout complicates efforts to establish a uniform global tax architecture. It could give US companies a compliance and competitive advantage. Firms from other countries remain subject to 'top-up taxes' in multiple jurisdictions.
India's Steps Toward Implementation
India is actively moving towards implementing the global minimum tax. Domestic legislation is expected soon, according to Nitin Narang, partner at Nangia & Co LLP.
"The primary aim is to ensure that multinational enterprises (MNEs) pay a fair share of tax globally and reduce profit shifting," Narang said. "Domestic laws are being prepared to implement the 15% minimum rate. Also, while implementing the global anti-base erosion or GloBE rules, Indian tax administration should ensure that GloBE rules do not create the risk of double taxation to MNEs."
India has already withdrawn its 2% equalization levy on goods. This levy proved difficult to administer and caused friction with trading partners. However, India will retain the 6% levy on digital advertising. This will continue until Pillar One is fully finalized.
Pillar One aims to ensure that MNEs pay tax in countries where they earn profits. This applies even in the absence of a physical presence.
