Big tech companies have been minting tax-free dollars for years, but that is set to change. The Organisation for Economic Co-operation and Development (OECD) announced on 8 October that 136 countries had reached an agreement on a sweeping overhaul of the international tax system that will impose a 15% minimum tax rate on multinational enterprises. Freny Patel asked the director of the OECD centre for tax policy and administration in Paris, Pascal Saint-Amans, to explain the real deal for Asia
Asia Business Law Journal: Do Asian countries including China and India stand to benefit from the proposed global tax regime?
Pascal Saint-Amans: We believe all countries will benefit from the recently reached multilateral agreement for bringing international taxation rules into the 21st century. We have been facing a global challenge for some time – the international tax rules were no longer working. This new agreement offers a global solution, bringing together more than 130 countries including China, India and other countries across Asia. It reinforces the international tax system and reduces the risk that countries take unilateral measures that provoke trade tensions. A better functioning international tax system is in everyone’s interest.
More specifically, as concerns countries in Asia that you are asking about, this agreement is a very big deal for them – and for countries worldwide – as it will allow them to tax part of the profits that multinationals make in their markets, even when those multinationals have no physical presence. That has been the existing situation for a very long time – a multinational needed have what tax experts call a “permanent establishment” for countries to have taxing rights – but Pillar One of this new agreement recognises that the economy has changed, that multinationals can operate in a jurisdiction without a physical presence, and so it offers new taxing rights to countries worldwide. This is the first fundamental reallocation of taxing rights in 100 years.
Accompanying that is a new minimum global corporate tax embedded in Pillar Two of this agreement. This will put a floor on tax competition. This global minimum tax will go a long way towards putting an end to the use of tax havens by companies to reduce their tax liabilities. All countries, including China, India and other countries in Asia will benefit if companies stop using aggressive tax optimisation strategies to move profits to low or no-tax jurisdictions. There will be more tax paid where activity takes place.
ABLJ: India, for instance, has adopted an equalisation levy on digital transactions of 2%. Would the new proposed tax regime adequately compensate revenues, as India would have to withdraw the levy?
Saint-Amans:Measures like the equalisation levy in India are aimed at collecting tax from the major digital companies that are not subject to tax in the places they earn their income, according to the existing rules. The rationale for these taxes disappears with the new rules, and their withdrawal is a key element of the agreement. The timing of the removal of these taxes will need to be co-ordinated both between countries, and with regard to the implementation of these new rules. The new rules should result in significant revenues for countries, including India.
One additional consideration is that measures like the equalisation levy lead to trade tensions. You see this when a country like the US declares its intention to take retaliatory measures against countries that have introduced taxes on digital services, which they consider discriminatory. Removing these measures in favour of a multilaterally agreed global solution will bring much needed certainty and stability to the international tax system, and create a more favourable climate for trade.
ABLJ: What are some of the key challenges you foresee, given that some countries have proposed carve-outs? And while the G20 countries have endorsed the G-7 talks, they do not necessarily represent the entire globe.
Saint-Amans: This is a global agreement, now supported by 136 member countries and jurisdictions, and goes far beyond the G7 or the G20. There are still a few remaining issues to be agreed before the high-level political deal announced in July is finalised, which should happen in October, but the issue of carve-outs is not really a fundamental problem.
There is one exception for the global minimum tax under Pillar Two, which is shipping. Why? Because the ships are in the middle of the ocean, and you cannot tax them. And if you don’t have all the countries in the world on board, then ship owners may all register in just one country outside of the deal. So shipping was excluded from the global minimum tax as a pragmatic measure.
As regards the reallocation of taxing rights to market jurisdictions under Pillar One, there are two exceptions: extractive industries; and regulated financial services. For extractives, it is a fact that the profit from exploitation should belong to the lands where the resources are, so there is no reason to reallocate profits to market jurisdictions.
As regards regulated financial services, because of existing regulations, the profits made are already tied to the marketplaces where they operate. To be clear, while these two sectors are not included in Pillar One, they will still be under the rules of Pillar Two, which means that there will be a minimum tax for them both.
ABLJ: Can you shed some light on the introduction of the proposed global tax regime? And what other steps have yet to be taken?
Saint-Amans: There are a number of points where details remain to be negotiated. One example is regarding the new reallocation of taxing rights over the largest multinationals, the so-called “winners of globalisation”. The profit to be reallocated will be between 20% and 30%. The remaining details, not many, will be finalised in October 2021, complete with an implementation plan to develop model legislation, guidance and a multilateral treaty. The idea is for that work to be completed in 2022, with implementation in 2023. This is an ambitious schedule, but it is crucial that we complete this work as soon as possible.
ABLJ: How crucial is it for countries to agree to a global tax regime on the digital economy, even if they are on the losing end? And why now?
Saint-Amans: A very small number of countries have forwarded reservations, but this does not negate the political impetus for reaching a deal. The 136 countries and jurisdictions on board include all G7 and G20 countries, many developing countries, the EU, most OECD countries, and nearly all international financial centres. There is a real willingness to have the agreement implemented as quickly as possible.
We do not see a “losing end” for anyone. The new rules will bring much needed tax certainty and restore the integrity of the international tax system. It will also prevent trade tensions that the world can ill afford at this moment. Like other recent international reforms, such as the end of bank secrecy, countries and jurisdictions will adapt to the change and find opportunities in the new rules.
ABLJ: The US has set a deadline and seems to be calling the shots. Do you see negotiations on the proposed global tax regime being completed in time, lest the US imposes tariffs on imports, triggering a trade war?
Saint-Amans: The US has played a tremendously important role in promoting the negotiations that have led to this breakthrough. That said, the US role should be neither underestimated nor overestimated. G20 countries and all members of the Inclusive Framework on BEPS [base erosion and profit shifting] have been negotiating for the better part of the past decade on a solution to the tax challenges posed by digitalisation and globalisation of the economy.
This new agreement foresees the removal of all unilateral measures, which have previously led to the threat of trade sanctions. The international community has set out an ambitious implementation timeline in order to resolve these issues and restore the integrity of the international tax system. The next few months will be extremely busy in reaching this objective.
Who benefits from the overhaul?
Asia is home to many home-grown e-commerce and digital giants that easily rival their Western counterparts – the likes of China’s Alibaba, JD.com and Tencent, Japan’s Rakuten, Singapore’s Shopee, Indonesia’s Go-Jek, Korea’s Coupang, and countless others.
Unlike US tech majors, which generate the majority of their revenue outside their home country, most Asian e-commerce and digital giants derive the bulk of their income from their own home markets, with a few having expanded their footprint overseas.
The international tax reform agreed by 136 countries and jurisdictions worldwide on 8 October 2021 will rectify the challenges Asian countries face when taxing tech giants that are only digitally present in the region. This is because most US headquartered digital giants tend to book more than 50% of their overseas profits in tax havens like Bermuda, Ireland, Luxembourg, the Netherlands and Switzerland.
The groundbreaking tax overhaul will reallocate profits in excess of USD125 billion from around 100 of the world’s largest and most profitable multinational enterprises to countries worldwide. This means such firms will have to pay a fair share of tax wherever they operate and generate profits.
But what does that mean for Asia and, more importantly, which countries stand to benefit or lose out?
According to a study conducted by the International Monetary Fund, the reallocation of tax revenue across countries would hurt Asian investment hubs such as Singapore and Hong Kong by up to 0.15% of their gross domestic product in corporate tax revenue, because the profits currently declared there by multinationals exceed the local share of total sales.
High-income countries with large domestic markets – including Australia, China, Japan and South Korea – stand to gain revenue, while developing countries such as Vietnam could lose revenue, the IMF report suggests.
The more populous countries in Asean – Indonesia, Vietnam, Thailand and the Philippines – will gain more from Pillar One, which allocates more taxing rights to market jurisdictions, Foo Hui Min, a Singapore-based tax partner at Rajah & Tann, tells Asia Business Law Journal.
China and Japan, with their large economies and populations, and more developed digital infrastructures, equally stand to gain, says Foo.
Within Asean, Singapore has the lowest corporate tax rate, at 17%, while the Philippines has the highest rate, at 30%. Foo said that Singapore, Hong Kong, China, Japan and South Korea will still remain competitive to attract foreign direct investment, while the rest of Asean ranks as somewhat less competitive, says Foo. “Since the corporate tax rates in most of Asean are already above 15%, there may not be a need for major changes to their corporate tax rates,” she adds.
Although Singapore exempts certain types of foreign-sourced income received in the city-state, this is subject to conditions, says Foo. Singapore’s headline tax rate is at least 15%, but policymakers recognise that changes to the tax system may be necessary and the use of incentives may be modified, she points out. Foo was previously a tax counsel with the Inland Revenue Authority of Singapore.
“All countries, including China, India and other countries in Asia, will benefit if companies stop using aggressive tax optimisation strategies to move profits to low or no-tax jurisdictions,” says the OECD’s Saint-Amans. “A better functioning international tax system is in everyone’s interest.”
The proposed new agreement that will allow “reallocation of taxing rights” reduces the risk of countries taking unilateral measures that provoke trade tensions, Saint-Amans notes.