India Signs Up For Global Tax Reform: 7 Tax Experts Discuss Implications
A few months of U.S. involvement has helped accelerate an effort underway for many years — the reform of international taxation to ensure multinational companies pay a fair share of tax where they operate and to end profit-shifting to low tax economies.
In June, the Group of Seven nations agreed on a minimum corporate tax rate of at least 15% and that multinationals should pay tax in countries they do business in, even if they have no physical/taxable presence in that country.
The G-7 deal seems to have turbocharged an older and wider effort spearheaded by Organisation for Economic Co-operation and Development and G-20 countries.
On July 1, 130 countries agreed to adopt a somewhat similar two-pillar approach under the OECD/G-20 Inclusive Framework on BEPS, that is Base Erosion and Profit Shifting.
Both deals are equally critical to the survival of the other. The G-7 bring the clout of the richest nations, home to most large multinationals, even if they pay taxes elsewhere. The G-20 bring broader participation and are among the largest markets for these multinationals, without which no deal would succeed.
There is nothing global about a solution that includes only seven countries, said Suranjali Tandon, assistant professor at NIPFP.
An agreement at the level of the G-20, that includes other large economies like China and India, would be more decisive of the issue, according to Akhilesh Ranjan, former Central Board of Direct Taxes member and now adviser at PwC.
The two are among the seven tax experts who shared their views with BloombergQuint in the run up to the OECD/G-20 talks and the upcoming G-20 finance heads meeting on July 7.
India is among the 130 countries that have joined the OECD/G-20 statement. But it's going to be a tight rope walk for the government, say tax experts.
"This is because it must be a part of the solution at the global level and yet, at the same time, secure greater taxing rights for the multinational enterprises operating in India and generating untaxed profits, Mukesh Butani, partner at BMR Legal, told BloombergQuint.
India's ultimate participation will depend on how close the G-7 deal moves to the OECD/G-20 one and the final agreement that emerges.
Reallocation Of Taxing Rights To Market Countries
Take, for instance, the reallocation of some taxing rights over multinational enterprises, from their home countries to the markets where they do business and earn profits. The OECD/G-20 solution refers to it as Pillar One.
The G-7 statement speaks of "largest and most profitable" MNEs. The OECD/G-20 Pillar One proposal prescribes specific size thresholds. It talks about a global turnover above 20 billion euros, thereby covering a few more MNEs maybe. Barring financial services and extractives.
Under the G-7 agreement — market countries will be awarded taxing rights on at least 20% of profit exceeding a 10% margin.
Under the OECD/G-20 Pillar One: between 20-30% of residual profit defined as profit in excess of 10% of revenue will be allocated to market jurisdictions with nexus using a revenue-based allocation key.
Besides, the G-7 agreement seeks to remove all digital taxes, imposed by countries like France, India and a handful others.
We will provide for appropriate coordination between the application of the new international tax rules and the removal of all digital services taxes, and other relevant similar measures, on all companies.G-7 Communique
India offers a huge business opportunity to global multinational companies and should be able to generate appropriate tax revenue, said S Krishnan, consultant at ITRAF and former head of international taxation at Infosys Ltd. India should consent to this global tax reform only if its taxing rights are protected by an appropriate tax formula, he added, pointing out that India imposes the digital tax or equalisation levy on a large number of foreign businesses and on revenue generated in India not profit.
"Computation of profits is always litigation prone. The mode of collection of taxes is another important issue not yet addressed by the G-7. A gross basis of taxation is easier to compute and collect."
India is likely to find the G-7 proposal as yielding far lesser taxes compared to the equalisation levy, said Dinesh Kanabar, chief executive officer Dhruva Advisors. "It may want removal of the 10% hurdle and applicability to all companies and not just the top 100."
To be clear, similar problems may crop up with the OECD/G-20 solution, which also proposes tax on profit and doesn't cover all MNEs.
Even the G-20 proposal may not fully work in India's favour, said Daksha Baxi, founder, SRI Solutions. "The way Pillar One proposal is set out, India is unlikely to get anywhere near the revenue it gets under its digital taxes."
But, according to Butani, Indian tax officials are on record that the incumbent digital taxes are only to fill an interim void while awaiting global consensus.
"Thus, it is unlikely that India will choose to continue with the existing taxes even when a global agreement is reached. Having said that, given that digital business offer an ever-increasing tax base, one can expect the Indian tax officials to drive a hard bargain in the discussions towards securing greater taxing rights for source countries, particularly developing ones," he said.
Minimum Global Tax Rate
Both agreements speak of a 15% global minimum tax rate — where the home country gets a top-up if the MNE pays a lower tax elsewhere. The OECD/G-20 efforts on this aspect are referred to as Pillar Two.
The OECD/G-20 Pillar Two covers multinational groups with consolidated revenues of 750 million euros or more and also provides a subject-to-tax rule — that allows source jurisdictions to levy a tax on certain related party payments subject to tax below a minimum rate .
A global minimum tax can prove to be a significant disincentive for profit-shifting, agreed Ranjan. But a major issue is that of exemptions and carve-outs, about which there is no clarity at present, he said.
"The global minimum tax is just a headline," Kanabar said. "The more important issue is what are the exceptions, to what income is this rate applied, how will such income be computed, etc."
While India's corporate tax rate exceeds 15%, in 2019, India offered a 15% rate to new manufacturing units. Besides, it offers tax incentives for exports and select other activities.
There are exemptions or preferential rates offered to investors through treaty withholding rates or in the Income Tax Act, Tandon said. "The end result of a global minimum tax may be that someone else gets the tax differential and then what happens to investment inflows into countries offering such incentives requires deeper understanding".
India has provided certain tax incentives for attracting growth of exports and start up eco system, Baxi pointed out. "It remains to be seen whether such incentives will be carved out for the purposes of determining ‘subject to tax’ so that the taxes foregone by India do not get collected by the jurisdiction of the parent of those Indian companies."
The U.K. has already asked for exception for financial industry, China for R&D industry and so have others, Kanabar said. "If each country starts carving out exceptions, the rate may have not much of a meaning. A lot more work needs to happen before we can say that the framework for a minimum rate of tax has evolved."
The OECD says Pillar One will help reallocate taxing rights on more than $100 billion of profit to market jurisdictions each year and Pillar Two will generate around $150 billion in additional global tax revenues annually.
Ultimately though this will depend on the convergence between the two solutions and the final fine print. No doubt the prospect of more tax revenue is appealing to all countries. Even more so to the U.S. which wants to raise corporate taxes without hurting competitiveness and yet protect its largest businesses. The question is will other countries gain as much.
"This agreement only serves the interests of a handful of countries, the richest," said a statement by The Independent Commission for the Reform of International Corporate Taxation.
I believe that India should be careful before consenting to the agreement, said former Solicitor General of India Mohan Parasaran. "Prima facie, the idea of a global minimum tax appears to be attractive since it ensures a slice of the pie for everyone, but it should be examined whether our existing slice of pie is more or less than what is proposed."
More answers to that on July 7 at the G-20 meet.
Note: The India finance ministry acknowledged in a statement on July 2 that it joined the OECD/G-20 inclusive framework tax deal. It noted that
Some significant issues including share of profit allocation and scope of subject to tax rules, remain open and need to be addressed.
India is in favour of a consensus solution which is simple to implement and simple to comply.
At the same time, the solution should result in allocation of meaningful and sustainable revenue to market jurisdictions, particularly for developing and emerging economies.