In the wake of the Covid 19 pandemic and with public deficits having reached a zenith, tax reform appears to be high on the agenda of many of the world’s key players, most notably President Biden but also the OECD and the EU.

US president’s proposition

President Biden is keen in bringing in a new (consolidated) global tax framework as opposed to a sporadic domestic amendment (higher domestic tax rates). The twin pillar approach suggested by the OECD has been embraced by Biden. It is based on striking a fair “taxing right” balance between countries while at the same time imposing a new global minimum rate that would tackle the “exit” of tech and other conglomerates to tax havens.

The proposal of the President that a worldwide minimum tax rate be introduced is not something new. The ability of multinational corporations to shift profits abroad has long been on the global agenda as a pressing concern, with economists warning about multi-multi billion profit shifting on an annual basis. Major revenue/source countries like the US, UK, France and Germany are constantly losing out to low tax jurisdictions that are selected by corporations through a tax haven parade.

OECD forum negotiation

A “follow the money” approach is what seems likely to emerge as the future consensus from the current negotiations on tax reforms at the OECD. MNEs / tech conglomerates will be forced to pay a tax bill to national governments on a basis of revenue received in a country, and not on the basis of where the business is resident.

The US is looking at the introduction of a global minimum tax rate. Its current tax rate is 21% which is also the matching average rate of the EU OECD countries. The US suggestion may be more agreeable to the bigger countries which may have quite high corporation tax rates compared to lower tax jurisdictions. For example, certain EU jurisdictions currently apply tax rates as low as 9%. Notably, the recent Biden proposition on minimum tax rates is mainly targeted at large MNEs. It may be regarded as unlikely to impact private clients.

EU Commission tax reform plans

Tax reform plans were also announced by the EU Commission on the 18th of May 2021 through the communication channel “Communication on Business Taxation for the 21st Century”. Its contents lead us to understand that legislative proposals are in the pipeline.

Again, the proposals of the EU Commission come during a post COVID-19 recovery period. The Commission is pulling together a tax agenda for the next two years aiming at achieving an effective taxation within the EU, whilst also targeting growth and sustainability for business and entrepreneurship.

Problems addressed by the Commission

The Communication addresses problems such as the extraordinary economic crisis in the EU stemming from the public health challenges of COVID-19 and, the acceleration of digitalisation, whilst spotlighting the corporation tax system.

Specifically, it is stated that the current international tax system is based on outdated principles of tax residence and source. It has not synchronized with the developments in globalization and digitalization or with modern business realities.

The fact that there are 27 different national corporate tax systems within the EU creates complexities for businesses. This is especially true for EU SMEs, start-ups, and other businesses operating cross-border in the single market, and which are looking to expand. Such complexity serves as an impediment to investment, growth and the EU’s competitiveness.

Another problem highlighted by the EU Commission is the fact that while corporate income is taxed at the national level, business models continue to become ever more international, complex and digital. This creates high compliance costs for business and risks of double taxation. The tax system is further undermined by some companies exploiting loopholes between tax systems through aggressive tax planning. This makes it difficult for citizens to know how much these companies are actually paying in tax and generates mistrust.

Commission’s proposal

Long Term

The Communication will create a new framework for business taxation in the EU fostering a business-friendly environment and reducing administrative burdens as well as removing tax obstacles in the Single Market.

The “Business in Europe: Framework for Income Taxation” (or BEFIT)” will provide a single corporate tax rulebook for the EU, based on a formulary apportionment (tax rates would still be determined nationally) and a common tax base reducing tax avoidance and compliance costs. It is expected to be introduced in 2023.

Short Term

The Commission will propose the following targeted initiatives:

  • Recovery measures especially for SMEs - Recommendation on the domestic treatment of losses – (published) - Loss carry back mechanism to at least the previous fiscal year for healthy businesses (being profitable in the years prior to pandemic) ensuring that public money goes to business affected only because of the pandemic. Losses of the years 2020 and 2021 to be offset against taxes prior to 2020 with a limit of €3 million per loss making fiscal year.
  • Propose a Debt Equity Bias Reduction Allowance (DEBRA) – (proposal expected by Q1 2022) - Provision of a “notional” interest deduction allowing a deduction on deemed remuneration of equity, encouraging companies not to accumulate debts that could lead to high waves of insolvency that would affect the EU as a whole.
  • Increase on public transparency / Annual publication of the effective tax rate by certain large companies operating in the EU – (proposal expected by 2022) - Public scrutiny on aggressive tax planning cases and better overview by the policy-makers on tax contribution by the large MNEs in the EU.
  • New anti-tax-avoidance measures against the use of shell companies – (proposal expected by Q4 2021) - New monitoring and reporting requirements for better oversight and response by the tax authorities to aggressive tax planning deployed through the use of shell companies and arrangements with little or no substance and economic activity.

The EU Commission will continue its work on the above proposals aiming at a fairer allocation of taxing rights between Member States whilst also supporting businesses and entrepreneurships to grow and expand in the Single Market within the 21st century. At a global level, as with President Biden, it is looking into the imposition of a minimum effective taxation as a means of bringing the reform of the international tax system a step closer.

Global tax reform could be a “game changer” given the disparities of different tax systems and economies (i.e. countries with heavy industries, agriculture, shipping, exports and the like contrast sharply with low tax countries that have heavily invested in corporate services and related products). It remains to be seen how the tax tapestry will look like in the decade ahead, however, the momentum towards a global minimum tax rate has never been stronger.