Report Summary: International Corporate Tax Reform

Recommendation

World leaders are fundamentally retooling the international tax framework to address the modern digital economy, as well as the intense tax rate competition between nations and the dominant role of multinationals in the global economy. Policy officials in 138 countries have agreed to a new architecture that focuses on taxation within countries and the setting of a minimum global corporate levy. International Monetary Fund staff members explain the new structure and its implications for worldwide business, economic growth and tax revenue in this informative reference guide.

Take-Aways

• Policy officials around the world are working to modernize the global tax code.
• The tax reforms proposed involve a minimum corporate tax and higher levies on the largest multinationals.
• The new tax regime should significantly reduce profit shifting and generate substantial revenue.

Summary

Policy officials around the world are working to modernize the global tax code.

For more than a century, the global tax system had largely remained static. However, in 2021, national leaders took bold actions to address the new digital economy, globalization and the role of multinationals in the world economy. Policy officials from 138 countries have signed on to the Inclusive Framework (IF) on Base Erosion and Profit Shifting (BEPS). Under the new design, the international community is now positioned to more effectively avert race-to-the-bottom tax codes between competing nations and profit shifting by multinationals.

“The IF agreement comprises two pillars…P1 mainly covers a revised allocation of taxing rights over a share of profits toward market jurisdictions…P2 consists of a global minimum tax on ‘excess profits’.”

Taxing rights and a global minimum tax on excess profits underpin the IF structure. The new language alters the conventional tax structure by imposing on 100 of the biggest multinationals a levy on one-quarter of their profits that exceed a 10% return on revenue in a jurisdiction. This tax doesn’t require that a business maintain a physical presence in the country or market.

The tax reforms proposed involve a minimum corporate tax and higher levies on the largest multinationals.

Leaders also agreed that multinationals generating more than €750 million [$834.4 million] in annual revenue will pay a minimum 15% tax on specifically defined excess profits in each market in which the corporations operate. While many of the revenue targets, tax rates, caps and exclusions are already in place, IF officials continue to finalize their calculations, amounts and minimum values. The framework seeks to remove sovereign-specific taxation; however, the new architecture does provide some levies based on “place of final consumption.”

“By allowing some profit taxation based on the place of final consumption, P1 does address a fundamental inter-nation equity issue that has been challenged by the digital economy.”

With such a transformational reimagining of the global tax structure, predicting the financial impact on revenues, economic growth and corporate profitability presents several challenges.

The new tax regime should significantly reduce profit shifting and generate substantial revenue.

Forecasters now anticipate that the reforms could add $12 billion to worldwide corporate income tax (CIT) revenue. And the introduction of the minimum tax rate of 15% should increase CIT revenue by 5.7%. However, corporations could certainly modify their capital investment plans in the jurisdictions in which they operate, given the new higher tax rate structures. Based on certain assumptions about resulting corporate behavior, experts believe the 15% minimum rate will result in a 36% drop in profit shifting. The lowering of tax competitiveness between nations could result in a CIT increase of 8.1%.

“The international tax framework will likely continue to evolve beyond the IF agreement by responding to emerging challenges and pressures from fiscal spillovers.”

For sovereign leaders, effectively implementing the framework and bringing financial uniformity to the tax code are pressing issues. Chief among the roadblocks to success are the cost burden and the complexity of governance in adding a new taxation right. But in its totality, the IF initiative is an important step in reforming a global tax code that has been unable to keep pace with multinationals and the global digital economy.

About the Author

The International Monetary Fund advises member nations on policy issues and works to promote economic stability and well-being.