Income Tax--Current Issues

Practice Update

CA Kavita Agarwal

GLOBAL MINIMUM TAX: A STEP TOWARDS ADDRESSING TAX EVASION BY MULTINATIONAL ENTITIES

On Saturday, 5th June, 2021, the member countries of G7 viz., Canada, France, Germany, Italy, Japan, the UK and the USA, reached a landmark consensus to introduce a Global Minimum Tax at the rate of 15%.

Background:

In the ever-expanding era of digital economy, the need was felt worldwide to build a consensusto curb tax evasion by multinational companies by resorting to Base Erosion and Profit Shifting (BEPS). In order to save tax, most multinational companies have migrated their income from intangible sources such as patents, software and royalties to lower tax or no tax jurisdictions to avoid paying higher taxes in their home jurisdictions.

The main consideration for any entity to expand to other jurisdictions must be derived from commercial purposes rather than tax saving purposes. The countries should compete for business on other factors like workforce training and infrastructure, availability of skilled labour etc. This agreement aims to provide a level playing field among countries.

What is Global Minimum Tax?

The global minimum tax rate would apply to overseas profits. It will act as a 'top-up' tax. If companies pay lower tax (or no tax) in a particular country/ jurisdiction, their home governments can increase the local tax rate to reach the minimum tax rate of 15%. It is also agreed that the tax would apply on a 'country by country' basis.

Currently, the US applies the concept of Global Intangible Low Taxed Income (GILTI), where income in low-tax jurisdiction is added to the income in high-tax jurisdiction. The rate applied by the US was 10.5% to 13.125%. However, GILTI is taxed on the basis of gross total income of a multinational group.

The main difference between GILTI and Global Minimum tax is that while GILTI is applied on the global income of a Controlled Foreign Corporation, Global Minimum Tax is applied on a country by country basis.

For example, Ms. XYZ Inc., a company incorporated in USA, has a branch in Country Z where the corporate tax rate is 5%. During a tax period, Ms. XYZ Inc. earned an income of $500 million from the branch in country Z where it paid 5%, i.e., $25 million as tax thereon. As per the Global Minimum Tax concept, the US Government will have a right to tax this $500 million at the rate of 10% (15%-5%) and can collect a tax revenue of $50 million from Ms. XYZ Inc.

Way Forward:

The US Treasury Head Janet Yellen has called the agreement 'a significant, unprecedented commitment that provides tremendous momentum' and also that this agreement will end '30-year race to the bottom in corporate tax rates'.

Apart from G7, Organization for Economic Co-operation and Development (OECD) and G20 nations also aim to reach a consensus by mid-year. In the event of consensus being reached, it will be extremely hard for such MNEs to evade taxes by shifting their profits to low tax jurisdictions.