The world’s leading economies have agreed a new tax system that (once the multilateral convention has agreed the final rules) will be in place from 2023. The new global tax system is intended to address the long-running issues of businesses ‘offshoring’ profits.
The practice, while legal, has been a bone of contention in many countries. Using it, multinational and highly profitable countries were able to trade paying little or even no tax despite significant turnovers. Instead, their profits would be recorded where their headquarters were located, and these were usually located in the jurisdictions with the lowest tax rates.
The agreement was largely prompted by the UK’s introduction of a digital sales tax. This was intended to target those businesses that traded over the internet, using a subsidiary located in a low-tax nation. The US, the ultimate home of many of the global businesses that trade this way, threatened tariffs in response. However, OECD-led discussions involving 136 countries have resulted in the new proposals.
The scheme has two pillars. Unsurprisingly, like any global tax system, these are very complicated, but the basics are relatively simply. Pillar two is the most straightforward, and the key element of this is that none of the participating nations will set a corporation tax, or equivalent, that is less than 15%.
Pillar one is more complex and contains the system that will redistribute a company’s profits. Intended to come into force in 2023, this will see the world’s largest companies paying tax where they operate, not just where they are headquartered.
Under the proposals, companies will still be able to headquarter and declare profits where they like. However, any profit margin over 10% will be redistributed. 25% of the excess allocated and taxed in the country of origin. This means that companies that, for example, operated across all of Europe but declared all their profit in the Republic of Ireland, will now have to pay tax on a proportion of it to the countries where they actually earned it.
Like any international agreement, it represents a compromise. While many nations were frustrated at the revenue their national treasuries were losing, those that had significant businesses headquartered within their boundaries wanted to avoid losing the financial benefits they offered. Indeed, many had actively encouraged businesses to locate there and offered incentives to make it happen.
And it also represents a compromise on the UK’s digital sales tax. This will remain in place until the new system is in place. And the US threat of tariffs has been dropped. However, businesses that pay the new sales tax will have the opportunity to get some of their money back. If there is any difference between the amount they pay in the digital sales tax and the amount they would have paid if pillar one was in effect, they will be able to claim that amount as a credit on any sums they owe after 2023.
The proposals still need to be formally agreed, and global businesses will still seek ways to lower their overall tax bill. For many countries, though, they may be getting a little extra in the public purse from 2023 onwards.
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