‘It’s now or never for an EU discussion on the minimum tax rate’

With the publication of a proposal for a directive just before Christmas, the European Commission took an important step towards introducing a minimum tax rate within the EU for the worldwide activities of multinationals. With the aim of entry into force on 1 January 2023, the implementation timeline is ambitious. That is why, according to Maarten de Wilde, there is no more time to waste. “It’s now or never for an EU-level discussion about the minimum tax rate.”

Towards a minimum tax rate

What seemed impossible for a long time finally happened in 2021: global agreement on a global tax reform along the lines of the OECD’s two-pillar project (BEPS 2.0), in which Pillar 1 concerns a redistribution of tax rights through new profit allocation rules and Pillar 2 on a global minimum tax rate. With 137 countries on board, the OECD closed the year 2021 on December 20 with the publication of model rules for the implementation of Pillar 2. Barely two days later, on December 22, 2021, the response from the European Commission followed: a proposal for a directive for the EU introduction of the globally agreed minimum profit tax of 15%. With this swift action, the Commission is taking a leading role in the worldwide roll-out of this new effective tax rate for multinationals with an annual turnover of at least €750 million.

EU proof?

The OECD model rules and the Pillar 2 directive proposal are virtually identical. This explains De Wilde, professor of International and European Tax Law and chair of the Tax Law section at Erasmus University Rotterdam. “The European Commission says it has still made the proposal for a directive EU-proof. In order to comply with the EU treaty freedoms, the Pillar 2 rules also apply to group companies operating purely domestically and Member States that discover that they are below the effective rate of 15% are given the option to levy locally up to the minimum tax rate.”

Whether this additional levy is sufficient for the EU treaty freedoms remains to be seen, according to De Wilde. “In any case, under EU law it is still the case that, except in abusive situations, in the light of free movement, companies must be able to make use of tariff differences between Member States for their investment decisions. Eliminating those differences with an additional tax may be at odds with this EU treaty freedom, although it should be noted that the European Court of Justice appears to be a bit more lenient with directives. Ultimately, it is up to the Court to make a decision.”

Technically extremely complicated

An important objective of Pillar 2 is to combat tax avoidance. The minimum tax rate should ensure that multinationals anywhere in the world pay their fair share of tax. To achieve this, extremely complicated rules have been drawn up, with a different determination of the base, exceptions and comparisons to ultimately arrive at a formula for the ETR (effective tax rate). If the effective tax burden is lower than 15%, another country may levy additional taxes, starting from the country of the parent company. De Wilde speaks of a tax system stacking up. “In addition to the corporate income tax system and the commercial profit determination rules, a shadow profit tax system will run: the Pillar 2 benchmark corporate tax system.”

If a country does not apply the Top-up Tax (Income Inclusion Rule), i.e. the additional levy up to the minimum tax rate, despite the fact that the VPB system of another country does not lead to a sufficiently high tax burden, there is still a back-stop in the form of the Undertaxed Payments Rule (UTPR). De Wilde: “The UTPR is a safety net mechanism in which the additional levy is spread over the countries where the multinational operates in proportion to the number of employees present and the value of the tangible assets. This requires complex coordination.”

looking at each other

The additional tax regime may lead to double taxation for companies, but rules to prevent this have not yet been drawn up. De Wilde points to the consequences of both the Top-up Tax and the back-stop: “Countries will not only assess each other’s corporate income tax systems, but also each other’s additional tax responses, because if one country does not country might be entitled to part of the tax pie.”

Countering tax competition between countries

Pillar 2, in addition to combating tax avoidance, has an underlying objective that is less prominent in the spotlight. “We now know that in addition to combating tax avoidance, Pillar 2 also combats tax competition between countries,” says De Wilde. “Until recently, we felt that countries should be allowed to decide for themselves how they wished to shape the corporate income pressure on their domestic profits. Sure we wanted to tackle tax avoidance and unfair competition, but how to deal with real investment was up to the countries themselves. That premise has changed. At some point, we have come to believe that countries competing for investment through profit tax should also be addressed.”

“The Pillar 2 proposal is the result of this,” says De Wilde. “Pillar 2 harmonises profit tax worldwide at the lower limit. Countries can compete with each other through corporate tax up to the effective floor rate of 15%, but that’s where the ‘race to the bottom’ ends. Whether countries actually compete ‘to the bottom’ is a hypothesis, but if this is correct, countries will no longer be autonomous when it comes to using your profit tax to continue competing with other countries beyond the lower limit due to the harmonization of the lower limit.”

“Whether that is desirable,” continues De Wilde, “is a political matter, but I find it remarkable that the OECD’s Pillar 2 plan has been so easily embraced within Europe. “The OECD’s corporate tax statistics show that corporate income tax returns as a percentage of total tax revenue and as a percentage of national income have been increasing in the tested countries over the past decades. That does make it complicated to focus on a lower limit globally because of the ‘race to the bottom’, without having a substantive discussion about it.”

From soft to hard

With the Pillar 2 directive proposal, the European Commission is taking a concrete step from a ‘soft’ political agreement with the OECD plan for a global minimum tax rate to a ‘hard’ legal agreement to implement this. The European Commission presents the proposed directive as a more or less fait accompli in view of the politically agreed commitment within the OECD. The fact that Europe can no longer take a different standpoint as a result of this is a bit far in De Wilde’s opinion. “Although I can understand politics, a political commitment is by no means a legally binding agreement like, for example, a treaty.”

Now or never

Now that the step from a political to a legal agreement is becoming increasingly concrete, the discussion about Pillar 2 is hardening in various countries. De Wilde mentions the United States as an important example. “The Biden administration wants to tighten the GILTI legislation, a more lenient US variant of Pillar 2, to comply with this pillar, but that is proving to be a difficult exercise. Several Republican members of the U.S. legislature have argued that the Biden administration has committed itself too quickly to the OECD’s tax reform plans without a thorough preliminary analysis and coordination with parliament and business.”

Looking at the developments in the United States, the reports that various African countries feel restricted by the additional tax regime and the fact that we are well on the way to a legal agreement with an implementation date of 1 January 2023, according to De Wilde, there is no time left. for a political debate at EU level. It is now or never for member states to jointly and individually discuss the question of whether we as Europe want harmonization of the lower-limit profit and, if so, whether the technically very complicated Pillar 2 system is the calibrated method for this.”

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