International tax jurisprudence got a shot in the arm when 130 countries agreed to introduce a new global tax regime to tax multinational corporations (MNCs) operating around the world. For more than a century now, the corporate tax system was based on the application of the dual principles of the source rule and the residence rule. A multinational company only had to be registered in a tax haven to avoid high taxes in the country where they did business. Globalization allowed multinationals to replace the fears of double taxation with the joys of double non-taxation by taking advantage of the mismatch between the tax laws of different countries and cutting taxable profits. The digital world has made their work easier.
Tax haven came in handy for multinational companies. This became easier with the rise of intangible assets, which could be easily transferred from one country to another. But shifting profits to lower tax havens reduced the revenues of poorer countries by up to 5%, compared to an alternative system where companies, revenues, their employees and profits are taxed based on the current location of their wage code. is applied. Smaller countries wanted massive investments. This can be achieved with less direct taxes. Countries such as Belgium, UK, India and Indonesia introduced digital service tax on local sales of foreign firms with online platforms. The US opposed this and threatened to impose retaliatory tariffs.
Therefore, all countries realized that the time had come for a radical change in the tax system. US Treasury Secretary Janet Yellen announced that it was time to end the “race to the bottom” on corporate tax. Inspired by the Organization for Economic Co-operation and Development (OECD), 130 countries achieved a landmark agreement on a more stable and fair international tax architecture in June. According to the agreement, MNCs will no longer pay taxes in the country where they register their headquarters for tax purposes, but will pay in the country where they generate their sales. A minimum global tax of 15% will be applied on profits in all countries.
Google, Alphabet, Amazon, Facebook, Apple, and many other Chinese corporations and German companies such as Volkswagen, Daimler and Siemens will from now on pay more taxes in countries where their markets flourished.
How did this happen? The 2008 global financial crisis forced all countries to change international tax rules to prevent base erosion and profit transfer. Anti-abuse provisions, new transfer pricing document provisions, more effectively combating harmful tax practices taking into account transparency and economic substance and introduction of an effective dispute resolution mechanism were the objectives that were agreed upon.
The OECD estimates that a proposal to impose a 15% minimum tax on global corporations that do business in each country would receive an additional $150 billion per year and transfer tax rights worth more than $100 billion in profits to different countries. The tax rights would be reallocated so that a slice of the profits could be taxed according to the place of sale of the company. Such profits will be taxed at a minimum rate of 15%. According to the agreement, countries in which MNCs operate will have the right to tax at least 20% of profits in excess of 10% margin.
India, China, Russia, Germany and other countries have signed the agreement, which is to be implemented from 2023. But there are obstacles to cross. India will have to reconsider the equalization levy. Revenue from the equalization levy should be compared to the 15% global minimum tax. The finance ministry said important issues would have to be addressed, including the share of benefit allocation and the scope of tax-to-tax rules, and a consensus agreement was reached on October 8. The draft rules will reset the system for international. Subject to taxation and new tie-up and profit allocation rules to multinationals.
Simultaneous implementation of the law by all the signatories to the agreement would be a splendid job. If achieved, this could herald the beginning of the ‘golden age’ of direct taxes. Efforts are needed to reform India’s direct tax code to keep up with the concept of a global minimum tax, which is easier said than done.
TCA Ramanujam is the Chief Commissioner of Income Tax (Retd) and an advocate of Madras High Court. TCA Sangeeta is an Advocate of Madras High Court
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