By Julie McCarthy
In October 2021, G-20 leaders finalized a new global tax deal aimed at curbing tax avoidance by large multinational enterprises (MNEs). The deal—brokered by the Organization for Economic Cooperation and Development (OECD) and endorsed by 137 countries and jurisdictions (collectively this group is referred to as the Inclusive Framework or IF)—represents the most significant global tax reform in decades. Among other features, the “IF deal” introduces new taxing rights irrespective of an MNE’s physical location and a new global minimum corporate income tax of 15 percent on the largest MNEs.
The IF deal has two key pillars (Table 1): Pillar one establishes new taxing rights over a subset of large multinational companies (including ubiquitous digital giants like Amazon, Google, and Facebook), and pillar two establishes the base, rate, and approach for a new global minimum corporate tax (GloBE).
Table 1. The new IF global tax deal at a glance
Source: Data drawn from the OECD/G20 Base Erosion and Profit Shifting Project’s “Two Pillar Solution to Address the Tax Challenges Arising from the Digitalisation of the Economy,” October 21, 2021 and BEPS 2.0: What You Need To Know, KPMG.
A missed opportunity to boost development finance
Nearly all stakeholders seem to agree that the IF deal represents a real step forward in trying to reduce a “race to the bottom” in global tax competition and refashion MNE taxation to better reflect the places where enterprises have real operations, sales, and personnel. By moving closer to a formulaic method of allocating corporate taxes globally—rather than pretending that subsidiaries and affiliates are fully independent businesses—both critics and fans seem to support the IF deal’s direction of travel away from traditional residence rules in an increasingly complex and digitized global economy.
Unfortunately, when it comes to generating meaningful revenue benefits for the Global South, low- and middle-income countries (LMICs) rightly diverge from the G-7 consensus that the IF deal represents an “equitable solution” for reallocating global taxing rights. While G-7 countries have celebrated the IF deal as a breakthrough in “ending the race to the bottom in corporate taxation” worldwide, LMICs have expressed frustration and concern about various inequities embedded in this deal—with Kenya, Nigeria, Pakistan, and Sri Lanka refusing to sign on. At present, only 23 African countries are among the 137 countries and jurisdictions set to implement this global deal—less than half of all the countries and jurisdictions on the continent—and many LMICs are being cautioned to reconsider implementing the deal.
Concerns include high-income countries having first choice at collecting additional “top up” taxes on MNEs, the low rate of minimum taxes creating a “race to the bottom” on corporate income tax rates, and LMICs having to forgo existing and future digital service taxes in exchange for a new formula-based approach to MNE profit reallocation that could undermine their revenue base (Table 2). For the new GLoBE, the current formula would provide G-7 countries—home to only 10 percent of the world’s population—with 60 percent of the estimated $150 billion in new tax revenue generated. In effect, LMICs are being asked to take a blind leap of faith by signing a legally binding agreement to give up certain taxing rights in return for a completely uncertain, and potentially harmful, revenue outcome.
Table 2. Summary of core LMIC concerns with the IF deal
Source: Author’s analysis.
Political headwinds to the IF deal’s implementation
There are real political challenges to the IF deal’s adoption in key OECD jurisdictions, particularly in the U.S., where the measure faces opposition from Republicans and may require approval from two-thirds of the Senate to pass. EU tax laws require unanimous support from all 27 member countries, and there are several smaller low-tax countries like Estonia, Poland, and Hungary that are reluctant to move forward on the global minimum tax (pillar two and the U.S. priority) unless the EU places equal priority on advancing digital taxation reforms (pillar one and on a slower track). Last month Poland vetoed the EU’s most recent attempt to approve the new global minimum tax on this basis. These ongoing deadlocks have thrown the IF deal’s overall fate into question.
What next for LMICs on global tax governance?
As the IF deal runs up against potentially fatal political challenges to implementation, LMICs would do well to keep their distance and refrain from taking steps to implement it themselves in the near term. This is especially true when it comes to eliminating existing or planned digital services taxes, as the U.S. and Europe have been pressuring them to do, including through the threat of potential sanctions.
In a best-case scenario, the IF deal will help to create a more permissive environment and momentum for LMICs to introduce their own more aggressive anti-avoidance measures, including revising their tax regimes to remove incentives and introducing minimum taxes with less threat of legal action from MNEs or their home countries. Likewise, frustrations with the IF deal’s substance and process seem to have galvanized momentum behind broader global tax reform, including a potential U.N. Convention and more equitable approaches to involving LMICs as equal stakeholders in tax governance debates. There may also be room within the G-20 to reframe the IF deal as an initial “draft” and commit to working with IF partners to revamp key sections and address LMIC concerns over the next few years.
Remarkably, recent discussions at the IMF/World Bank Spring Meetings about additional aid, loans, debt relief, and innovative financing to address economic crisis in LMICs took place with barely a reference to the importance of domestic resource mobilization, and specifically, global tax governance reform. It’s as if G-20 donors, international financial institutions, and the private sector have all implicitly agreed that the IF deal and the (seriously underfunded) Addis Tax Initiative have checked that box and there is nothing more that needs to be done here for LMICs. This could not be further from the truth.
Going forward, continued political debates about the merits and evolution of the IF deal cannot continue to take place in a vacuum—they must be deeply integrated into broader multilateral conversations about economic recovery, poverty reduction, and fiscal support measures for the Global South.