Corporate taxation—momentum is building

The international system for business taxation is starting to crumble. Now is the time for civil society to apply pressure.

When a multinational company based in one country trades or invests overseas, fundamental tax questions arise. For example, which country gets to tax the profits from that investment? For the last century, countries have agreed some basic principles about how multinationals get taxed on their cross-border activity and a powerful international tax system has developed, overseen by the Organisation for Economic Co-operation and Development, the club of rich countries.

Unsurprisingly, this system has tended to favour the interests of rich countries. And everyone knows that multinationals use tax havens to escape tax: estimates from the International Monetary Fund and Tax Justice Network range between $250 billion and $600 billion a year in corporate tax-haven losses, with lower-income countries especially hard hit.

For the last seven years, the OECD has been trying to patch up this leaky system, with a project launched in 2013 called Base Erosion and Profit Shifting (BEPS). In 2019, it finally conceded that the pillars contained huge cracks, especially in a modern digital economy. That same year, the then IMF managing director, Christine Lagarde, called the system ‘outdated [and] especially harmful to developing countries’ and urged a ‘fundamental rethink’.

Covid-19 is fast widening those cracks. Some 400 million people, disproportionately women, have lost their jobs as a result of the coronavirus, Oxfam estimated in September, and up to half a billion could be pushed into poverty by the time it is over. Meanwhile, just 32 of the world’s most profitable companies are expected to make $110 billion more in 2020 than they did in previous years.

Shining opportunities

Now, as the international tax system starts to crumble, civil society needs to push hardest, to ensure that the new world tax order is favourable to ordinary people in countries rich and poor. Several shining opportunities present themselves.

The first involves corporate-tax transparency. When the Tax Justice Network was launched in 2003, it pushed for ‘country by country reporting’ (CbCR). The problem was that multinationals could lump together their financial affairs—revenues, profits, tax payments and so on—into a single global figure (or set of regional figures). It was impossible to unpick those to work out what was happening in each country or how much profit was being shifted into tax havens. CbCR would require companies to break down (and publish) their numbers for every country where they operate, so tax authorities and the public could work out what was going on.

CbCR was called utopian back in 2003 but it is now accepted by the OECD, the IMF and governments around the globe. There are still many gaps to fill but nobody seriously opposes the basic principle of transparency.

‘Arm’s length’

A second issue is the ‘arm’s length’ method, a pillar of the century-old OECD consensus on taxing multinationals. Affiliates of a multinational mutually transact across borders and the company’s accountants routinely manipulate the prices of those transactions to push costs into high-tax countries (reducing tax bills there) and profits into tax havens, where effective tax rates are low or zero. The method tries to tackle such shenanigans by saying these transactions must happen at the going, ‘arm’s length’ market rate. But especially in the digital age it is often impossible to nail down what proper rates are, so corporations and their accountants can run rings round the system.

The tax-justice movement has been pushing for years for a radically different system—unitary tax with formula apportionment. This takes a multinational’s total global profits and shares out that pie in slices to the various countries where it operates, using a formula based on employees and sales in each place. Each country taxes its slice at its own rate. A one-person booking office in the Cayman Islands only gets allocated a minuscule slice of its multinational owner’s global profits, so Cayman’s zero per cent tax rate hardly matters. Partial versions of this system have been used for years in many jurisdictions, including many American states.

Until recently, multinational lobbying ensured that the OECD forcefully rebuffed any discussion of this formula approach. But in 2019 its proposals opened the door, at least a chink—allowing for a tiny portion of multinational profits to be treated in this way. Even on the OECD’s own estimates, the impact would so far be negligible: for instance the Netherlands, one of the world’s biggest corporate-tax havens which receives some $100-200 billion in corporate profit-shifting each year, would see a maximum gain of just $23 million. This may be peanuts—but the fact that the OECD admits the formula method, at last, is the foot in the door for which the tax-justice community has been waiting.

Politically attractive

Other politically attractive possibilities are popping up. One of the pillars of the new BEPS proposals is to impose minimum taxes on multinationals’ global incomes—this, if combined effectively with a unitary/formula approach, could raise very large sums. It deserves targeted support, to ensure that it happens and in the right way.

Another opportunity is ‘excess profits taxes’, which several scholars and some non-governmental groups advocate. One version, smaller but easier to implement, would target pandemic profiteering: compare a multinational’s profits before the pandemic with those afterwards and tax the excess at high rates—say 75-90 per cent. (This has been done successfully before, in the context of world wars.)

A bigger version, more technically and politically challenging, would recognise that, through monopolisation and other forms of market-rigging, multinationals have been earning excess profits since long before the coronavirus. According to a May 2020 study by Jan De Loecker and Jan Eeckhout, multinationals have increased their mark-ups from 10 per cent above marginal costs in 1980 to 60 per cent today. These staggering unproductive rents should be taxed, again at very high rates, on a unitary/formula basis.

A further big change brewing is that lower-income countries are starting to flex their muscles on global tax. Although the OECD did officially bring them into its BEPS negotiations in a so-called ‘inclusive framework’, the impact of this was muted.

Some countries are now pushing for the United Nations to wrest some power away from the OECD in international tax discussions, since the UN is a more globally representative body. Its high-level panel on Financial Accountability, Transparency and Integrity (FACTI,) launched in early 2020, is already making waves, pushing for a variety of improvements, including not just unitary tax and stronger CbCR but also a UN tax convention to better reflect the needs of lower-income countries.

Biggest boost

Alongside all this, momentum is building in civil society behind an obvious measure which could constitute the biggest single boost to corporate-tax collection of them all—getting governments to allocate more resources to their tax authorities. In an era of neoliberalism, tax authorities have been under sustained attack from anti-state ideological forces dedicated to reducing government, as the aggressive US anti-tax lobbyist Grover Norquist put it, to ‘the size where I can drag it into the bathroom and drown it in the bathtub’.

States afflicted by the pandemic are running huge deficits and will need to raise large sums, especially from those multinationals and rich individuals most able to afford it. Tax inspectors pay for themselves, many times over.

For instance, a study of mining taxation in Africa found that Tanzania’s revenue authority had created an international tax unit with ten staff which, at a staff cost of about $130,000 a year, had raised about $110 million since 2012.^⁠ In the United Kingdom, the Public and Commercial Services Union has estimated that each tax inspector dedicated to compliance brings in some £650,000 a year net of staff costs, while a ‘special investigations unit’ tackling complex tax cases has yielded 450 times its cost.^⁠

Overall, firm proposals are afoot and there is a nascent political will to redesign the broken international tax architecture. Now is the time to ensure this momentum is channelled in the right direction.

This is part of a series on Corporate Taxation in a Globalised Era supported by the Hans Böckler Stiftung