The global minimum tax (GMT) agreement signed by more than 136 countries late last year marks a sea change in the taxation of international businesses. And, contrary to headlines, it’s not just the big fish of the corporate world who need be concerned.
Although the deal ostensibly affects only larger companies, many business leaders don’t realize that the trickle-down impact is likely to be much broader and more costly than they assume. Any firm that thinks it’s small enough to avoid getting caught up in the mounting international push for deeper information reporting should think again.
This agreement is a culmination of years of efforts by governments to address loopholes and sophisticated tax planning strategies that allowed multinationals to shift profits to low-tax countries and led to intense tax competition between countries.
There are two sections, or “pillars,” to the agreement. The new 15% global minimum tax – part of the second pillar – would effectively end tax competition between countries. It applies to companies with global sales of over 750 million euros ($860 million).
The first pillar of the agreement is more radical and potentially damaging to international commerce, even though it only targets large multinationals with a turnover above 20 billion euros. It upends about a century of established international tax law by creating a taxable presence for companies based on where their customers are located.
This represents a bold political move by governments and one that is set to penalize the U.S. as the home to some of the world’s biggest and most successful tech companies.
While on paper the GMT only impacts large multinationals, the reality is it’s likely to signal a shift in rules around tax incidence that will trickle down to smaller companies, which lack the ample legal and accounting resources of the Apples and Googles of the world. This threatens to make operations significantly more complex and risky for smaller companies, creating a barrier to entry for international expansion that will require a certain amount of scale to overcome.
To be sure, the GMT is far from a done deal in the U.S. It’s likely to face significant opposition, particularly after the 2022 mid-term elections, that could jeopardize its passage in Congress. While President Biden has embraced pillar one reform, the Obama administration did not, signaling that opposition crosses party lines. Even if both pillars of the GMT agreement do win U.S. approval, it could take years for the under-resourced IRS to develop the data exchanges with other tax authorities needed to enforce the rules.
Still, the IRS will eventually get there. GMT reform of some kind is inevitable given the spread of the digital economy and citizens’ anger over large tech companies’ extreme tax-avoidance strategies.
The new international regime will make it more vital than ever for firms of all sizes to invest in good reporting and information systems to keep up with tax authorities’ ever-growing requirements. The GMT, coming on top of the recent FATCA initiative, gives governments another powerful tool to gain deeper and more timely access to companies’ records.
Yet more than half of tax department professionals already say they are under-resourced on technology and talent, with 53% of tax professionals describing their approach as either “chaotic” or “reactive.”
Companies with international plans will need to carefully calculate the implications of the GMT regime before committing to expansion. The additional tax burden and reporting requirements could nullify the economic rationale of an investment.
C-Suite leaders will also need to be wary of how their shared tax data could be used. In Europe, corporate data is often required to be made public, which could force companies to share data with labor unions or competitors. In countries where governments have close ties with industry, increased data sharing requirements raise the risk of confidential information or intellectual property being leaked to competitors.
While the implementation of GMT measures remains uncertain, it’s not too early to start putting in place the technology and practices needed to weather the growing international push for greater scrutiny and information sharing. C-suite leaders should recognize the importance of investing in tax talent and technology to mitigate the growing reputational and financial risks of deepening international scrutiny. The challenge for tax departments will be to find ways to gather, manage and use data in response to the growing reporting demands without adding to their existing sense of being overwhelmed.