Global minimum tax: a once-in-a generation opportunity

When world leaders and policy-makers gathered at key multilateral forums this autumn — including the UN General Assembly, and the International Monetary Fund and World Bank annual meetings — concern about the outlook for financing ranked high across agendas. And for good reasons.

Sizeable financing gaps persist on nearly all fronts, from financing the Covid-19 pandemic recovery to climate mitigation and adaptation to the Sustainable Development Goals. An already strained financing environment is further stressed by a brewing perfect fiscal storm, characterised by looming sovereign debt crises, growing budget deficits, and rising interest rates and cost of capital. The challenges of financing for public goods to build back better and sustainable development have never been greater, which makes it even more surprising that there has been little discussion on the potential benefit of the global minimum tax (GMT).

Already endorsed

With negotiations steered by the Organisation for Economic Co-operation and Development (OECD) last year, the GMT was endorsed by 136 countries and jurisdictions. The two-pillar agreement establishes new taxing rights over the most profitable multinational enterprises (MNEs) and reallocates a subset of taxable profits to ‘end-market’ jurisdictions irrespective of their physical presence; and a global minimum corporate tax rate of 15% for large MNEs generating more than €750m in annual revenues.

The GMT aims to ensure that multinationals pay a fair share of taxes where they operate and generate revenue, curbing MNE profit shifting and tax avoidance. Leaving aside the specifics, the GMT is long overdue and is arguably the most significant and impactful global initiative in decades. The OECD estimates the GMT could generate around $150bn in additional tax revenues globally.

The potential of the GMT could be even greater if it is improved along two important dimensions. The first area for improvement is to maximise the revenues. The minimum tax rate of 15% is on the bottom-end of the spectrum (the global average corporate tax rate is 24%), fuelling fears that this new baseline may incentivise many governments to lower their corporate tax rates to converge around the minimum. In addition, the minimum revenue threshold of €750m is judged to be too narrow to include many large taxpayers in low- and middle-income countries (LMICs). The share of taxable profits — only 25% of the additional profit that an MNE generates (after it keeps 10% for itself) is available for reallocation to end-market jurisdictions — could be increased to help generate more revenues.

The second area for improvement is equitable global redistribution of the additional revenues. There are significant concerns that, in its current form, the GMT disproportionally favours high-income countries, with 60% of the estimated of $150bn in new tax revenue accruing to G7 countries compared with only 3% for low-income countries. Part of the GMT agreement requires forgoing new and future digital service taxes. This stipulation further undermines tax revenues in LMICs as there is no guarantee that these losses in revenue will be compensated through the GMT’s other provisions. Also, the mandatory binding arbitration of tax disputes set forth in the agreement disadvantages LMICs who often lack the capacity and financial resource to engage on equal footing in costly private sector arbitration.

Design flaws

All told, in its current form, the GMT agreement appears to be a suboptimal deal for LMICs with uncertain and possibly harmful revenue outcomes. If designed well, the GMT could help recuperate 5–8% of gross domestic product in lost annual revenue for LMICs, such as Guyana, Chad, Guinea, Zambia and Pakistan, and allow them to make great strides on domestic resource mobilisation (DRM). DRM is by and large considered to be the long-term path for sustainable development financing and a necessary step to reduce aid dependency for many of these countries.

There have been international initiatives to boost DRM by expanding domestic tax capacity and revenues, most notably the Addis Tax Initiative (ATI) — a multi-stakeholder partnership to improve tax systems and boost DRM in LMICs. The ATI, however, has yet to produce transformative results and tax capacities and revenues underperform in sub-Saharan Africa and other low-income countries more broadly.

Despite the design of the GMT agreement favouring advanced nations, leading proponents of the GMT agreement (the US and EU) are struggling to move forward with implementation by the OECD-imposed timeline of mid-2023, and there are non-trivial risks that the agreement could stall. Regardless of the final outcome, the global community should sustain the momentum to enact an agreement that maximises global tax revenues from MNEs and ensures a more equitable distribution of the additional revenues. Addressing this issue will go a long way to address fiscal challenges and mobilise much needed resources to finance public goods and development agendas.

Brahima Coulibaly is vice-president and director of global economy and development, and Wafa Abedin is research assistant to the vice-president and director of global economy and development, at the Brookings Institution.