David Morse \ June 2021 \ MarketWatch
Every year, dozens of large multinational corporations generate enormous profits in America’s lucrative consumer market. But thanks to clever profit shifting, they’re able to avoid paying much of their U.S. corporate-tax obligations. In fact, a study by the Coalition for a Prosperous America (CPA) found that America’s 500 largest public companies avoided paying roughly $97.8 billion in taxes to the U.S. Treasury in 2019.
In response, the Organization for Economic Cooperation and Development (OECD) is negotiating an agreement that calls for a global 15% minimum corporate tax. In tandem with that, the OECD is also calling for a “Pillar 1” tax reallocation that would require the world’s top 100 corporations to finally pay taxes in the countries where they actually sell products.
Taxed where they sell
Essentially, the OECD is embracing a “sales factor apportionment” (SFA) system. This means a company must pay a set tax rate on its profits—and would no longer be able to shift any of that profit to a tax-haven nation. Pillar 1 may not be perfect, but it’s the first approach in a long time that could actually help to put America’s domestic companies on a more competitive footing.
It’s good that Pillar 1 recognizes the failures of the current international tax system. And it responds by establishing a new tax approach based specifically on a company’s sales—and profits—that would finally negate the effectiveness of tax havens.
Unfortunately, the most recent version of the Pillar 1 proposal contains some unhelpful limits on its application to foreign and U.S. multinational corporations. Specifically, the OECD is suggesting that Pillar 1 be imposed only on multinationals that generate annual revenues in excess of 20 billion euros—the equivalent of U.S. $23 billion.
This is unfortunate, since plenty of companies that have outsourced production to China are earning massive profits—even if they generate less than 20 billion euros annually. In response, Georgia Republican Rep. Drew Ferguson questioned Treasury Secretary Janet Yellen at a recent House Ways and Means Committee hearing. Ferguson wanted to know how American multinational companies would be affected by Pillar 1 compared with their Chinese counterparts.
Ferguson’s point is well taken. Congress should be concerned by any lack of reciprocity between U.S. taxation of foreign companies and other countries’ taxation of America’s corporations. However, Congress should be even more concerned that multinational corporations have already been using tax havens for years—and paying a far lower effective tax rate than many hardworking domestic companies.
When the Coalition for a Prosperous America studied corporate profit shifting, it found that multinational corporations pay only an 8.7% effective corporate tax rate. That’s far lower than many domestic companies.
Such a huge disparity in effective tax rates has proven to be a serious disadvantage for the domestic companies that actually locate factories and employment in the U.S. That’s why a “sales factor” system—like the one being negotiated by the OECD—would mark such a turning point. It could finally place U.S. firms on a more even footing with their massive multinational rivals.
Unfortunately, the current Pillar 1 proposal is still too generous with multinational profits. It gives too much leeway to the top 100 corporations, and says that only firms whose profits are 10% or more of annual sales would be subject to Pillar 1. And even then, such “residual profits” would be divided by five before facing America’s 21% corporate tax.
As Congress considers the OECD’s proposal, it should insist on a full, across-the-board application of “sales factor apportionment”—rather than an arbitrary top 100. Doing so could help to reduce or eliminate loopholes for foreign corporations, including those with similarly “low profitability” that compete quite successfully in the U.S. market.
Congress must give priority to the protection of domestic companies—the ones that actually hire and employ U.S. workers. As Washington considers Pillar 1, it should pursue a tax system that helps domestic companies rather than their multinational competitors.
The OECD’s Pillar 1 is not perfect, but it offers the first tangible move toward greater tax fairness for domestic U.S. companies that continually fight an uphill battle against global multinationals.