Taxing somewhere, no matter where: what is the GLoBE proposal really about

By Dr. Leopoldo Parada, University of Leeds School of Law

In January 2019, the OECD introduced into the international tax debate the global anti-base erosion proposal, also known as “GloBE”.

This proposal, which originated from a global effort to tackle the tax issues arising from the digitalisation of the economy, has become part of a broader international debate seeking to reform our international tax system through the establishment of a minimum global level of effective corporate income taxation.

The rationale of GloBE appears to be inspired by three main tax policy aims: combating profit shifting, reducing tax competition, and preventing the proliferation of uncoordinated anti-avoidance measures.

However, in a recent paper presented at the 111th Annual Meeting of the Society of Legal Scholars, organized this year by the University of Exeter in the United Kingdom on 1-4 September 2020 and titled “The Tax Policy Rationale of GloBE”, I argue that GloBE appears to be all about single taxation.

This policy –– single taxation–– does not only prove to be inconsistent in itself but also risks turning the whole OECD project into the absurd idea of “taxing somewhere, no matter where”, or, similarly, “taxing just for the sake of taxing”.

Furthermore, I put forward the idea that some –if not all– of the GLoBE’s explicitly recognised policies could be perfectly achieved through slight modifications to the existing international tax rules, avoiding the addition of new layers of complexity to an already complex international tax system.

 The GloBE rules and single taxation

Single taxation has captivated both policy-makers and academics for decades for good reason. After all, the idea is theoretically simple: if income resulting from cross-border transactions is taxed once ––but no more and not less than once–– both double taxation and double non-taxation (or what some commentators have also denominated “full taxation”) would ultimately be prevented. The GloBE rules follow that pattern, too.

If we recall the OECD project, the GloBE proposal implies the worldwide introduction of two domestic rules (an income inclusion and an undertaxed payment rule), and two tax treaty provisions that would complement these domestic rules.

While the income inclusion rule allows countries to tax income from branches or controlled entities abroad to the extent that income is not subject to a minimum effective corporate income taxation in the source country, the undertaxed payment rule denies a deduction or grant source-based taxation (including withholding taxes) for payments made to related parties to the extent that those payments were again not subject to a minimum corporate income tax in the other state.

Therefore, both rules endorse the idea of giving countries the possibility of taxing what has not been taxed somewhere else, ensuring that income does not remain untaxed, or at least insufficiently taxed.

‘Taxing less than once’: BEPS and after BEPS

The OECD base erosion and profit shifting (BEPS) project explicitly endorsed the idea of single taxation, particularly the avoidance of situations in which income is taxed less than once (or ‘double non-tax’).

However, that endorsement was not absolute. Indeed, as stated in the 2013 OECD BEPS report: “[n]o or low taxation is not per se a cause of concern, but it becomes so when it is associated with practices that artificially segregate taxable income from the activities that generate it”.

Therefore, taxing less than once was a ‘BEPS concern’ but only to the extent that this was the result of abusive practices.

The GloBE proposal evidently deviates from the BEPS mandate, considering no or low taxation problematic even when it is not achieved through fraudulent or illegal taxpayer conduct or through objectionable but legal conduct.

Such a switch in priorities ––from avoiding double taxation to preventing double non-taxation–– raises concerns, especially because it opens the door to interpret that whatever practice that results in taxing less than once (or “not sufficiently”) might be considered a priori as abusive. That is, taxing less than once might become now in a sort of proxy of abuse.

The foregoing can be even more problematic if one accepts that BEPS may not only be about ensuring single taxation in its classical understanding but about ensuring “full taxation” or the idea that all of a company’s income should be taxed in places where it has real business activities.

As I have argued here, this concept of “full taxation” is certainly more overinclusive than the simple idea of taxing less than once (i.e. the classic prevention of double non-taxation), and embodies also the prevention of profit shifting, tax avoidance, tax evasion, tax loopholes, and even the still unclear notion of “aggressive tax planning”.

As the reader can foresee already, not achieving full taxation might cause one to conclude, for example, that a certain transaction may also be a priori “aggressive”, whatever “aggressive” means.

GloBE and the risks of ‘taxing somewhere, no matter where’

The coordinated GloBE rules do not only go beyond the BEPS mandate but more importantly, they reinforce the idea of ‘taxing somewhere, no matter where’, even though strictly speaking, the question of ‘where’ still matters.

Indeed, while the income inclusion rule grants the residence state ––without specifying which residence state yet–– the final right to tax, the undertaxed payment rule opts for granting the source state the first bite, either by denying a deduction or by applying a withholding tax at source.

In the end, both rules simply disregard where taxation should finally be applied, reinforcing the unprincipled approach of just taxing somewhere.

This approach, which is not new (see, e.g. BEPS Action 2 –– “anti-hybrid rules” or “linking rules”), appears to be risky because it turns the global trend into imposing taxation just for the sake of taxation, releasing countries from the unwritten duty to provide valid reasons for taxing.

Ultimately, such an approach may close the door to any potential international agreement regarding an efficient global allocation of taxing rights, giving rise to tax chaos in which the question of ‘where’ to tax will simply be answered ‘everywhere’, simply reinforcing a very instrumentalist view of the international tax rules.

Some may intuitively counterargue that “we first collect and then distribute”.

That makes sense, economically speaking. However, this intuition is not precise. Indeed, even though no one can avoid recognizing that there is a link between collection and distribution, no one can ensure the prevalence of the former over the latter.

On the contrary, avoiding non-taxation altogether (or taxing all company’s income somewhere), becomes just a discussion about generating revenues, which ends up being an empty box without any notions as regards to where to tax that income.

Moreover, if the supreme principle behind all these provisions governing cross-border transactions will be a sort of ‘we need to tax, no matter where or how’, it is evident that countries will find it easier to impose new types of taxes, some of them arguably legal, or even efficient, increasing the international tax chaos (see, e.g., the proliferation of digital services taxes in Europe).

Can we achieve a ‘GloBE approach’ but without GloBE?

The need and the purpose of the GloBE proposal are both highly arguable from a tax policy perspective, although politically convenient from a strategic point of view.

However, the foregoing does not prevent achieving (and perhaps also recognizing) a ‘GloBE approach’, although without the need to introduce any of the current proposed OECD rules.

Yet, such an approach can only be achieved if we agree on some core ideas:

1. Single taxation is not a distributive rule. That is, it will not solve the core of the equation as regards ‘where’ and ‘who’ should finally tax. It is therefore inappropriate to focus the discussion on whether taxation is too high or too low when we have no clarity on how the new revenues (GloBE aims at raising global revenues, certainly) will be finally distributed. The risk of a policy of “taxing somewhere, no matter where” has been already exposed here, and it brings us back to double taxation, curiously the frontside of the single taxation coin.
2. The international tax scenario has certainly changed after BEPS. Countries around the world have introduced some of the BEPS recommendations, including, for example, anti-hybrid rules, interest limitations, and strengthened CFC rules. Moreover, in the hypothetical that the OECD Pillar 1 succeeds, there is almost nothing left. Thus, the need for GloBE in the form of coordinated global linking rules is merely arguable.
3. From a normative perspective, simplicity, coherence, and administrability should be the policy aims governing a global reform of this scale. The current GloBE proposal cannot be farther away from these goals. Indeed, introducing global linking rules requires not only a high level of coordination and reliance upon foreign laws but will also increase complexity, affecting especially tax administrations and taxpayers in small developing countries.
4. Avoiding MNE’s artificial shifting of profit is a valid driving force which can be achieved, for example, with slight modifications to the CFC rules (and income inclusion is not ineffective to counteract profit shifting) without the need for a counterpart coordinated rule. Let’s just make sure that this rule (income inclusion) targets abusive structures.

The full draft of my paper “The Tax Policy Rationale of GloBE” will be available soon at SSRN. It will also be presented in the 29^th Tax Research Network Annual Meeting, in Cambridge, on 7-9 September 2020.