Global minimum tax agreement will require substance-based carve-out, Saint-Amans says

By Doug Connolly, MNE Tax

To reach international agreement, a global minimum tax deal would need to exclude from minimum taxation income from substantive activities within a jurisdiction, according to Pascal Saint-Amans, Director of the OECD Centre for Tax Policy and Administration.

Speaking virtually at a May 5 event held by the Oxford University Centre for Business Taxation, Saint-Amans said, “At the global level, I think it’s not realistic to think that we could move ahead without some form of carve-out, which would recognize the activities, the substance.”

While there was a carve-out provision in the OECD’s “Pillar Two” blueprint for a global minimum tax released last year, no such provision was included in the recent US proposal that has reinvigorated international talks.

The blueprint’s substance-based carve-out generally aims to ensure that the minimum tax focuses on “excess income,” such as intangible-related income, that multinationals can relatively easily shift to low-tax jurisdictions to avoid taxes.

Existing OECD and US carve-out provisions

Generally, the Pillar Two blueprint’s substance-based carve-out would create an exclusion from the scope of the blueprint’s proposed “global anti-base erosion” (GloBE) rules, which would aim to ensure that multinational enterprises pay a minimum level of tax regardless of the jurisdictions in which they operate.

The global minimum tax on US corporations enacted as part of the 2017 tax reform – i.e., the global intangible low-taxed income (GILTI) provisions – similarly attempted to target these shiftable, intangible-related profits. The GILTI provisions aim to do so by exempting from the tax a percentage of foreign income based on the company’s foreign tangible assets, referred to as “qualified business asset investment” (QBAI).

The Biden proposal to update the US international tax rules would double the GILTI rate and eliminate the QBAI exclusion. The Biden Administration contends that the QBAI provision is problematic in that it incentivizes companies to invest more abroad to increase their exclusion from the GILTI minimum tax.

Current work on a carve-out proposal

Saint-Amans said that while the US global minimum tax proposal does not have a plan for a carve-out, the OECD continues to work on a carve-out as it will likely be necessary for international agreement. However, he said that countries are “moving away from the harmful tax practices logic – which is, you have substance, you’re fine.”

While light on specifics, Saint-Amans added that the OECD is working to develop objective criteria so that “you may have some form of carve-out to recognize that a number of countries want to incentivize research and development and that should be recognized without emptying the objective of Pillar Two.”

The OECD’s work on a carve-out was confirmed in a later panel by Achim Pross, Head of International Co-operation and Tax Administration Division with the OECD’s Centre for Tax Policy and Administration. Pross said that the work was “quite advanced on the technical question of how this can be done.”

Pross further explained that while the OECD is working on this issue, it is ultimately a political question. The OECD can put forward proposals, but it will come down to negotiations between countries that would like to keep such a carve-out versus those that would like to see it reduced or eliminated completely. That negotiation, he added, will also likely play into how other factors are worked out, such as the rate of the minimum tax.

Speaking in the same panel as Pross, Victoria Perry, Deputy Director with the IMF Fiscal Affairs Department, noted in general that the substance carve-out focuses the minimum tax proposal more on profit shifting as opposed to tax competition. Speaking to the effect of such provisions on lower-income countries, she explained there is some tension in the relative benefits. That is, while having no carve-out theoretically clears the way for more tax revenue, the existence of a carve-out leaves more room for investment incentives.