Tax professionals say the latest version of the US corporate tax rate is inconsistent with the global rules under the OECD’s pillar two framework and may threaten its stability.
The latest 15% corporate alternative minimum tax (CAMT) in the Senate-backed Inflation Reduction Act of 2022 could pass the House by the end of the week and stands a chance of becoming law by the end of August.
While the global minimum tax under pillar two is also set at 15%, there are several discrepancies with the CAMT that could introduce uncertainties in the international tax environment and distort business decisions as the cost of corporate investment increases.
One direct tax manager at a technology company in scope of both minimum tax rules says he is still modelling the outcomes under the proposals, but the results seem to differ.
“While both taxes are aimed at large companies, use financial accounting rules for the tax base, and apply a 15% rate, that is where the similarities end.
“If the modelling exercise shows our tax liabilities increase, then we have less money to invest in boosting productivity, and that trickles down to fewer benefits for employees,” he adds.
Some of the differences between the proposals come from adjustments to financial accounting income, which is mainly reported to investors in quarterly and annual financial reports. These income figures are different from the tax accounting numbers usually given to the Internal Revenue Service and other tax administrations to scrutinise a company’s margins.
“Some future policy decisions will fall to accounting boards as the CAMT follows accounting profits,” adds the manager.
If accounting boards insist that the CAMT uses pure financial accounting income, the levy would cut all credits and deductions that can lower taxes below the OECD’s 15% minimum rate. Such tax treatments could become clear in 2023, which is also when companies are planning to invest in R&D and factories to overcome global supply chain issues.
Daniel Bunn, executive vice president at think tank Tax Foundation in Washington DC, also says there are important differences between the two minimum taxes.
“The policies are not even close, and in some cases take opposite approaches. The Inflation Reduction Act is kind to tax credits and stingy toward write-offs for capital investments, while the global minimum tax is stingy toward credits but kind to write-offs for investments.”
The mismatches between the proposals could lead companies to face the worst side of both taxes, which could mean double taxation risks and fewer investment opportunities.
CAMT falls short
The CAMT is technically a 15% tax on corporate profits in consolidated accounts, but it differs from the OECD global framework, which requires taxation on a country-by-country basis. Advisers say that the devil is in the details, and it is unclear whether the OECD will accept the CAMT as a qualified minimum tax under pillar two in the near term.
The CAMT targets the accounting income of certain large corporations with at least $1 billion adjusted pre-tax income on their consolidated financial statements for tax years after December 31 2022. This is not consistent with the OECD’s model rules, which target companies with revenues over €750 million ($762.9 million).
The Congressional Research Service and the Joint Committee of Taxation in the US released a report on August 3 that showed only 150 taxpayers would be subject to the CAMT. The report also highlighted that the tax would raise an additional $313 billion in revenue over 10 years, and at least half of it would come from manufacturing companies.
Advisers say companies in scope of the tax are liable to pay a top-up whenever accounting income exceeds taxable income in a year. This situation usually arises from significant changes to how taxpayers prepare financial accounting reports for shareholders.
“CAMT only applies to the largest US multinationals, such as Amazon and Nike, and is not applied on a country-by-country basis,” says Maury Passman, managing director at KPMG in Washington DC, who also argues the US minimum tax may even undermine the OECD’s version.
While the CAMT puts a national tax floor on US companies, existing global intangible low-taxed income (GILTI) rules already form a minimum tax on earnings of foreign subsidiaries of multinational companies.
Some advisers suggest that amendments to the GILTI rate alongside the CAMT could qualify for the pillar two regime. However, the GILTI rate is only 10.5% and the regime’s rules allow for rate blending, which allows foreign low-tax income from havens and high-tax income from other countries to be averaged for favourable tax treatment.
As a result, GILTI is not OECD-compliant, and no changes have been proposed in the Inflation Reduction Act to rectify this.
What’s more, there is little chance of GILTI changes later this year owing to bipartisan political hurdles. The Republicans are favoured to win in the midterm elections in October and they do not support the incoming minimum tax changes at all.
“The US CAMT is not compliant [either], not even close,” says Jose Endara, senior tax director at multinational conglomerate Honeywell in Arizona.
“If the US will not change its GILTI this year, then that means there is no pillar two implementation, unless you argue that CAMT is an income inclusion rule,” he says.
“Many US companies want the OECD to recognise the GILTI regime as a different form of the same set of rules,” he adds.
Difference and deviation
The OECD’s global minimum tax rules under pillar two have three main components instead of the CAMT’s two. The first is a qualified domestic minimum top-up tax, the second is the income inclusion rule that targets foreign profits in subsidiaries, and the third is the undertaxed profits rule (UTPR) that applies to the income of foreign entities that are not subject to the prior two rules.
The exemptions under the CAMT and OECD proposals are different too. The latest draft of the Inflation Reduction Act includes a carve-out measure for subsidiaries of private equity firms, but the OECD’s proposal has one for financial services.
The OECD backstop — the UTPR — will be unworkable if enough lawmakers decide to withdraw from the OECD’s two-pillar approach. Pillar two’s rules were designed to only work if at least half of the 137 countries in the agreement enacted them, which would directly pressure the remaining jurisdictions to adopt them too.
The US has the most multinational companies in scope of pillar two and it has a lot of influence in how other countries adopt the rules.
There is a risk that some countries that signed up for the OECD two-pillar solution will either deviate from the model rules or delay the implementation process past its deadline of the end of 2023.
Some countries are already starting to dilute the OECD’s model rules with national conditions. The UK has issued a partial set of draft changes – but the 116 pages do not yet include the UTPR backstop. Several lawmakers are introducing pillar two measures in phases to monitor how the US and other important jurisdictions are enacting the rules.
Members of European Parliament are also advocating for extra measures that build on top of the model rules. As a result, the European Commission is advancing its debt-equity bias reduction allowance (DEBRA) to expand financing options for investments and enhance the minimum tax framework.
Meanwhile, Canada and India still have backup measures in their local tax laws that are only suspended to provide enough time for pillar two to start by the OECD’s deadline in December 2023.
“Let other countries proceed, but as for Canada, it is high time the government put job creation and economic growth ahead of political gesturing,” says one head of tax at a telecommunications company in Ontario.
“I think more than a few colleagues are hoping to see Canada withdraw from the initiative since it will have disproportionate effects on specific industries and unintentionally penalise investment,” he adds.
Other tax heads have shared similar views on recalling the agreement, or at least showed interest in seeing pillar two simplified even more.
The inconsistencies between the CAMT and pillar two could be the final straw in influencing other countries to delay finalising the framework by 2023, a deadline that now very much seems in doubt.
