Congress Must Decide on Limited or Full Corporate Tax Avoidance Solution

In a tight Covid-19 economy, and with inflation on the rise, U.S. companies are trying to hold on to their share of the American consumer market. It’s a tough battle for them, though, because large multinational firms are continually shifting profits to overseas tax havens. Doing so gives these multinationals a sizable advantage over domestic manufacturers and producers. So as Congress looks for ways to level the playing field, it’s time to address this tax disparity.

It’s not just U.S. companies that are frustrated by the ability of large multinationals to game the system. Corporate tax avoidance has become a global issue. Last year, the OECD got the buy-in from more than 135 countries—including the United States—to establish a new approach.

Specifically, the OECD proposed two things. First, it offered Pillar Two, a minimum corporate tax rate of 15% for all participating nations. It also introduced a provision known as Pillar One that applies to any corporation whose profits exceed 10% of their revenue. Specifically, that corporation must pay taxes on 25% of its excess profit—and do so to the particular country where the users or consumers resulting in profit live. The Pillar One proposal is particularly interesting because it’s essentially a truncated version of something known as “sales factor apportionment”—an approach intended to address current flaws in the global tax system.

While the overall OECD deal faces an uphill battle for acceptance in Washington, it has at least a nugget of a smart approach. The United States is the largest consumer market in the world, and adopting something close to a sales factor apportionment solution would be optimal. Domestic corporations already pay close to the statutory U.S. corporate tax rate of 21%, while their multinational competitors pay far less. And so the OECD deal offers a partial solution to this problem.

Senate Finance Committee Minority Chair Mike Crapo, leading several Republicans, has raised significant concerns that this version of Pillar One wouldn’t do anything to increase actual revenue for the U.S. Treasury. He believes that the plan would unfairly focus the tax increases on U.S. multinational corporations. And he has a point, since Pillar One is additionally limited to companies that earn more than 20 billion euros in sales. In reality, these combined limits would indeed mostly target high-earning American firms.

Treasury Secretary Janet Yellen’s response to Crapo’s concerns emphasizes that the overall OECD deal would allow the U.S. to raise more corporate tax revenue, thanks to Pillar Two’s minimum 15% tax rate. She also believes that Pillar Two would be revenue-neutral for the Treasury. Yellen considers the benefit of Pillar One to be the elimination of foreign digital service taxes that target or will target American companies. The OECD deal would require other countries to get rid of these digital service taxes, which target U.S. tech companies and ignore other tax-avoiding multinationals.

Clearly, the OECD deal is a mixed bag. It should be improved—and should be crafted to better help smaller companies.

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The Coalition for a Prosperous America recently examined how much additional federal tax revenue the U.S. could generate by expanding Pillar One to cover all corporate profits for companies earning more than 20 billion euros in sales. The coalition’s study found that the U.S. would gain more revenue if the 25% tax allocation on profits were applied universally to all behemoth corporations, rather than being applied just to companies with extraordinary profits exceeding 10% of revenues.

The study suggested that instead of ignoring the first 10% of profits a company earns, the U.S. would tax 25% of all profits earned by multinational companies based on sales in the United States. The Treasury would see an increase of at least $100 billion in tax revenues per year. Essentially, more foreign companies would owe the U.S. taxes for sales in America’s consumer market because they would no longer remain under the threshold established in Pillar One—which currently allows them to skate free because they earned profits equal to less than 10% of revenue.

The OECD’s apportionment solution may reduce—but not eliminate—the tax advantage of multinational corporations. But if Congress can’t pass this limited compromise, lawmakers need to unilaterally pursue a more robust sales factor apportionment system of tax reform so domestic businesses can compete more fairly with multinationals. No one should want to side with the corporate tax avoiders over domestic companies in an election year.

This article does not necessarily reflect the opinion of The Bureau of National Affairs, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

David Morse is tax policy director at the Coalition for a Prosperous America Education Fund. Follow him on Twitter @CentristinIdaho.

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