Paul L. Caron

Friday, November 22, 2019

Weekly SSRN Tax Article Review And Roundup: Kleiman Reviews Morse's GILTI: The Co-Operative Potential Of A Unilateral Minimum Tax

This week, Ariel Jurow Kleiman (San Diego) reviews a new work by Susan Morse (Texas), GILTI: The Co-operative Potential of a Unilateral Minimum Tax, 2019 Brit. Tax Rev. 512.

StevensonCooperative is not a term often applied to the Tax Cuts and Jobs Act (TCJA).  And yet, as Susan Morse explains in her recent article on “global intangible low-taxed income” (GILTI), the Act does have some cooperative potential.  This potential arises from the new immediate tax on GILTI income—a subset of foreign income—earned by U.S.-parented multi-national corporations (MNCs).  The presence of a mandatory tax removes incentives for countries to race to the bottom with ever-lowering tax rates, to the extent that they do so to attract U.S. MNCs.  Moreover, by providing a foreign tax credit for 80% of foreign taxes paid, the law gives the “right of first refusal” to foreign jurisdictions.  In a sense, the GILTI regime carves out a protected space for foreign countries to tax U.S.-parented MNCs, effectively creating a global tax floor of 13.125% (increasing to 16.4% in 2025).

Morse, in this highly elucidating article, argues in favor of a cooperative global tax system and offers guidance to policymakers as they iron out GILTI’s wrinkles.  As she explains, without inter-nation coordination foreign countries can undermine domestic tax authority by luring corporations to their jurisdiction with lower tax rates. By ensuring a minimum level of tax on corporate income, a coordinated global tax regime would thus serve as a backstop to domestic corporate income tax systems and perhaps also enable formulary apportionment of tax revenue in favor of developing nations.  

Morse explains that a coordinated global tax regime requires alignment of rate, base, and timing rules.  Without such rule alignment, taxpayers can manipulate income and expense reporting to reduce tax burdens across jurisdictions.  Morse addresses each of these three features in turn, as well as opportunities for cooperative rule-making and for taxpayer gaming in the absence of such coordination.

Regarding rate, where before taxpayers sought tax rates near zero, now they are indifferent as to tax rates at or below 13.125%, or 21% for Subpart F income. (Regarding different rates, the article provides an extremely useful table of various tax rates created by the new law.)  Foreign governments may adjust statutory rates up or down to reflect these new incentives.  Or, perhaps more likely, they may tolerate a certain amount of tax planning by corporations seeking an effective rate at or below the tax floor.  Although this will invite some tax competition, the pressure caused by such competition is more limited than before TCJA, when MNCs sought rates close to zero.

Timing is the next feature of the GILTI regime that could support global tax cooperation.  Timing refers to the fact that GILTI is taxed immediately, which protects foreign jurisdictions’ ability to tax the income domestically without fear of driving away inbound investment.  On gaming, Morse predicts that this significant increase in foreign income subject to immediate U.S. taxation may drive taxpayers to defer payment of foreign taxes.  That is, taxpayers may accrue taxes now for foreign tax credit purposes, but in reality, pay taxes later.  In doing so, they will reduce current U.S. taxes before actually paying foreign taxes, leveraging the time value of money.  Indeed, Morse explains that taxpayers are actively pushing for regulations to allow such advantageous tax reporting, for example, where U.S. and foreign governments’ tax years end on different dates.  Morse does not advocate such an approach, noting that global cooperation requires improved alignment of tax rules, rather than allowing taxpayers to arbitrage existing differences. 

Lastly, better aligned tax base rules would improve coordination.  Mismatches currently arise where the tax base for calculating foreign tax paid is different from that used to calculate the maximum foreign tax credit allowed.  Morse notes, interestingly, that the conference report to TCJA turned a blind eye to such divergence in tax bases.  In this silence, treasury regulations are left to fill in the gap.  To achieve tax-base conformity Treasury would need to align U.S. and foreign tax base rules.  Such alignment may mean relinquishing U.S. tax revenue—for example, by allowing interest expense to be allocated to the corporation obligated to pay it, rather than throughout a corporate family based on economic realities. The hope is that the gains from improved global coordination would outweigh the resultant cost to the fisc. (It’s worth noting that the current proposed regulations on allocation of interest to GILTI reach a half-way compromise between traditional U.S. allocation rules and common foreign allocation rules.)

This discussion rests on the assumption that U.S.-parented MNCs will remain powerful enough to drive foreign jurisdictions’ tax policies.  Perhaps they will.  As Morse explains, U.S. companies are unlikely to expatriate, in part because it is costly for corporations to truly change homes, and also because anti-inversion rules and the new BEAT rules reduce the tax gains to getting new corporate digs.  Of course, the continued existence of strong U.S. companies does not necessarily ensure enough global power to drive coordinated tax policy.  Yet, concerns about corporate expatriation have dominated international tax policy design from the beginning.  All the while, the United States remains a popular business home for many reasons, and is likely to remain one for the foreseeable future.

Global tax cooperation is an eminently worthwhile goal, for the reasons Morse highlights.  However, its payoffs are diffuse and somewhat distant, which may be no match for the immediate concerns of the lobbyists and policymakers who drive U.S. tax policy.  Corporate taxpayers benefit from the arbitrage opportunities created by tax systems’ divergence.  U.S. policymakers are sensitive to these business interests, and also may seek to protect U.S. tax revenue before supporting inter-nation cooperation.  It is too early to tell whether GILTI was a cooperative blip on an otherwise “U.S.-First” trajectory, or a recognition of the growing need to cooperate in a shrinking world.  In either case, as Morse’s analysis makes clear, a steadfast commitment to cooperation will be necessary if we hope to realize a globally coordinated tax system.

Here’s the rest of this week’s SSRN Tax Roundup:

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