Governments globally are cutting – or promising to cut – company tax rates, but what does this mean for advanced economies?
In the past 15 years an international race to attract investors has helped push the average company tax rate among rich countries sharply lower. It appears set to go down even further as the competition intensifies.
US President Donald Trump wants to slash the United States’ nominal corporate income tax rate from 35 per cent – one of the highest in the Organisation for Economic Co-Operation and Development (OECD) – to 15 per cent.
The UK reduced its corporate profits tax rate to 19 per cent from 20 per cent for the 2018-19 tax year, and will lower it to 17 per cent in 2020.
The Hong Kong Government has announced that 75 per cent of its 16.5 per cent profits tax will be waived up to a ceiling of HK$20,000, and the Australian Government has secured support for a phased reduction in its company tax rate from 30 to 27.5 per cent for businesses with a turnover of up to A$50 million. It eventually wants an across-the-board rate of 25 per cent.
Is it the end of the zero-tax jurisdiction?
This dash to slash is coming against the backdrop of efforts to stamp out the practice of many multinational companies to shift their profits to zero-tax havens such as Bermuda and the Cayman Islands, depriving source and host countries of an estimated US$240 billion in revenue globally.
According to Pascal Saint-Amans, who has spearheaded the BEPS (base erosion and profit shifting) Project as director of the OECD’s Centre for Tax Policy and Administration, the days of zero-tax jurisdictions are just about over.
“The consequence of the BEPS Project, if it works – and we think it is likely to work – will re-align the location of the profits with the location of the activity and therefore kill the zero-tax jurisdictions. I think the schemes where you have all the profits in Bermuda are over,” he says.
Will tax cuts reduce tax competition?
Saint-Amans’ confidence appears well-founded. So far, 109 countries have signed up to BEPS, including the G20 member nations and even notorious tax havens such as Bermuda and the Isle of Man.
Critics complain that this will undermine tax competition between countries, bringing the downward drift of recent decades to a halt.
Saint-Amans, however, argues that, far from reducing company tax competition between countries, eliminating zero-tax havens and bringing effective tax rates more into line with nominal rates will intensify competition.
As the gap between nominal and effective company tax rates narrows, companies seeking to reduce their tax bill will face much more straightforward choices.
“If you want to take advantage of the 12.5 per cent rate in Ireland you need to move people there,” says Saint-Amans
“It means that countries are likely to try to be more attractive to the real activities by reducing their rates, and that is something that we can see with this UK move and some others.”
The actions of the Australian and Hong Kong governments seem to bear this out. Both Australian Treasurer Scott Morrison and his Hong Kong counterpart, Paul Chan Mo-po, have argued that their company tax cuts are vital if their economies are to remain competitive in attracting investment.
Their hope is that by cutting corporate taxes, investors will spend more on productivity-enhancing technology, machinery and skills, improving jobs and eventually boosting wages, consumption and economic activity.
Buy now, pay later
Even if cutting corporate taxes helps to attract investment and boost growth and wages, the political calculation confronting governments is far from straightforward.
For one thing, as Jim Minifie, productivity growth program director at the Grattan Institute think tank points out, the bigger the gap between the company tax rate and personal income taxes, the greater the incentive for individuals to “move costs or assets or personal consumption into a company environment. You don’t want to set the company tax too low.”
More significantly, uncertainty abounds as to how beneficial cutting corporate taxes is, and how quickly any gains will be realised.
In its analysis of the Government’s original proposal for a cut in the company tax rate from 30 to 25 per cent, Australia’s Treasury predicted it would deliver a sizeable boost to the economy “via permanently higher after tax wages and consumption”.
It estimated the cut would result in a permanent 0.6 to 0.8 percentage point lift in real gross national income, underpinned by an increase in investment of almost 3 per cent, a 0.4 per cent boost to employment and a 1.2 per cent rise in before-tax wages.
Of course, as it turned out, the tax changes agreed to by Australia’s Parliament on March 31 fell well short of the across-the-board cut to 25 per cent originally sought by the Government. The value of the approved cut has been put at A$24 billion over 10 years, less than half that of the original package.
The Government, which last year was keen to publicise the potential size and benefits of its initial tax cut plan, has been notably reluctant to share such estimates for its heavily revised package.
Who wins from tax cuts?
In any case, Melbourne University economist Professor John Freebairn cautions that although a cut in the corporate tax rate will benefit an economy, any estimate of the eventual payoff is surrounded by uncertainty.
Despite this uncertainty, Minifie thinks company tax cuts are worthwhile, estimating that the Government’s eventual goal of an across-the-board reduction to 25 per cent could deliver a 15 per cent rate of return over 10 years.
Still, at a time of constrained budgets and stagnant wages, the idea that countries should bestow a hefty tax break on investors, many of them foreigners, in return for uncertain and delayed gains, can be very difficult to sell.
Saint-Amans, for one, does not expect corporate tax rates for the big economies to dip below 20 per cent. Ireland’s 12.5 per cent could well be the bottom of the tax cut pile.
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