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1 1 (July 20, 2023)

handle is hein.crs/govemgn0001 and id is 1 raw text is: Con gressional Research Maama i nforming the lsaive debat sino Updated July 20, 2023 International Tax Proposals Addressing Profit Shifting: Pillars 1 and 2 On June 5, 2021, finance ministers of the Group of 7 (G7) countries, including the United States, agreed in a communique to two proposals addressing global profit shifting. They agreed to Pillar 1, allocating rights of taxation of residual profits to market countries for certain digital services for large profitable multinationals while eliminating digital services taxes. They also agreed to Pillar 2, imposing a global minimum tax of at least 15%. These proposals were developed in Organisation for Economic Co-operation and Development (OECD)/Group of 20 (G20) blueprints for addressing profit shifting and base erosion, which involved participation by 139 countries. The OECD has provided extensive guidance on the proposals. Implementation of the proposals would require changes in domestic law. Pillar I The standard international agreements historically have allocated the first right of taxation of profits to the country where the asset is located. This location may be where the asset is created (e.g., from investment in buildings, equipment, or research) or where the rights to the asset have been purchased, which may happen easily with intangible assets, such as drug formulas or search algorithms. Many U.S. multinationals have sold the rights to intangible assets to affiliates in other countries to serve the foreign market. This system allocates profits between related parties on the basis of arm's-length prices (i.e., the price upon which a willing buyer and a willing unrelated seller would agree to transact), although true arms-length prices often are difficult to determine. With the advent of companies providing digital services that are often free services to consumers (such as search engines, online market places, and sites for social networking), an argument has been made that the country where the users reside should have a right to tax some of the profits of these companies because the users create value. Advocates also argue that these companies escape taxes on some of their profits by locating assets in tax havens. Several countries have imposed digital services taxes, although generally in the form of excise taxes (such as taxes on advertising revenues, digital sales of goods and services, or sales of data), while proposed changes in the taxation of profits are being discussed. The United Kingdom (UK) enacted a diverted profits tax with a similar objective. The United States had decided to impose tariffs against seven countries that imposed digital excise taxes- France, Austria, India, Italy, Spain, Turkey, and the UK. These tariffs were suspended while Pillar 1 was under consideration. Pillar 1 would allocate some rights to market countries to tax profits of digitalized firms (and countries would eliminate their digital services taxes). The Pillar 1 blueprint would allow market countries a share of 25% of the residual profits (defined as profits after a 10% margin for marketing and distribution services) of large multinational companies. It would apply to companies with global revenue turnover of more than $20 billion and apply to market countries that provide at least $1 million in revenue. As noted earlier, this agreement does not have the force of law. The proposal would allocate the residual share based on revenues (such as sales of advertising) and the location of the user or viewer for an array of digital services and split the residual share 50:50 between the location of the purchaser and seller for online markets. The OECD/G20 blueprint provides a positive list of the businesses covered: sale or other alienation of user data; online search engines; social media platforms; online intermediation platforms; digital content services; online gaming; standardized online teaching services; and cloud computing services, as well as online market places. This agreement is a departure from the traditional allocation of the first right of taxation to the owner of the asset, which is consistent with the economic concept of profits as a return to the investor and not to the consumer. Although the Pillar 1 proposal does not conform to the traditional framework, it could serve the purpose-if agreement is reached-of heading off unilateral action, as has developed with the digital services taxes. From the viewpoint of the United States, which has large multinational digital firms (e.g., Google and Facebook), the arrangement could be costly. The excise taxes that would be eliminated are borne largely by the customers; that is, an advertising tax decreases the net price from sales and would lead to higher prices to advertisers, which would in turn be reflected in higher product prices to customers who are largely in the country imposing the excise tax. Were countries unilaterally to impose taxes that are tied to profits without an agreement, under proposed regulations, U.S. multinationals would not receive a U.S. foreign tax credit, and the burden would fall largely on the profits of these firms. With a multinational agreement such as in Pillar 1, the U.S. foreign tax credit presumably would be allowed for these taxes (unless Congress intervenes), which would reduce revenues for the U.S. government, and the burden would fall on U.S. persons in general. U.S. companies may prefer this substitution of Pillar 1 for the digital services taxes, as they likely would not see a tax effect (since the taxes collected by the market countries

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