Are IFCs Collateral Damage? The Global Minimum Tax And Its Impact

The same article claimed that from 2000 – 2018, US companies booked half of all foreign profits in just seven low tax jurisdictions - two in the Caribbean.

Seldom has a subject occupied so much space in the financial pages of the international media as the idea of a global minimum corporate tax rate. Equally seldom has a subject been so misinterpreted. Indeed, one wonders: might it be just wishful thinking? The excitement seemed to have reached near a crescendo on 7^th June 2021 when the G7 Finance Ministers issued a communique that read in part:

“We strongly support the efforts underway through the G20/OECD Inclusive Framework to address the tax challenges arising from globalization…and to adopt a global minimum tax. We commit to reaching an equitable solution on the allocation of taxing rights with market countries awarded taxing rights, on at least 20% of profits exceeding a 10% margin for the largest and most profitable multinational enterprises… We also commit to a global minimum tax of at least 15% on a country by country basis”.

Three weeks later in an historic agreement, 130 of the 139 members of the OECD Inclusive Framework, including the BVI, agreed to a new framework for international tax reform. According to the OECD, the statement agreed is “based on a two-pillar package. Pillar One aims to ensure a fairer distribution of profits and taxing rights among countries with respect to the largest MNEs, which are the winners of globalisation. Pillar Two seeks to put a floor on tax competition on corporate income tax through the introduction of a global minimum corporate tax that countries can use to protect their tax bases. Pillar Two does not eliminate tax competition, but it does set multilaterally agreed limitations on it”.

The debate surrounding the global minimum tax continues unabated.  I maintain, as I did following the G7 announcement, that the devil will continue to be in the details.  The reality though is that as this article is being written, in the wake of the Inclusive Framework Agreement, negotiations regarding technical details are ongoing between the relevant parties.  So whilst it is difficult to take a firm view at this time, my own current reading of the situation is that the global minimum tax is not specifically intended to target International Finance Centres (IFCs), but rather developed countries where Multinational Enterprises (MNEs) flourish. However, without continued vigilance and skillful negotiations, IFCs such as the BVI risk becoming collateral damage. Additionally, although IFCs have much in common, they may also differ significantly. Clearly then each jurisdiction could be impacted differently.

State Of Play

It is expected that the negotiations surrounding a global minimum tax will be completed by October this year when the G20 heads meet, with implementation desired by 2023. By October it is also expected that other members of the Inclusive Framework who refrained from signing the agreement would be able to do so.

Undoubtedly IFCs, including the BVI, will be impacted by the global minimum tax. But there are several indications that because of their business models, the impacts can be successfully managed, at least by most of them. Here are three reasons:

1. They do not have meaningful Double Taxation Treaties with other countries and therefore practice relatively little – if any – profit shifting.
2. Not all IFCs have large numbers of MNEs – in the case of the BVI, for example, there are few MNEs with a global turnover of €750 million per annum; and
3. IFCs, including the BVI, are diversified in their offerings and do not base their economic survival merely on tax planning.

The BVI Offering As An Example

Although this article considers the impact of the global minimum tax on IFCs, this section concentrates on the BVI as a jurisdiction with a very diverse set of offerings. The most recently published Statistical Bulletin by the BVI Financial Services Commission for the 1^st Quarter of 2021 points to this diversity. In most areas, including new incorporations and limited partnerships, the BVI’s numbers increased or held steady despite the many challenges faced over the last 18 months or so, not the least being the pandemic. To a significant extent, this appears to be attributed to the strength of the jurisdiction’s regulations, its policies, its adherence to best practice and perhaps most importantly, its human resources. We know that the BVI has been deemed compliant or largely compliant by every international standard setter including the OECD, the Common Reporting Standard (CRS) (an early adopter), the Foreign Accounts Tax Compliance Act (FATCA) and most recently the European Union (Economic Substance).

Much of the BVI’s offering is derived from High Net Worth Individuals (HNWI). The most recent Capgemini World Wealth Report (2021)[ii] states that despite the volatility of the last 18 months, unprecedented gains in the stock market for the last year have led to a more than six per cent spike in the wealth of global HNWIs, with North America now in the top spot in part because of the attractive stimulus packages offered by the US Administration. But Asia, from which a significant part of BVI business is derived, remains in the number two spot with robust growth continuing. It is important to note that HNWIs' wealth was largely equity driven in 2021.

For more than 40 years, the Asia Pacific region has been and continues to be this jurisdiction’s biggest market. BVI’s focus therefore continues to be on this trajectory in areas like FinTech, family offices and investment funds. VISTRA’s 2030 Report Unlocking Opportunity for The Decade Ahead confirms that tax planning is no longer top of clients’ agendas when they reach out to the corporate services industry in IFCs. Asset protection and facilitating foreign direct investment (FDI) have become key drivers.

More recently, special purpose acquisition companies (SPACs) have become a new growth area in the BVI, driven by a number of deals including Sir Richard Branson’s space tourism company, Virgin Galactic. Other new asset classes include cryptocurrencies and other blockchain related activities. So, there are many indications that the BVI remains on solid ground.

The Global Minimum Tax

Roughly five years ago, the BVI joined the Inclusive Framework of the Base Erosion and Profit Shifting initiative and therefore participated with 138 other countries this year in discussions regarding the global minimum tax. Following the announcement of the Inclusive Framework, the BVI’s Premier stated the following:

“I reaffirm the Territory’s commitment to international standards and regulatory practices. I am proud that BVI remains a responsible player in the global financial services landscape. Efforts by the OECD to develop a solution to the tax challenges posed by the digitalization of the economy recognize the complexity of the challenge and the need to allow flexibility in its approach. We remain confident of the attractiveness of the Virgin Islands as a significant financial centre capable of serving the needs of international clients”.

Essentially the agreement reached in early July 2021 recognised that IFCs have their own sovereignty and that while all countries have a right to impose a tax rate, they are not required to do so. Agreement was reached on two Pillars: in-scope companies for Pillar One will be MNEs with a global turnover of more than €20 billion and profitability before tax of above 10 per cent. Given such companies rarely operate in IFCs, there should be little impact either because of the revenue benchmark or because IFCs are seldom considered to be ‘market’ jurisdictions and therefore such companies register no or very little revenue in them.

Pillar Two has the potential for some impact as its focus is on MNEs with a global turnover in excess of €750 million per annum in line with the Base Erosion and Profit Shifting principles. At that point, the minimum rate of corporation tax would become payable. However, because there is such a low number of these entities in the BVI, and while technical details still need to be worked out, it is likely that any impact would be negligible.

This seems to be the case when we look at similar jurisdictions. In Jersey for example, International Adviser in early July stated that “the OECD is looking to impose a 15% rate around the world but only for multi-national companies with a global turnover of more than €750m (£645m, $890m), with regulated financial firms and investment funds carved out of the measure”. According to the article, Jersey has negotiated to retain their 0 per cent or 10 per cent rate, while the other territories such as Guernsey and the Isle of Man are still in negotiations. [iii]

The ‘carve outs’ of ‘regulated financial firms’ and investment funds again suggest that the impact on BVI companies would be minimal, as most of the BVI’s financial services fall into the category of ‘regulated firms’. Excluding investment funds would suggest that the Inclusive Forum recognises the importance of retirement (pension) funds globally which largely make up investment funds.

Such negotiations continue in the case of other members of the Inclusive Framework and, in particular, those who did not sign the agreement, including Ireland. It is well-known that Ireland’s strong view is that the global minimum tax will significantly impact its economy as the 15 per cent is higher than the 12.5 per cent currently in effect since 2003[iv]. As noted in the New York Times on 21^st July, reporting on a statement made by a senior Treasury official, should Ireland, Estonia and Hungary not join the agreement, their resistance could “block the European Union from moving ahead with the plan”.

There is also the widely held view that there are so many other levels of disagreement and detail, not the least being the feeling in the US Congress that the global minimum tax will put their ‘tech’ giants at a disadvantage, that it could take years before a final agreement is reached.

Future Proofing

Over the years, the OECD’s Global Forum on Transparency and Exchange of Information for Tax Purposes has proven itself to be objective, inclusive and generally fair. Still, as observed by Mark Pragnell of Pragmatix Advisory at a recent webinar organised by BVI Finance, one must watch out for their “cultural” habits such as the deep seated beliefs that IFCs are “tax havens” despite their adherence to every requirement as it pertains to transparency, compliance and international best practice. In this regard, our OECD colleagues must always be held to account.

On a related note, IFCs and the BVI in particular must improve upon marketing and promoting their offerings which adhere to all global standards, notwithstanding the constant scrutiny. IFCs expect investors to pay taxes in their home country thereby enabling the IFCs to continue to drive global growth and prosperity by acting as efficient conduits of capital. Reference was made earlier to the diversity of the BVI Offering. This jurisdiction must continue to build on this diversity through research-based marketing and promotions.

Many people in developed countries, and specifically in the G20 countries, have never understood what IFCs offer beyond tax benefits and neither are they really interested in understanding. It therefore falls to the IFCs to continue to keep the drum beating in terms of how they facilitate cross-border trade and foreign investments.

Finally, IFCs must stay engaged with the OECD and relevant members of the Inclusive Framework who are willing to facilitate arrangements in this period of transition that will enhance their continued prosperity.

In these circumstances, the world – and IFCs in particular – look forward to October with great anticipation.

Footnotes:

[i] AP News - 9th July, 2021, Article by David McHugh

[ii] Cap Gemini Research Institute World Wealth Report 2021 - 25th Edition

[iii] International Adviser Article - by Christian Angeloni 5th July 2021

[iv] Ireland Corporate Income tax - Ernst and Young Historical Development and International Context of the Irish Corporate System

Hon. Lorna Smith
Hon. Lorna Smith, OBE has several decades of experience at the highest levels of public service in the British Virgin Islands and has spent the last decade supporting Caribbean Governments, corporations and individuals in various commercial ventures. She played a pivotal role in establishing BVI Finance, a public private partnership devoted to business development and promotion of the financial services industry. Prior to being elected and thereafter appointed as the Deputy Premier and Minister of Financial Services, Labour and Trade in April 2023, she served as Vice President of Bank of Asia as well as a Director of several BVI businesses. Over the course of her senior-level public service, Hon.Smith has developed extensive relationships with leaders from the business community, international NGO’s and government leaders from around the world. She has been one of the key ‘engineers’ behind the BVI’s rise from relative obscurity to its present position as a top-flight tourist destination and one of the premier centres for global finance. Her unique experience and expertise serving as a facilitator between the public, private and non-profit worlds both within the BVI and between different nations gives her special insights into the challenges and opportunities facing organizations seeking to operate in the BVI and across the Caribbean. In 2002, Hon. Smith took the helm of the BVI International Finance Centre, which is charged with promoting the BVI’s Financial Services. She worked in close collaboration with the private sector, mounting promotional events in London, New York, Miami, Zurich, Geneva, Shanghai, Hong Kong and Singapore. Hon. Smith was also pivotal to getting the financial services industry restored in the aftermath of Hurricanes Irma & Maria through her leadership and communications skills. She also played a vital role within Government especially on the interim Recovery Board as well as through the Rotary Club of Tortola where she raised significant sums to aid the recovery and to help the needy. Hon. Smith was awarded the Order of the British Empire (OBE) by Her Majesty Queen Elizabeth II for her contribution to Public Service in the British Virgin Islands and is a multiple Paul Harris Fellow for her contributions to the service organization, Rotary International.