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How to pay for a pandemic? Tax the unearned profits

May 27th, 2020

By Alex Cobham, Tax Justice Network

The COVID19 pandemic has created huge damage – from the direct human health costs, to the social dislocation associated with physical distancing, to the economic impacts. The distribution of those costs has likely served to deepen existing inequalities – from the disproportionate mortality impact on people exposed to structural racism, to the gendered distribution of new pressures under lockdown. As policymakers begin slowly to look beyond their immediate responses, thoughts are increasingly focused on how to pay for those costs that have been borne by public budgets. Lobbyists in the USA and doubtless elsewhere are already taking their chances to insert regressive redistribution in the response packages – but there is a clear opportunity to ensure that tax justice is at the heart of next-phase measures.

Three principles should govern the process to raise the much-needed public funds to fight the pandemic and its socioeconomic fallout.

First, the raising of additional revenues must be progressive. Where the pandemic itself has actively exacerbated inequalities, the response must mitigate these by ensuring that those most able to contribute more, do so – and that ultimately we build back better, rather than replicating the gross inequalities that currently characterise our societies.

Second, tax revenues should arise in the same place as the underlying economic activity – which is to say, in the same place that health needs arise. The pandemic highlights the iniquity of allowing value to be captured far from where it is generated.

Third, the additional revenues should be raised above all from those who are profiting most in these strange times, not from their own ingenuity or hard work but from sheer luck that enables them to benefit from the unprecedented state interventions in the economy. Enormous, unearned rents are accruing to the owners of a business like Amazon, purely because most of their physical competition has been closed by order.

The first principle requires direct taxation – that is, taxes on profits, income and capital gains rather than for example, regressive taxes on consumption such as VAT. The second principle, meanwhile, highlights the deep flaws affecting both the taxation of corporate income and that of assets and income streams held offshore – and thereby making direct taxation much harder, and less fully applied, than it would ideally be.

Despite some notable progress towards the agenda set out by the Tax Justice Network following our formation in the early 2000s, both areas remain sadly lacking. Corporate taxation continues to rest on the ‘arm’s length principle’, insisting that multinational groups be treated as if each entity in the group trades at arm’s length (market prices) with each other, and maximises profits at the entity level rather than at the unit of the group. This results in hundreds of billions of dollars a year in profits being shifted from the location of real economic activity to low- or no-tax jurisdictions.

Following the failure of the G20/OECD Base Erosion and Profit Shifting initiative (BEPS) in 2013-2015, the current iteration has finally committed to move beyond arm’s length pricing.  The G24 group has pointed the way clearly towards unitary taxation (assessing profits at the unit of the multinational group, as a whole, then apportioning as tax base between the countries where employment and sales occur). This approach, long supported by the tax justice movement, would align taxable profits with the location of the underlying economic activity – but with the US and France blocking serious progress, there is little hope of a substantive outcome this year.

Turning to the taxation of offshore assets and associated income streams – many trillions of dollars of which are held disproportionately by the highest-income households in countries around the world – a lack of international transparency continues to obstruct progressive taxation. Some progress towards automatic information exchange on financial accounts has begun the battle to end banking secrecy; but the continuing failure to require comprehensive, public registers of the beneficial owners of companies, trusts and foundations makes evasion straightforward, and with it the denial of revenues to the societies where the assets are located and the incomes are generated.

On the corporate side, the longer-term agenda includes a comprehensive shift to unitary taxation. For now, policymakers should pursue measures to raise immediate revenues – but in a way that is consistent with the longer-term goal. The leading proposal that meets this aim, and respects the principles outlined, is for an excess profits tax. This would use the existing technical work of the OECD reform process to identify multinationals’ excess profits at the global level, and these would ideally be apportioned between countries according to their share of each multinationals’ employment and sales.

In relation to offshore assets and income streams, the longer-term agenda includes the development of a global asset register, linking up registers of the beneficial owners of companies, trusts and other legal vehicles, with those for real estate and other major asset classes; and the associated potential for wealth taxes and much more effective capital gains taxes. The short-term measure consistent with this is the introduction of a one-time wealth tax, with punitive rates for opaquely owned offshore assets. The pandemic has already seen an explosion in the asset values of the wealthy, even as unemployment has soared to record levels in many countries.

A powerful feature of these measures is that, in combination, they would address all the core elements of the unearned income problem. Whether those benefiting do so in terms of excess profits, or – as in the Amazon model – as massive growth in share value, this twin approach will ensure that a fair contribution is made to the massive public costs of the interventions from which they have profited.

The combination of excess profits taxes and wealth taxes will set the path to the longer-term tax justice measures needed to ensure that we do not recreate the gross inequalities that the pandemic has laid bare – but do, truly, build back better.

These issues, along with a host of other tax and financial transparency proposals designed to ensure the Covid crisis marks a pivotal turning point for the broken and unjust governance of international taxation, will be discussed at the Financial Transparency Coalition conference –  Health versus Wealth? Tax & Transparency in the Age of COVID-19 – on May 28. Register here.

 

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