Singapore must adapt, adjust tax policies to fit into new tax world

THE Organisation for Economic Cooperation and Development (OECD) has been working relentlessly towards achieving global consensus on the design of a new international tax architecture. On Oct 12, 2020, the OECD released its reports on the blueprints of the two-pillar approach to address the tax challenges arising from digitalisation of the economy (that is, the BEPS 2.0 project). Pillar One blueprint rethinks the profit allocation of large multinational enterprises (MNEs) among jurisdictions, expanding the taxing rights of market jurisdictions based on revised nexus rules. On the other hand, the Pillar Two blueprint proposes a global minimum tax for which profits ought to be taxed.

Getting broad consensus on the proposals appeared bleakly possible until US Treasury Secretary Janet Yellen made a similar call in early April - the Biden administration's tax proposals seek to, inter alia, enact a country-by-country minimum tax that aims to substantially curtail profit-shifting and offshoring of assets by US MNEs, and deny tax deductions on related-party payments to foreign corporations residing in a regime that has not implemented a strong minimum tax.

THE NEED TO PIVOT

Generally, the corporate tax rate is reflective of a country's level of government spending and budgetary position. Singapore has a relatively low corporate tax rate. The country has long maintained a strict fiscal discipline, allowing it to maintain a competitive corporate tax rate (17 per cent) and use tax incentives as a tool to attract foreign direct investment (FDI) for job creation.

This stance, however, is expected to change, with increased government spending on Covid-19 economic stimulus and related support, and governments will invariably be compelled to look more keenly at driving revenues and tax rates.

For example, the Netherlands has cancelled its planned reduction in corporate tax rate to 21.7 per cent (from 25 per cent) as of Jan 1, 2021 while Turkey, the UK and the US have unveiled plans for tax hikes. The prolonged road to recovery from this pandemic will engender tax hikes, new taxes, heightened tax enforcements and increased cross-border tax controversies. Understandingly, many OECD and G-20 countries would support the global minimum tax proposal to prevent a race to the bottom - a tax competition many countries cannot afford.

Should this anticipated global minimum tax - or a tax reboot - materialise, it will inevitably limit Singapore's choices in setting its own tax policies and indirectly challenges its sovereign rights. As a small city-state, Singapore will have to adapt and adjust its tax policies to fit into the new tax world.

BEPS 2.0 AS A CERTAINTY

Under current circumstances, BEPS 2.0 will be implemented in one form or another - and the impact on the broader economy, investments, investment return and jobs will remain to be seen.

What is certain is that even with the appropriate economic substance, the global push for minimum tax is likely to make paying zero or little taxes, and parking profits in tax havens, a thing of the past. MNEs must come to terms with this reality and brace themselves for higher effective tax rate (ETR) wherever they operate.

In simple terms, ETR is the percentage of earnings that a corporation pays in taxes. It drops when certain earnings are not taxable or taxed at a preferential tax rate, or when deductions are enhanced. Conversely, it rises with denial of deductions or double taxation. As a result, ETR can fluctuate year-on-year depending on the circumstances. In the BEPS 2.0 world, when the ETR falls below the agreed minimum tax rate, the "low-taxed profit" may consequently be picked up for tax elsewhere.

Some countries such as Austria, India, South Korea and the US have introduced some form of alternative minimum tax (AMT) in their tax regimes. AMT ensures that corporate earnings are subject to tax at a certain floor rate, and such a regime may help Singapore avoid any unintentional giving up of taxing rights when BEPS 2.0 is in place. The introduction of AMT could, however, increase the administrative burden on Singapore taxpayers. Simplifying the rules, such as aligning the ETR computation with that of BEPS 2.0 proposal, will help with Singapore's tax competitiveness.

The big tax reboot will transform the game play for Singapore, where tax incentives have been instrumental to its investment promotion efforts. Having said that, Singapore's longstanding merits in its institutions, infrastructure, labour market and financial and legal systems should continue to make it an attractive investment destination. As uncertainty looms around the world, may Singapore's consistency in performance and stability in government policies keep this city state shining brightly as ever.

• The writer is EY Asean International Corporate Tax Advisory Leader. The views here are the writer's and do not necessarily reflect the views of the global EY organisation or its member firms.