Executive Summary 

• The Organization for Economic Co-operation and Development’s (OECD’s) pillar two proposal includes three crucial tax rules intended to work with current tax laws worldwide. 
• The Joint Committee on Taxation (JCT) and the Tax Foundation made predictions of the effect on US revenue given the adoption of pillar two both internationally and nationally. 
• The United States needs to consider the possible losses when deciding whether to implement pillar two, despite the uncertainty of future revenue. 

Introduction 

The Organization for Economic Co-operation and Development (OECD) proposed a two-pillar international taxation agreement aimed at taxing digital companies and reducing profit shifting. Pillar two aims to create a minimum international corporate tax of 15% on multinational companies that bring in revenue of over €750m a year ($810 million). This tax can be accomplished through a few separate taxes that aim to help integrate the global minimum tax with existing tax laws: an undertaxed profits rule (UTPR), an income inclusion rule (IIR), and a qualified domestic minimum top up tax (QDMTT). Pillar two could significantly change the way taxes are collected around the world. The Joint Committee on Taxation (JCT) estimated the amount of revenue lost by the United States in four different scenarios with depending on whether the United States and the rest of the world adopt pillar two. The base calculation is the revenue if neither and United States nor the rest of the world adopts this pillar. The Tax Foundation calculated estimates from similar scenarios, but focusing only on QDMTT, and therefore concluded different predicted revenue changes than the JCT. When facing this global decision, the United States needs to consider all the possibilities and stay aware of the revenue losses that may come with making a decision regarding Pillar two. 

Pillar Two Tax Components 

The three main tax components of pillar two are the income inclusion rule (IIR), the undertaxed profits rule (UTPR), and the qualified domestic minimum top up tax (QDMTT). The IIR determines what profit from the parent company’s constituents is part of the taxable income of the parent company. This allows the minimum tax to be paid at the level of the parent company on its total income, rather than by its branches and constituents that reside in different jurisdictions. The UTPR allows a jurisdiction to tax a company if the parent multinational company resides in a tax haven that taxes less than the 15% minimum. This is aimed at insuring that companies are paying the correct top up tax after IIR is implemented. The UTPR requires multinational compliance to function well, as there may be many constituents of the parent company in many different jurisdictions. Finally, a QDMTT is a domestic minimum tax that complies with the OECD’s calculations for fair international tax. If a jurisdiction has a QDMTT that fits the qualifications, they have priority on top up tax revenue from business within its jurisdiction. These rules together create a 15% minimum global tax that aims to eliminate profit shifting to safe havens.  

The Tax Foundation points out a problem regarding this system. Jurisdictions may create QDMTT’s that nominally follow the OECD’s rules but add a subsidy that would in practice maintain taxes at their prior rate. A subsidy would be counted as income for the company under the OECD’s calculations. If a jurisdictions taxes 20% (a value above the OECD’s 15% minimum), but provides a 15% subsidy, the effective tax rate is only 5%. A system similar to this has already been implemented in Bermuda, effectively negating the OECD’s system. 

The JCT’s Predictions 

The JCT predicted the change in United States revenue from the implementation (or lack thereof) of pillar two in five forecasting predictions. The scenarios are as follows: 

1. Rest of the world enacts Pillar Two in 2025; United States does not. 

2. Rest of the world enacts Pillar Two in 2025; United States also enacts Pillar Two in 2025. 

3. Rest of the world does not enact Pillar Two; United States does not either. 

4. Rest of the world does not enact Pillar Two; United States enacts Pillar Two in 2025, but no U.S. UTPR. 

5. Rest of the world does not enact Pillar Two; United States enacts Pillar Two in 2025. 

The third scenario is the baseline for this analysis. It is highly unrealistic that neither the United States nor the rest of the world will enact pillar two, as many countries have already begun implementation. For the scenarios in which the United States enacts pillar two, it is assumed that this includes a QDMTT, an IIR, and a UTPR. The JCT also includes the estimated effect of profit shifting based on the change in United States tax law in their estimates. In scenario one, it is assumed that there will be a decrease in companies shifting from low tax jurisdictions to the United States. In scenarios 2, 4, and 5, it is estimated that there will be a small increase in profit shifting from low tax jurisdictions to the United States. The JTC estimates that this increase in revenue will not be enough to offset the losses of the OECD structure. 

In scenario one, where the world implements pillar two, but the United States does not, the JCT estimates that US revenue will decrease by $122 billion from 2023 to 2033. In the second scenario, where all countries (including the US) enact pillar two, there is an estimated loss of $56.5 billion in US revenue from 2023 to 2033. In scenario four, where the rest of the world does not implement pillar two, but the US does with no UTPR, the US is expected to gain $102.6 billion over the ten-year period. In the fourth scenario, where the world does not implement pillar two, and the US does, including the UTPR, there is an estimated gain of $236.5 billion in revenue. 

The last two scenarios are highly unrealistic, as many countries have implemented or declared intent to implement pillar two. This leaves the United States to content with the first two predicted losses: a loss of $122 billion if the US does not implement pillar two, and a loss of $56.5 billion if they do implement it. 

The Tax Foundation Estimates 

 The Tax Foundation made similar estimates of the revenue effects of a tax change over a nine-year period. However, there are some differences. The Tax Foundation analysis assumes the tax changes will be put in place in 2024 instead of 2025. They also only analyze the effect of QDMTT’s, leaving out UTPR and IIR. Finally, the Tax Foundation uses a standard semi-elasticity of .8 for the difference in tax rates between parent and constituent jurisdictions, rather than assuming profit shifting. 

The Tax Foundation uses two scenarios to illustrate realistic actions by the United States. They propose that the United States could adapt the Global Intangible Low-Taxed Income (GILTI) rule currently present in the US to fit the pillar two standards. There are then two scenarios: The US complies with the QDMTT’s for pillar two and the rest of the world does not, or the US and the rest of the world all complies with the QDMTT’s.  

For the first scenario, the Tax Foundation estimates an increase in revenue of $136.7 billion from 2024 to 2033 if the US uses minimal compliance, and an increase of $53 billion over the same period if the US substantially complies. If the rest of the world adopts QDMTT’s, the Tax foundation estimates an increase in revenue of $53.1 billion from 2024 to 2033 if the US minimally complies, and a decrease of $33.1 billion if the US substantially complies. The Tax Foundation further breaks down these possibilities into smaller groupings and tables.  

The Future for the United States 

The differences in these analyses of the revenue effects on the United States from the implementation of pillar two go beyond the fact that they examine slightly different variables. The instability in predictions for the future is largely fueled by the inability to know how companies will react and try to shift profit. It is unknown whether these companies will react swiftly and how other countries’ implementation (or lack thereof) of pillar two will affect their decision. However, both analyses point to a lesser gain, or a loss, if other jurisdictions implement this pillar. Since many jurisdictions have already implemented or have plans in place to implement pillar two, the United States will have to pick an action from the lesser of evils. Since the future is still volatile, deciding whether to implement pillar two may be a shot in the dark, even with predictions aiding the decision. 

Conclusion 

The OECD’s pillar two proposal contains three tax rules that can be used to redistribute tax profits and will attempt to address profit shifting. The income inclusion rule (IIR), the undertaxed profits rule (UTPR), and the qualified domestic minimum top-up tax (QDMTT) attempt to allow jurisdictions to work with their current tax laws and implement this multinational tax system.  The JCT used five models to predict the revenue gain/loss of the US from the implementation of pillar two both nationally and internationally. In the most realistic scenarios, where the rest of the world implements pillar two, the US suffers losses whether they implement pillar two or not, with a lesser loss coming from compliance with pillar two. The Tax Foundation uses slightly different variables but estimates an increase in US revenue of $53.1 billion if the US minimally complies with the rest of the world, and a decrease of $33.1 billion if the US substantially complies.  

These estimates are difficult to make due to the variety of possibilities of the reactions of multinational companies and other jurisdictions as pillar two begins to be implemented. The US needs to carefully consider its options as it reacts, hopefully choosing the path which loses the least amount of tax revenue.