Greening The ESG And Tax Debate

A global carbon price of $75 per ton may be the magic number to help blunt damaging carbon emissions.

That’s what Kristalina Georgieva, head of the IMF, told Reuters in November 2022 at the U.N. Climate Change Conference in Sharm el-Sheikh, Egypt. But it’s hard to say if the world is close to achieving that objective because carbon pricing varies considerably from country to country.

According to the World Economic Forum, there are at least 70 carbon pricing schemes around the world, and they’re beginning to become unwieldy for both governments and business interests concerned about stability and competitiveness. In response, the WTO is now working with the World Bank, OECD, and IMF to streamline carbon pricing — which typically falls into two camps, carbon taxation and emissions trading schemes — and create a global carbon pricing framework.

Carbon pricing and its standardization is also important from environmental, social, and governance (ESG), and taxation perspectives. On the ESG front, multinationals and interested stakeholders are rightfully preoccupied with transparency-related developments like public country-by-country tax reporting unfolding in the EU and Australia. In 2025 large multinationals headquartered or operating in the EU with over €750 million in global revenue will start releasing public CbC reports under the EU’s public CbC directive. In Australia, the government is expected to soon finalize public CbC reporting legislation that would require large multinationals to disclose their CbC information for income years beginning on or after July 1, 2023. Meanwhile, some companies are voluntarily reporting their tax data or public CbC reports to share that information on their own terms.

However, there’s another ESG-related issue that the European Business Tax Forum (EBTF) believes multinationals should pay greater attention to: carbon taxation and ways in which the business community can shape nascent carbon tax regimes. It’s an interesting argument, given that the tax community is slowly addressing ESG and what it means for tax, especially in the context of transparency. It’s too early to say whether there is bandwidth for robust activity in the climate space, but it’s an area to watch.

Total Tax Contribution Study

In March the EBTF released its newest Total Tax Contribution Study, which makes the case for why the public and stakeholders should evaluate all aspects of multinational taxation and the total amount of taxes they collect and remit, not just the amount of corporate tax they’re paying.

Over the past several years, EBTF has led the momentum for total tax contribution reporting, which arguably gives multinationals an opportunity to tell their total tax story, particularly if they treat upcoming public CbC reporting requirements as a floor and use total tax contribution reports to shed more light on their total tax picture.

European companies are increasingly participating in total tax contribution reporting. When the EBTF published its first total tax contribution study in 2018, 41 companies participated. March’s EBTF report — which addressed tax data from 2021 — compiled tax data from 61 of the largest multinationals headquartered in the EU, European Free Trade Association, and the United Kingdom. According to the report, the group’s total tax contribution was €395.5 billion in 2021, which broke down to €152.7 billion in taxes borne and €242.8 billion in taxes collected. That’s a 4.8 percent increase compared to last year’s study, according to the EBTF.

Taxes borne comprise five different bases. They are:

• profit;
• people;
• product;
• property; and
• planet (environmental) taxes.

Profit taxes include corporate income taxes and withholding taxes on payments to third parties. People taxes include income tax, social welfare taxes, and taxes related to employment. Product taxes include indirect taxes on production, consumption, and the sale of goods and services. Property taxes include taxes on the ownership, sale, transfer, or occupation of property. Planet taxes include taxes and duties levied on the supply, use, or consumption of goods or services potentially harmful to the environment.

One of EBTF’s core arguments — and purposes for compiling its annual total tax contribution reports — is that corporate income tax represents a relatively small slice of a multinational’s tax pie. According to 2021 figures, for every €1 of corporate income tax paid, the 61 multinationals bore €1.13 in other business taxes and collected €3.39 for governments, the report says. That means corporate income tax accounted for about 20 percent of their total taxes.

“Corporate income tax, often the focus of negative external commentary, is an important but by no means unique part of the picture,” the EBTF said, pointing out that in 2021, it was outweighed by nearly 2 to 1 by other tax costs.

Planet Taxes

However, nestled in the report is an interesting statement about the state of planet taxes. EBTF found that in 2021, the amount of planet taxes borne by the 61 companies decreased from their 2020 base level even though the companies’ profitability — and proportion of profit taxes paid — significantly increased. In 2021 planet taxes borne for global operations amounted to €2.6 billion, down from €3 billion in 2020. EBTF thinks this is a troubling result.

“The movement in this respect is disappointing given governments’ many pronouncements on climate change and the real opportunity to steer [multinational corporations’] tax burden towards this area. It seems that any push towards carbon taxation to change behaviors needs to be driven by forward thinking MNCs themselves, rather than await government action which remains focused on the already well mined seam of [corporate income tax],” Michael Ludlow, chair of the EBTF, wrote in the report’s foreword.

In general, planet taxes occupy a small slice of companies’ total tax contribution. Over the years that EBTF has been tracking total tax contributions, the amount of planet taxes as a proportion of total tax contributions has only increased slightly from 5.1 percent in 2018 to 6.3 percent in 2021.

To the extent that planet tax contributions have increased, EBTF says that it is mostly driven by one sector — oil and gas — and is largely generated by fuel excise duties collected by oil and gas companies as well as other taxes levied on the supply, use, or consumption of goods and services considered harmful to the environment.

Let’s circle back to the foreword’s statement that multinationals may need to drive carbon taxation forward because governments are too preoccupied with corporate income taxation. It is sustainability driven by business, which already happens in the context of voluntary tax reporting. Net-zero pledges to slash carbon emissions by the year 2050 fall into a similar category because governments aren’t legally requiring private industry to meet net-zero targets. Switzerland has introduced legislation requiring companies to become net zero by 2050, a controversial measure that has been challenged by some lawmakers. However the legislation, the Federal Act on Climate Protection Targets, Innovation and Strengthening Energy Security, will be put to a popular vote on June 18. In the United States, asset management corporation BlackRock
BLK
and its CEO, Larry Fink, have attracted considerable attention for their role in driving corporate climate strategy within BlackRock’s portfolio companies. But a recent article in The Washington Post pointed out that BlackRock is not alone in this regard, at least not in the United States.

“Without a national policy requiring industry to embrace a carbon-free future, the country is left with a patchwork of regulations and voluntary programs often reliant on Wall Street pressure,” the article says. “Banks and giant fund managers have landed in the role of de facto climate regulators amid their worries that warming threatens to destabilize the firms they invest in.”

Slow Response to Carbon Taxes

According to the IMF, carbon taxes offer “significant practical, environmental, and economic advantages” because they can cover broader emissions sources, potentially raise significant revenue, and establish price certainty (“Carbon Taxes or Emissions Trading Systems?: Instrument Choice and Design” (2002)). On the other hand, emissions trading schemes can offer more certainty over emissions levels as well as free permit allocations, which could help draw support from affected companies and sectors.

A recent OECD study of carbon pricing trends in 71 countries between 2018 and 2021 found that governments are slowly, but steadily, increasing the number of emissions subject to carbon prices. The good news is that over 40 percent of greenhouse gas emissions were covered by carbon prices in 2021, compared to 32 percent in 2018. Some emissions are targeted more than others, according to the OECD report, “Pricing Greenhouse Gas Emissions.” The OECD found that 91 percent of road transport emissions, 64 percent of electricity emissions, and about 57 percent of off-road transport emissions were covered by a carbon price in 2021. On the other hand, only 30 percent of industry emissions were covered by a carbon price that year.

The bad news is that carbon prices — net of fossil fuel subsidies — are largely too low to be effective. In 2021 carbon prices were zero or negative for almost 60 percent of greenhouse emissions, the OECD said. The OECD also found emissions trading schemes and carbon taxes only accounted for a small fraction of carbon pricing — only 25 percent of emissions were covered by either an emissions trading scheme, a carbon tax, or a combination of the two, according to the report. Also, some aspects of carbon pricing remained static over that period. For example, the percentage of emissions subject to fuel excise taxes was 24 percent in both 2018 and 2021. The OECD also found that in many countries, average carbon prices did not increase during that four-year period.

“There is a long way to go if carbon pricing is to live up to its full potential,” the report said.

Based on this data, it is easy to see where the EBTF is coming from. However, there’s also a long way to go if private industry wants to make its mark on carbon taxation. For multinationals, providing input on carbon pricing is not just a matter of demonstrating that they are good corporate citizens. It’s also a matter of managing misaligned rules, which Shell recently highlighted in its 2022 annual report.

“The lack of net-zero-aligned global and national policies and frameworks increases the uncertainty around how carbon pricing and other regulatory mechanisms will be implemented in the future. This makes it harder to determine the appropriate assumptions to be taken into account in our financial planning and investment decision processes,” the report said.

This is important for the company because it expects its annual carbon cost exposure to nearly double over the next 10 years as carbon regulations continue to develop. Shell expects its cost exposure to be around $800 million in 2023 and around $1.5 billion in 2032.

That said, the EBTF’s study was published just before the European Parliament, on April 18, approved the EU’s carbon border adjustment mechanism (CBAM). The CBAM will levy import tariffs on products based on the amount of carbon emitted in their production, and it remains to be seen how the CBAM will affect other countries and potentially draw national schemes closer together. For example, the U.K. government has launched a consultation on whether it should implement a CBAM, and India is reportedly talking to the EU about potential exemptions and how the CBAM will work with its own proposed carbon credit system. There are also some early indications that the CBAM is influencing carbon pricing in other countries even though the system won’t be fully implemented until 2027.

While stability is important for multinationals, business realities can also get in the way. For example, BP is a founding member of the Climate Leadership Council — an international climate policy advocacy organization — and it believes carbon prices must hit $100 per ton to achieve net-zero goals.

The company has also pledged to reach net-zero emissions by 2050. But in the absence of any legislative mandate to hit net zero by that date, BP has backpedaled a bit on its pledge. In February the company scaled back its original aim to reduce emissions between 35 and 40 percent by 2030. It now plans for a 20 to 30 percent reduction because of the state of the energy industry.

Outside of oil and gas, emissions strategy and policy is not a priority for some multinationals. PwC found in its 2022 Annual Global CEO Survey that only about 37 percent of the nearly 4,500 CEOs it surveyed are factoring emissions into their long-term strategies.

These developments suggest that there’s considerable room for the legislative and business communities to draw closer together on the development of climate tax policy. The question is whether there’s enough momentum on both sides.