INTERNATIONAL - OECD proposals for global digital tax reform and global minimum tax
On 13 February 2019, the OECD published a formal consultation document “Addressing the tax challenges of the digitalisation of the economy”. It represents a renewed appetite amongst OECD members for a fundamental review of the current international tax framework: the OECD aims to agree a solution by the end of 2020.
The key concern of OECD members relates to “remote” participation by a foreign business in a domestic economy through digital means. The current international tax framework enables a foreign business to derive value from a country’s economy without its government having a right to tax the profits generated. Current rules rely primarily on concepts tied to physical presence to allocate taxing rights, but are they still appropriate?
Although highly digitised (tech) businesses have come under the public spotlight, because digitalisation increasingly pervades the whole economy, the consultation document proposes new principles that could apply to all types of business.
Who taxes the profits?
It is clear that any redistribution of the right to tax profits will create winners and losers – this is likely to be why there are three different proposals on taxable nexus and profit attribution, put forward by three different economic powers/groups. The OECD is using the consultation to begin finding commonalities between the different proposals to build a mutually agreeable way forward. The three proposed routes are:
- A user participation model – taking into account the value created by users of a service/platform in each jurisdiction (primarily targeting tech businesses)
- A marketing intangibles model – modifying current transfer pricing models to allocate profits deriving from marketing intangibles (brand, trade names, customer base etc) to each market jurisdiction
- A significant economic presence model – assessing the effective economic footprint of a global business in a given jurisdiction based on a wide range of factors (from local users and billing to marketing and promotion activities) and allocating a share of its global profit accordingly.
Any change in the allocation of taxing rights is likely to give rise to higher numbers of international tax disputes. Therefore, the OECD acknowledges that the proposals must incorporate a robust approach to dispute resolution and, potentially, build in the ability for businesses to obtain advanced certainty on their profit allocation method.
Global minimum tax
In parallel, the OECD is exploring whether the goal of introducing an effective global minimum corporate tax remains relevant. It is likely that change in this area could be implemented as well as, and not instead of, the measures mentioned above that would seek to redefine taxing rights over profit.
Prior OECD initiatives (the Base Erosion and Profit Shifting action plans) have substantially restricted the ability for international groups to ‘shift’ profits between jurisdictions without real underlying change in the business. However, some OECD members (most notably France and Germany) consider that opportunities to achieve nil or very low rates of tax on substantial parts of business profits remain.
The development of any minimum corporate tax proposal must balance the sovereign right for countries to set tax rates (an important mechanism in the international battle for inward investment) with building a global tax regime where business decisions are less sensitive to tax considerations. However, with some countries already moving forward with similar measures (such as GILTI which was enacted by the US as part of its recent tax reform), agreement on such a radical proposal may be possible.
It seems inevitable that compliance costs for international businesses are likely to increase – at least in the short term. Tax administrations will also need to invest to be able to provide advanced certainty to businesses to avoid inter-jurisdictional disputes.
While it is clear that tech businesses will see changes to their tax liabilities in future, how far other more traditional businesses are affected will depend on both their business models and which of the three routes to a solution is finally adopted.
Whichever approach is adopted, further discussion is required to better define the scope of the proposals and address current gaps.
Although much work remains to find a common approach in future and then design the rules to implement it, there is now a clear momentum: change, in some form, seems inevitable.