The BMG has made a submission to the UK Treasury consultation on a Royalties Withholding Tax
These proposed provisions are an extension of the Diverted Profits Tax introduced in 2015, and the royalty withholding tax of 2016. The need for such unilateral measures clearly shows the failure so far to reach a multilateral solution to ensure that multinational enterprises (MNEs) can be taxed ‘where economic activities occur and value is created’, which was the aim of the G20/OECD project on base erosion and profit shifting (BEPS). While we regret the need for such unilateral measures, we agree that they are necessary, provided they are properly designed to contribute to a possible multilateral solution, and do not further exacerbate international tax competition.
The present proposals are novel for the UK, in claiming to tax payments for intellectual property rights (IPRs) by treating them as as sourced in the UK if used in connection with sales made in the UK, even if neither the payor nor the receiver has a taxable presence in the UK. However, the target is multinational corporate groups, which the consultation document points out will in practice usually have such a taxable presence through related entities. Such multinationals take advantage of the independent entity principle in international tax, by attributing functions such as sales and ownership of IPRs to group entities outside a jurisdiction, although other functions such as sales support may be fulfilled by local related entities. This allows their often enormous sales in the UK to escape tax not only in the UK but also in the country where such sales revenue is attributed, due to the royalty deduction, if the payments flow to an entity notionally located in a low-tax jurisdiction.
Counteracting such strategies results in highly complex measures such as the present proposals. Our comments analyse the legal difficulties they present, and offer some suggestions for ameliorating possible negative and unforeseeable effects. It is especially important to ensure that there are no such effects on taxation by other jurisdictions, especially developing countries. The proposal should be explicitly formulated as an anti-avoidance measure, hopefully short-term, and accompanied by powers for HMRC to issue suitable guidance to prevent harmful impacts on other countries.
These measures clearly show that effective taxation of MNEs requires that they be treated in accordance with the economic reality that they operate as unitary firms under central direction. Both the UK government and MNEs and their tax advisers should accept that this means explicitly moving away from the independent entity principle, rather than covertly as in these proposals. The government should advocate and support multilateral measures in this direction, instead of needing to resort to unilateral measures such as this, which make the system increasingly complex, uncertain and hard to administer.