Monthly Archives: April 2014

BMG Submission to the OECD on the Digital Economy

The BMG has submitted its response to the OECD discussion draft on Addressing the Tax Challenges of the Digital Economy: BMG Digital Economy submission 2014.

We agree with the OECD that `ring-fencing the digital economy as a separate sector and applying tax rules on that basis would be neither appropriate nor feasible’. In fact,  we consider that it is more appropriate to refer to the `digitalised economy’. We believe that segregating specific types of digital transactions, so-called ‘fully dematerialized digital activities’ as suggested in the OECD report  constitutes ring-fencing, and thus is neither appropriate nor feasible.

In our view, the shift to a digitalised economy has made it starkly apparent that the traditional test of taxable presence, the concept of Permanent Establishment, must be revised. We explain the reasons for this in more detail in the submission. Without such a change the BEPS project would not comply with its mandate from the G20 that `the existing international tax rules on tax treaties, permanent establishment, and transfer pricing …[must…] ensure that profits are taxed where economic activities occur and value is created’.

The submission proposes that taxable presence should be defined in terms of a Significant Presence, which should reflect the contribution to value added resulting from the closer and interactive relationships with customers characteristic of the digitalised economy. These should include:

(a) relationships with customers or users extending over six months, combined with some physical presence in the country, directly or via a dependent agent;

(b) sale of goods or services by means involving a close relationship with customers in the country, including (i) through a website in the local language, (ii) offering delivery from suppliers in the jurisdiction, (iii) using banking and other facilities from suppliers in the country, or (iv) offering goods or services sourced from suppliers in the country;

(c) supplying goods or services to customers in the country resulting from or involving systematic data–gathering or contributions of content from persons in the country.

Although broad, these criteria would still exclude many businesses involved in the digitalized economy. For example, a software designer which supplies a program in digital form to customers all over the world from a single website in the language of its residence country would not be covered. The aim of the definitions is to capture situations where the firm has a significant presence in the host country although digitally, and to include the element of value added from systematic collection of data and contributions of content from persons in the host country.

Report on Transfer Pricing and the Use of Comparables

We are today publishing our BMG Submission to OECD on Transfer Pricing Comparability Data and Developing Countries . This is our response to the OECD Report on this subject of 11th March 2014, prepared at the request of the G20.


In our view, the Report is disappointing. It is inadequate and unhelpful for developing countries. The Report:

  • assumes that developing countries should use transfer pricing methodologies which have been found deficient even by OECD countries, and are currently being revised, especially through the project on Base Erosion and Profit Shifting (BEPS);
  • prioritizes the use of comparables, although these methods have been shown to be deficient in both theory and practice, especially for developing countries;
  • obscures the real problem, which is not the absence of data but lack of appropriate comparables, due to the integrated nature of multinational firms;
  • fails to provide any information about what databases are available, or an evaluation of whether or how the data that they provide is supposed to be helpful for the purposes of auditing transfer pricing;
  • encourages developing countries to use methods which are likely to require case-by-case negotiation to ameliorate the fundamental deficiency of data without acknowledging the asymmetries of knowledge and power between developing country tax administrations and both tax advisers and developed country tax administrations; and
  • provides only a superficial consideration of alternatives to the use of comparables.

In our view methods based on either comparable prices or comparable profits are unsuitable for developing countries, and likely to lead to either over- or under-taxation, because:

  • the lack of appropriate comparables means that appropriate assessments require detailed examinations, specialist knowledge, and subjective judgment;
  • such assessments are time-consuming, and require skilled specialists, who developing countries find it hard to recruit and retain;
  • the subjective judgments involved leave officials open to undue pressures and temptations to corruption;
  • relying on data-bases can result in the use of inappropriate comparables, which may become generalized as firms also rely on them to avoid disputes;
  • conversely, the adoption of aggressive adjustments by officials, which may also result from performance incentives, resulting in counter-claims by firms, can lead to an adversarial culture, and sometimes excessive litigation;
  • the subjective and often arbitrary nature of adjustments based on comparables makes it hard to resolve conflicts if they arise between states other than by equally discretionary bargaining.

Our recommendations are that developing countries should:

  • learn from the mistakes of the OECD countries, and build on their own experience, for example the `sixth method’, or the Brazilian approach;
  • anticipate rather than await reforms likely to result from initiatives to combat BEPS, such as country-by-country reporting;
  • establish methods which are clear, transparent and easy to administer without the need for significant ad hoc investigation or subjective judgment;
  • coordinate transfer price scrutiny with other anti-avoidance measures such as denial of deductions for inappropriate payments to related entities.