Tag Archives: unitary taxation

Tax Challenges of the Digital Economy

The BMG has made a new submission on Tax Challenges of the Digital Economy in response to the Request for Comments by the OECD in connection with the work of the Task Force on the Digital Economy, preparing a report for the G20.

October 2017

Summary

Digitalisation has further exacerbated the fundamental flaws in international tax rules. The ability to do substantial business in a country without a significant physical presence has long been a problem especially in relation to services. The importance of intangibles and the ability to transfer ownership of such assets to affiliates in low-tax jurisdictions was pioneered long ago by pharmaceutical companies.

Although digitalisation has resulted in important changes in business models, their effects are less significant for those rules than the transformations resulting from the emergence and growth of multinational enterprises (MNEs) since those rules were devised almost a century ago. MNEs have exploited the ‘independent entity’ principle, by creating complex corporate groups and fragmenting their functions to allocate a high proportion of their global income to low-taxed affiliates. The BEPS project has so far aimed only to patch up these rules, and has not resolved the central challenge of how profits should be allocated according to where ‘economic activities occur and value is created’. This requires a paradigm shift, to move away from the independent entity principle, and treat MNEs in accordance with the economic reality that they are unitary firms.

The BEPS issues raised by digitalised products or services are not caused by small companies, such as software firms, selling digital products to customers around the world, but by the giant web-based MNEs. These firms usually do have a significant physical presence in countries where they have a significant level of consumers, but they fragment their activities, and attribute functions such as sales, order fulfillment, production, marketing and customer support to different affiliates.

The main changes due to digitalisation are (i) the closer relationship it both requires and enables between producers and consumers; (ii) the digital services that are often supplied with no direct charge to users, while their inputs are monetised through revenue generated through services provided to other customers, especially advertising; and (iii) the ability that digitalisation gives for some firms to recharacterise themselves as pure intermediaries between producers and consumers. The various unilateral and defensive measures introduced or proposed by countries (diverted profits tax, equalisation levy, etc) may be necessary in the short term but are only interim solutions.

We propose a new definition for taxable presence based on significant presence; a holistic approach in attributing profits to take account of the combined contributions of all the affiliates of a MNE within a country; and a shift towards allocating aggregate profits of all relevant associated enterprises based on factors reflecting the drivers of profit for typical business models.

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The European Commission’s Proposals for a Common and Consolidated Corporate Tax Base

The BMG has now published its comments on the CCCTB  – the European Commission’s proposals for Common Corporate Tax Base, and for a Common Consolidated Corporate Tax Base.

The CCCTB adopts a sound approach to taxation of multinationals (MNEs), by treating them in accordance with their business reality as unitary firms. It aims to identify the tax base of the whole corporate group, disregarding internal transactions between the affiliates, and to apportion the taxable profit according to factors reflecting the firm’s real activity (sales, assets, employees) in each country. In our view, this is the most effective way to end both competition between states to offer tax incentives, and tax avoidance by MNEs shifting income between affiliates to minimise tax.

In our view, however, the aim should be to create a level playing field in relation to tax on corporate profits not only within the EU but worldwide. Unless this is done, EU member states will continue to compete with each other to offer tax preferences to MNEs from outside the EU. They will also continue to be vulnerable to tax competition from jurisdictions not covered by the CCCTB (including the UK, after Brexit). The CCCTB can and should be recast so that it attributes to the EU as a whole a portion of the worldwide profits of MNEs reflecting their actual activities within the EU, as well as allocating that profit among EU states, using the same criteria.

We also propose a ‘compensation mechanism’, in case another country (e.g. the US) adopts the alternative which has been proposed for a destination-based cash-flow tax with a ‘border adjustment’.

We also warn against the 2-stage approach proposed by the Commission, and criticise the proposed ‘super-deduction’ for R&D expenditures, and the so-called Allowance for Growth and Investment. As some business groups have also argued, it is better to define the tax base broadly, allowing scope for cuts in the rate (which are already taking place), than to build in selective and distorting special allowances.

16 May 2017

Revised Guidance on Profit Splits

The BMG has made a Submission to the OECD Consultation on its draft revisions to the Transfer Pricing Guidelines concern the Profit Split Method.

General Remarks and Summary

We applaud the continued interest of the OECD and Working Party 6 in its work to make the profit-split approach a more viable and important tool in intercompany pricing.

In this submission we propose the development and use of defined allocation keys and weights to apply the profit-split method to actual profits of common business models (see Appendix). In our comments to the specific questions we point out that the examples in the discussion draft assume, without explicitly saying it, that the various business units of a multinational enterprise (MNE) are normally independently managed, albeit with common ownership and some top-level management over policy and direction. In contrast to this assumption, we believe that most MNEs operate as centrally-managed unitary businesses performing core functions and using intangible property in multiple countries. We therefore suggest that it is appropriate to apply the profit-split method to actual profits in these cases. Nevertheless, if Working Party 6 takes a different view, due to their belief that some level of integrated risk sharing is required for application to actual profits, the profit-split method with defined allocation keys and weights could be applied to anticipated gross profits or other measure appropriate for the specific business model. Whether our recommended approach or this alternative is chosen and inserted into the Guidelines, it would greatly simplify things for taxpayers and tax authorities alike.

Submission to the European Commission on the CCCTB

The BEPS Monitoring Group has made a submission to the European Commission in its public consultation on the Common Consolidated Corporate Tax Base. It also relates to the proposal for a common EU directive implementing the proposals from the BEPS project, which the Commission is expected to publish at the end of January 2016.