Blueprints for digital tax reform published, but no consensus yet

The Organisation of Economic Cooperation and Development (OECD) published 'blueprints' of its proposals for Pillar One and Pillar Two of its internationally-focussed base erosion and profit shifting (BEPS) project. The reports reflect convergent views of OECD member states on key policy features, and identify the political and technical issues where there are differences of view.

The OECD is inviting comments on the reports from businesses and other stakeholders by 14 December.

Corporate tax expert Eloise Walker of Pinsent Masons, the law firm behind Out-Law, said: "The OECD has been putting a lot of effort into these complex proposals".

"It would be unfair to describe the output as 'sound and fury, signifying nothing', because the OECD has done its best to corral divergent views into some sort of framework for further discussion – an impossible task, bravely attempted. But it must be said that the latest update, read in the round, gives one a feeling of a hamster in a hamster ball – furiously active, but getting nowhere but round in circles. There are so many options on the menu, and so much detailed work yet to be done, that it remains uncertain how this will all coalesce into one clear suggestion on a way forward," she said.

The OECD was asked by the G20 to come up with proposals for addressing the tax challenges of the digitalisation of the economy by the end of 2020. It had been aiming for international agreement on the way forward to be reached by this month, but said that this has not yet been possible.

The proposals are divided into two 'pillars'. Pillar One addresses the allocation of taxing rights between jurisdictions and considers proposals for new profit allocation and nexus rules. Pillar Two focuses on the remaining BEPS issues and seeks to ensure that multinationals pay a minimum level of tax, regardless of where they are headquartered or the jurisdictions in which they operate.

The OECD estimates that the Pillar One and Pillar Two reforms could increase global corporate income tax revenues by around US$50-80bn a year.

Although the OECD estimates that Pillar One would lead to a modest increase in global tax revenues with low, middle and high income economies benefiting but investment hubs losing out, Pillar One's main impact would be to reallocate taxing rights between countries. 'Market jurisdictions' where customers are based, such as many European countries, would benefit at the expense of countries, such as the US, where some of the biggest digital companies are headquartered. The OECD estimates that Pillar One could reallocate taxing rights on about US$100bn of profit to market jurisdictions.

In contrast, the OECD estimates that Pillar Two would lead to a significant increase in tax revenue across low, middle and high income economies. Part of the reason it would increase revenues is that it would act as a significant deterrent to shifting profits to low tax jurisdictions.

The US government is opposed to aspects of Pillar One, which will have the effect of shifting some of the tax revenues of some of the biggest technology companies which are headquartered in the US, to market jurisdictions, particularly in Europe.

"The US favours Pillar Two and would be happy to see Pillar Two brought in without Pillar One. However, countries such as the UK and France are not prepared to agree to Pillar Two without Pillar One," Eloise Walker said.

The OECD estimates that the negative effect on global GDP stemming from the expected increased tax revenues as a result of the proposals would be less than 0.1% in the long term. However, it is concerned that the absence of a consensus based solution could lead to a proliferation of uncoordinated unilateral tax measures and an increase in trade disputes. In a worst case scenario it says that these disputes could reduce global GDP by more than 1%.

The slow pace of international agreement on Pillar One reforms in particular, has already led to an increasing number of countries taking unilateral action by introducing interim digital service taxes (DSTs) to tax part of the revenues of foreign owned digital companies.

The UK introduced a DST from April 2020 which subjects search engines, social media platforms and online market places to a 2% tax on revenues linked to UK 'user participation'. France has introduced a 3% DST from 1 January 2019 on revenues deemed to have been generated in France by digital companies.

Last month EU president Ursula von der Leyen said that, should an agreement on the OECD proposals "fall short of a fair tax system that provides long-term sustainable revenues", the EU will come forward with another proposal for a digital tax early next year.

The US has threatened France with retaliatory trade tariffs if it collects its DST. In June it launched an investigation into DSTs adopted or under consideration by the UK, Spain, Italy and the EU as well as a number of other countries, with a view to deciding whether the US should take retaliatory action.

"It will be interesting to see what happens to the US proposal that the new Pillar One taxing right has a safe harbour built into it, and how this interacts with the UK's position on its DST," Eloise Walker said.

The US is proposing that companies be able to choose whether Pillar One would apply to them. If they opt in they would avoid unilateral DSTs imposed by countries such as the UK and France and benefit from a consistent approach to the way revenues are allocated between countries.

"Under the OECD's latest safe harbour proposal, US multi-national enterprises would have to effectively 'opt-in' to Pillar One to obtain tax certainty," Walker said. "If that sounds like an unrealistic sop to US protectionism, it might well be; but it might also be a cunning way for the OECD to bring the US into the fold."

"If the UK, for example, does not eventually repeal its DST but allows double tax relief for those MNEs who opt into Pillar One, it will force the very US businesses who are the target of the UK DST to comply with the OECD proposals, or else. The original targets of the UK DST are still hit, whilst at the same time allowing the UK to proceed with clean hands at the UK/US trade talks," she said.