G20 reaffirm commitment to digital tax agreement this year

The timetable was thrown into doubt by a letter from US Treasury Secretary Steve Mnuchin to four European finance ministers in June suggesting that discussions on the 'Pillar One' proposal had reached an impasse and should be paused due to the coronavirus pandemic. The US has expressed concerns that the Pillar One reforms "unfairly target" US owned tech companies.

The Organisation for Economic Cooperation and Development (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.

In May 2019 the OECD agreed with the G20 a programme of work, 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 base erosion and profit shifting (BEPS) issues and seeks to develop rules that would provide jurisdictions with a right to tax where other jurisdictions have not exercised their primary taxing rights or the payment is otherwise subject to low levels of effective taxation.

"We remain committed to further progress on both pillars to overcome remaining differences and reaffirm our commitment to reach a global and consensus-based solution this year," said a briefing issued by the G20 finance ministers following a virtual meeting last week.

The G20 has asked the OECD to submit a report on the "blueprints" for each pillar at the next meeting of the G20 Finance Ministers in October.

"The question of what should be delivered by the end of 2020 has been the subject of discussion amongst G20/OECD Inclusive Framework members," said the OECD Secretary-General's Tax Report to G20 Finance Ministers and Central Bank Governors.

Referring to the letter from Steve Mnuchin suggesting a pause in relation to Pillar One, the OECD secretary general said: "Thus far, divergent views have been expressed about the decoupling of Pillar One and Pillar Two and about adopting a phased approach, starting with Pillar One".

"While some G20/OECD Inclusive Framework members support the idea of independently agreeing and implementing the pillars, other members call for the adoption and implementation of the two pillars as a package. These divergent positions will have to be bridged in the coming months," he said.

Tax expert Eloise Walker of Pinsent Masons, the law firm behind Out-Law, said: "The OECD may be committed, but given the US stance it remains to be seen what that means in practice, especially for what is in scope".

"It seems inconceivable that the US will make any move until after their elections, so the October statement may be little more than a holding message in reality," she said.

The OECD has also been assessing the impact of the proposals. Its preliminary findings are that the combined effect of Pillar One and Pillar Two would lead to a significant increase in global tax revenues as well as a redistribution of taxing rights to 'market jurisdictions'. These are countries where customers are based, but companies do not have a significant physical presence.

Pillar One, which would involve a significant change to the way taxing rights are allocated among jurisdictions, would lead to a modest increase in global tax revenues, according to the OECD's assessment. The OECD said that investment hubs would experience "significant losses in tax base" from Pillar One. The result of the reforms could be that low tax rates would be less important in attracting investment and that that going forward investment would be driven more by non-tax factors such as infrastructure, education levels or labour costs, it said.

However, multinational enterprises in digital-oriented and intangible-intensive sectors could be significantly impacted by both pillars, it said.

"This is especially true in the UK, where I doubt the Treasury will want to add the extra layer of Pillar Two without getting Pillar One sorted as part of the package," said Eloise Walker.

Failure to reach an agreement on the tax reforms "comes with serious risks of escalating tax and trade tensions, which would further undermine the global economy," the OECD has warned.

It said that the proliferation of turnover-based digital services taxes (DSTs) could lead to double taxation and could impose significant tax burdens on firms experiencing losses as a result of the pandemic.

As a result of the slow pace of international agreement on reforms, an increasing number of countries have taken or are proposing to take unilateral action to introduce interim DSTs to tax part of the revenues of foreign owned digital companies.

France has introduced a 3% DST from 1 January 2019 on revenues deemed to have been generated in France by digital companies.

The UK's legislation introducing a DST from April 2020 has just become law in the 2020 Finance Act, which received Royal Assent last week. The UK's DST subjects search engines, social media platforms and online market places to a 2% tax on revenues linked to UK 'user participation'.

"Now it’s in force, any business with a significant digital footprint should be looking at whether they are in scope or not," said Eloise Walker.

"Realistically, the bigger players who know they are in scope have been looking at this for months now and will already have been making their preparations to comply – for them, it’s not so much about whether they fall within it as the administrative headache of when they will have to pay it and how it will interact with all the other unilateral measures being introduced by other countries. Each variety of digital tax is slightly different, but all are aimed at broadly the same thing," she said.

"For those companies who are in the margins - potentially within the rules as drafted but not actually meant to be caught - it becomes just another compliance process to add to the ever increasing list: they’ll have to waste resources looking at it, but ultimately the cash impact on them will be minimal," Eloise Walker said.

In June US trade representative Robert Lighthizer announced that the US is investigating 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 by imposing tariffs on imports.

Senior members of the US Senate finance committee Chuck Grassley and Ron Wyden said last week of the UK's DST: “Unilaterally imposing a discriminatory tax that unfairly targets US businesses damages efforts to achieve a multilateral solution and unnecessarily complicates the path forward for a US-UK trade deal". They urged the UK to “reconsider this punitive action against its ally”.

"How the UK/US trade war position will fall out is up in the air – I doubt even the US knows long-term, pending the outcome of the US elections - but the UK is not going to want to give up this particular playing card at the first off in the trade negotiations, so even if DST is ultimately a dead duck, expect it to be with us for a little while yet unless something fundamental shifts in the political arena," Eloise Walker said.