The Organisation for Economic Cooperation and Development (OECD) yesterday released a “policy note” concerning the digital economy. The OECD policy note—“Addressing the Tax Challenges of the Digitalised Economy”—was approved by the entire Inclusive Framework (over 160 countries that have come together for the purpose of achieving a mutually agreed solution to these challenges) and has the consensus of a broad cross-section of developed and developing economies.
Various KPMG member firms have considered the OECD policy note and offer the following initial impressions.
The Inclusive Framework’s future discussions will focus, on a “without prejudice” basis, on two central “pillars” that it has identified as the potential basis for a multilateral solution to the taxation of highly digitalised business models. The first of these has been on the agenda of the Inclusive Framework for some time, but the second is a relatively recent development:
Pillar 1 – modification of the international rules that divide up the right to tax the income of multinational enterprises (MNEs) among jurisdictions. This would include a re-examination of the so-called “nexus” rules that determine whether an MNE has a taxable connection with a particular jurisdiction. It would also require work to be done on the rules which govern how much profit is allocated. The Inclusive Framework is exploring proposals to allocate more taxing rights to market or user jurisdictions, in situations when value may be perceived as being created through user participation, and this is not currently recognised in the framework for allocating profits. Such proposals would go beyond the current “arm’s length” principle of profit allocation that currently underpins transfer pricing rules.
Pillar 2 – resolution of remaining base erosion and profit shifting (BEPS) issues through exploring two sets of interlocking rules, designed to provide a remedy when income is subject to very low or no taxation. This pillar could involve the introduction of what is described as an “income inclusion” rule and a tax on base erosion payments (which could have some similarities with the U.S. “GILTI” and “BEAT” regimes, respectively).
The Inclusive Framework will shortly issue a consultation document describing these two pillars in more detail, and will also hold two days of public consultation in March 2019. Inclusive Framework members also renewed their commitment to reaching a consensus-based long-term solution by 2020. The challenge will be coming up with a set of solutions that is not only broadly acceptable but also practically workable, particularly in the context of the stated desire to have taxation only when there is economic profit, and not to cause double taxation. The coming months are therefore of great importance for the international community, and success will depend on the ability to prioritise long-term sustainable outcomes over immediate wins whose benefits may prove to be transient.
Read a January 2019 report prepared by the KPMG member firm in Australia
The proposals being put forward in the OECD’s policy note could affect all businesses—going well beyond the highly digitalised "platform" business models on which so much attention has been focused in recent years. New rules would apply in place of current international tax rules—from physical presence permanent establishment to the traditional transfer pricing arm’s length principle—for in-scope enterprises.
Work would proceed on these rules on a “without prejudice” basis, meaning that countries would not be committed to particular outcomes. Nonetheless, it is clear that major changes are on the horizon. For businesses with outbound or inbound operations—and whether highly digitalised or more traditional businesses—the rules emerging could have a profound impact on their global effective tax rates, their internal recordkeeping and tax risk management systems, their corporate structures, and their market competitiveness. A full consultation paper from the OECD is set to be released by 12 February 2019, allowing three weeks for comments before the 13 March 2019 public consultation. Given the profound changes under consideration, businesses need to study the document in detail, and raise concerns and issues.
In view of the 18 months set between the June 2019 G20 meeting and the end-of-2020 completion date, OECD officials have observed that the task is bigger than the BEPS project, and with less time.
Read a January 2019 report prepared by the KPMG member firm in China
If a consensus is reached on a revised international tax framework from this current OECD work (referred to as “BEPS 2.0”), the outcome could affect MNE choices for the location of business activity. It could also affect the amount of tax and related compliance costs for MNEs of conducting business internationally with a “knock” on impact on the cost of goods and services to consumers.
Ireland’s corporation tax policy offers businesses based in Ireland a comparatively low corporation tax rate of 12.5% and is based on profits attributable to economic activity and substance in Ireland. Depending on the outcome of the two main pillars of BEPS 2.0, the comparative attractiveness of Ireland’s corporation tax offering may also depend on two further elements which could be:
The OECD’s policy paper notes that the proposals do not change the fact that countries remain free to set their own tax rates. It recognises that new rules must ensure a level playing field between all jurisdictions; large or small, developed or developing.
The OECD policy paper includes principles to guide these work streams. These include finding the right balance between accuracy and simplicity. Any new set of rules must be operable by both business and tax administrations. They are likely to include the development of new measures to be adopted into double tax treaties. The guiding principles set out in the policy paper also seek to determine that new rules do not result in taxation where there is no economic profit and do not result in double taxation.
Read a January 2019 report prepared by the KPMG member firm in Ireland
The OEDC’s Policy Note sets out some potential ways to reform the taxation of the digital economy, and is intended to facilitate the emergence of a consensus view on this topic. The Policy Note sets out four proposals (which will be explored by the Inclusive Framework over the coming months on a without prejudice basis), and divides them into two “pillars”—
The key next steps include:
Read a February 2019 report prepared by the KPMG member firm in the UK
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