The Organisation for Economic Cooperation and Development (OECD)/G20 “Inclusive Framework” on base erosion and profit shifting (BEPS) is considering several proposals to develop a consensus-based solution to address the tax challenges arising from the digitalization of the economy. The outcome may affect multinational entities (MNEs)—regardless of their involvement with or use of a digitalized business model.
This report (a version of which was published in the “International Bureau of Fiscal Documentation” (IBFD), authored by KPMG tax professionals Doreen Liu, Jaap Reyneveld, and Charlotte Straatman) discusses the environment in which these proposals were developed and considers potential perspectives and implications for countries and for MNEs.
New taxing right
Tax challenges related to the digitalization of the economy have been a top priority for several jurisdictions. To address these challenges, the OECD/G20 BEPS Inclusive Framework is considering several proposals that are organized into Pillar One proposals and Pillar Two proposals.
The Pillar One proposals discuss the possibility of introducing a “new taxing right” that would aim at allocating more profits and more taxing rights to market jurisdictions.
The scope of businesses subject to the new taxing right still must be determined. The new taxing right could be ring-fenced and apply only to certain highly digitalized businesses—but it also could have a much broader reach. Thus, MNEs operating in various industries that are not necessarily associated with highly digitalized business could be affected.
BEPS Action 1—tax challenges of the digital economy
The BEPS Action 1 final report (October 2015) included an analysis of the tax challenges of the digital economy.
While there were no recommendations made, it was noted that countries could introduce these measures in their domestic law to address BEPS issues for the short term and to gain practical experience that could help “coordinated domestic law approaches and [inform] possible future discussions.” Since then, some countries have introduced or have announced that they plan to introduce unilateral measures.
Among these unilateral initiatives are digital permanent establishments, permanent establishments based on significant economic presence, and a “digital services tax” that is targeted at certain highly digitalized business models and levies a tax on in-scope revenues.
While these unilateral initiatives may share certain commonalities, they also present challenges for taxpayer compliance as well as the possibility of double taxation if there is no tax credit for the digital services tax in the counterparty jurisdiction.
During their meeting in March 2017, the G20 finance ministers renewed the mandate of the TFDE to deliver an interim report by April 2018 and a final report in 2020.
Interim report (March 2018)
The 2018 interim report (March 2018) contains the Inclusive Framework’s agreed “direction of work” on digitalization through to 2020, and explores the implications of digitalization on business models and value creation. The report identified three characteristics frequently observed in certain highly digitalized business models:
These characteristics—while applicable for highly digitalized business models—are not exclusive or unique to digitalized business models, and thus give rise to doubts of certain countries in the Inclusive Framework as to whether it is possible to find a ring-fenced solution (i.e., an approach that limits its scope to the typical multinationals that the public associates with the digital economy).
Inclusive Framework releases policy note and announces Pillar One and Pillar Two proposals (January 2019)
The Inclusive Framework earlier this year released a policy note stating that there was an agreement to explore proposals involving two pillars:
Public consultation document and meeting (March 2019)
The public consultation document requested comments from stakeholders on policy and technical aspects on certain high-level proposals. Some 200 written comments were submitted and discussed at the public consultation meeting in March 2019. Read TaxNewsFlash
Programme of work (May 2019)
The Inclusive Framework in May 2019 released a “Programme of Work” that sets forth a roadmap to finding a consensus-based solution and described several proposals on new profit allocation and nexus rules.
At present, it appears the OECD intends to hold another public consultation later this year, as early as in the fall of 2019. The Inclusive Framework aims to agree on the outlines of the architecture and to reduce the number of proposals on new profit allocation and nexus rules by January 2020, and to deliver a consensus-based unified solution with a final report by the end of 2020.
The focus of the discussion on the tax challenges of the digitalization of the economy—referred to as “BEPS 2.0”—is different from discussions that have taken place in the context of the BEPS action plan, which focused on measures to address instances of tax avoidance and double non-taxation. The starting point of the BEPS action plan was to continue applying the arm’s length principle as the basis for profit allocation; however, BEPS 2.0 does not necessarily consider the arm’s length principle as the “holy grail” for profit allocation. Rather, BEPS 2.0 explicitly focuses on the re-allocation of the taxable base of MNEs among jurisdictions.
What would countries want to consider? Some jurisdictions may have a clear interest in developing new taxing rights under BEPS 2.0 that would allocate more profits generated by consumers within their borders that use services or buy products from MNEs that may have limited or no physical presence in their country. Other countries where MNEs have located their headquarters may have an interest in limiting the impact of any new taxing right, because these countries would want to reap the benefits of the investment and market risks undertaken by the headquarters/entrepreneur entities resident in their country. Developing countries may have the perspective that any new taxing approach should be simple and administrable given their limited resources to enforce the taxing rights in their country.
MNEs need to be aware there could be some “cost” to gaining certainty in the current global tax landscape (i.e., the greater taxing rights in market jurisdictions could increase MNEs’ global tax burden). However, for the highly digitalized MNEs that are targeted by the digital services taxes, a failure of jurisdictions to reach a consensus solution may be much less preferred. MNEs are generally seeking a solution that is simple to execute, does not entail uncertainty, and does not lead to double or multiple taxation. In the meantime, MNEs need to understand the possible implications of the proposals, and begin to assess and examine the impact of the proposals on their businesses.
For more information, contact a KPMG tax professional:
Doreen Liu | +1 (973) 912-6507 | email@example.com
Jaap Reyneveld | +318890 91114 | Reyneveld.Jaap@kpmg.com
Charlotte Straatman | +318890 91869 | Straatman.Charlotte@kpmg.com
The KPMG name and logo are trademarks used under license by the independent member firms of the KPMG global organization. KPMG International Limited is a private English company limited by guarantee and does not provide services to clients. No member firm has any authority to obligate or bind KPMG International or any other member firm vis-à-vis third parties, nor does KPMG International have any such authority to obligate or bind any member firm. The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation. For more information, contact KPMG's Federal Tax Legislative and Regulatory Services Group at: + 1 202 533 4366, 1801 K Street NW, Washington, DC 20006.