There was not much love for the government’s Digital Services Tax (DST) at the latest CIOT/Institute for Fiscal Studies (IFS) debate.
The debate, chaired by IFS Director Paul Johnson, was held at the British Academy in London on 18 November 2019. An HM Treasury representative had been scheduled to take part but pre-election ‘purdah’ meant they had to pull out.
CIOT President Glyn Fullelove put the DST into historical perspective for the audience. There was a lot of corporate tax avoidance going in the UK ten years ago but HMRC were making progress on this in the courts, and bringing this to public attention, he said. This narrative was picked up by the UK media and the public and applied, partly as a reaction to austerity, to a different kind of tax planning by multinationals. This was “base erosion and profit shifting” (BEPS) , which exploited differences between tax systems rather than seeking to avoid tax in any one system. This gave multinationals opportunities to reduce tax not open to other taxpayers, which was, not unreasonably, viewed as unfair - an early example being the furore over Starbucks; BEPS also became closely associated with large “digital” companies.
These concerns were shared in other countries and, as a result, the G20 asked the OECD to examine the problem and propose solutions, said Fullelove. Two questions could have been asked: how to stop base erosion; and should we have a different base that is not so easily eroded. India and China had actually been calling for that second question to be asked for some time because they believed the existing system was biased towards where production was controlled, and where intangible property was held as opposed to places where sales were made. However, that question was not initially posed, and the OECD was asked to consider instead whether BEPS was primarily a product of the digital economy. The OECD decided that the answer was this was no, but that digital multinationals were just particularly good at base erosion and profit shifting. Accordingly the OECD focused on attempting to eliminate base eroding techniques, rather than reviewing the allocation of the tax base.
Following these efforts, whilst there is still some ‘tidying up’ needed (which the OECD is still working on) we are in sight of a situation where multinationals are paying tax somewhere on all of their profits, Fullelove said. But the biggest single result of “the BEPS project” is that US companies are paying more tax in the US, rather than a significant re-distribution of taxing rights. Unilateral measures are being brought in by other nations dissatisfied at this result. Hence, we have a debate about who has taxing rights over “digital profits”, with European countries now echoing China and India of a few years ago, and saying they want more of the tax base.
Closing his speech, Fullelove touched on the formulary apportionment proposed by Labour, which he said would present some challenges if gone ahead with unilaterally.
Richard Collier is a Senior Tax Advisor at the OECD. Although he and the OECD do not support the UK DST, he said he was not surprised at it, given the tax tensions in the international system. He outlined the challenges which had led to these tensions: concerns that the current tax system is outpaced and made inadequate by globalisation; the BEPS project, while unprecedented, has not succeeded in dealing with all cases of abuse; dissatisfaction of some states with fundamental allocation of taxing rights (leading to wars of attrition in relation to transfer pricing); perceptions that an allocation system based on the arms-length principle (ALP) is ineffective and too easy to manipulate; and uncertainty about limits of what can and could be achieved on a multilateral basis.
Collier counted 15 territories in Europe which have introduced or are considering a DST, plus seven in Asia, two in Africa and two in the Americas. He expects to see more skirmishes between countries in the future along the lines of that between France and the US.
Collier said the OECD’s ‘Pillar One’ is proposing the biggest change to the international tax system in 100 years: He went on: “Part of the approach is to introduce a new group approach to allocation of income to replace in part or overlay on top of the single legal entity perspective for a taxing right.”
The basis of this new taxing right is market and user jurisdiction, not traditional supply side analysis. There is also an overhaul of the bilateral dispute mechanism going on, he added.
The OECD is trying to build a new infrastructure for a new taxing right, explained Collier. This could mean using consolidated accounts in ways not used before and doing business line segmentation, for example. Then there is the challenge of integrating new taxing rights and new income allocation systems with the existing system (because ALP already taxes 100 per cent of income from multinational groups). The OECD is trying to solve new and novel problems, and it needs to get countries to agree to changes when there will be winners and losers. We cannot overestimate the scale of these challenges, he said.
Collier closed by saying that, in the absence of an OECD approach, he was sceptical that those countries with or planning DSTs will magically see the error of their ways, and the next stop is ‘tax wars’ retaliation and counter-retaliation. If you do not like DSTs in the real world you will need an alternative approach, he said.
Ali Kennedy, Vice President for Group Tax at Sophos Group plc, said the business community dislikes the UK’s DST but supports the OECD’s efforts. Under the DST business will need to look at legislation that they have never had to apply before, with no precedent, and quickly decide if they are inside or outside the tax – which is not straightforward. There is then a challenge to identify users creating revenue streams where businesses will not have recorded them in the past, and when there is no other reason apart from the DST to do so.
Kennedy said that the UK risks alienating the technology industry. She has concerns such companies may look i to leave the UK because it is not perceived as a tech-business friendly environment at the moment, which is a pity. She is pleased to see the DST is out of the Senior Accounting Officer regime but has concerns that companies are required to sign off the figures as ‘correct and complete’ when it is a new tax with high degree of judgment of what revenue stream should be caught. Business should lobby for a specialist DST team at HMRC, she said, trained in dealing with relevant clearance mechanisms.
Sophos is looking at increased costs in designing accounting systems to manage DST, Kennedy said. Is it proportionate to expect business to do all this work for what is supposed to be a temporary tax, she wondered, referring to a survey which found that 61 per cent of in-scope businesses do not track or split advertising revenue by user location. You can only track users who want to be tracked, she observed. She suspects reporting will be largely guesswork, with disputes rife.
The final speaker was Mike Devereux, Director of the Oxford University Centre for Business Taxation. Devereux suggested the rational of DST is not to deal with unfair competition (e.g. bookshops v Amazon) and actually about raising incremental tax revenue. He described it as a ‘Sutton Tax’, referencing the robber Willie Sutton who, when asked why he robbed banks, was purported to have replied that it was because that was where the money was.
In contrast to Treasury claims, taxing where value is created is not the basis of the current tax system and it has no intellectual coherence, Devereux said. He went as far as to say it would be the worst possible way to allocate taxing rights. The issues he has with DST, are that it is based on revenue; arbitrarily ring-fences social media platforms, internet search engines and online marketplaces; and it will create distortions due to the limited tax base. He added that it will raise less than one per cent of the revenue corporation tax raises.
Devereux concluded that there is a case for moving towards where users are and where customers are, as the place where we tax multinational profit. He said the DST is not the best way of doing that but at least it has brought that idea onto the table and that is a step forward from where we were six years ago, when he spoke at the first CIOT/IFS debate on this topic.
During a 30 minute Q&A session with the audience, Devereux was asked if the UK would be winners or losers under a new system. In the event of a move to a pure destination-based tax it would depend on balance of trade, he said. Collier stressed that the OECD was not approaching this issue on the basis that it was a staggered approach leading to a destination-based system, as some countries explicitly did not want such a system.
Another question was, if we are taxing destination (ie sales) why not use VAT? Devereux said it is a very good idea. It would only make sense if all countries have a VAT system, added Collier. Fullelove posed the question: if you are trying to tax owners of a company, is corporation tax the way to do it or is more of a mix needed?
A questioner from LSE asked about costs to government and business of DST. Kennedy said Sophos have a lead time of about 18 months to make changes to IT systems; at the moment they are still grappling with whether Sophos are in or out of DST’s scope.
Stuart Adam of the IFS asked if the unpopularity of the DST would galvanise business support behind OECD proposals. Kennedy said she is happy to work with OECD proposals but priority will need to be given to dispute resolution. Richard Collier added that we will know where we are in the course of 2020.
A video of the debate on Digital Services Tax is below (note: you may need to scroll to the beginning of the recording):
From April 2020, the UK Government will introduce a new two per cent tax on the revenues of search engines, social media platforms and online marketplaces which derive value from UK users. These businesses will be liable to Digital Services Tax when the group’s worldwide revenues from these digital activities are more than £500 million and more than £25 million of these revenues are derived from UK users. If the group’s revenues exceed these thresholds, its revenues derived from UK users will be taxed at a rate of two per cent. There is an allowance of £25 million, which means a group’s first £25 million of revenues derived from UK users will not be subject to Digital Services Tax. HMRC claim this measure is not expected to have any significant macroeconomic impacts and that the measure will be monitored through information collected from receipts.