Below is an extended version of a comment article written by the Chair of CIOT's Technical Committee which appeared in City AM on March 9 2018.
“UK tax take on Rolls-Royce profits to fall as rules change to tax sales where the customer is based” is the sort of headline which might cause concern amongst the general public. The thought that iconic UK brands, with a large presence here, might pay less tax here, and more tax in countries where their customers are based, where they might only employ a few people, would seem offensive to many individual UK taxpayers. However, exactly this type of approach is being considered by many governments as a way of dealing with a perceived lack of tax take from internet companies such as Google, Facebook, ebay and so on.
The current international tax framework is based on taxing profits where value is created, rather than at the point of sale. (Tax does of course arise at the point of sale as well – in the UK we call it “VAT”, but that is perceived as falling on the customer, not the profits of the company selling the product). This means that if an overseas company does nothing other than sell into a market, and simply ships its goods or services here, it will have no profits here to tax.
The large internet companies I have mentioned generally do have some presence here; but this is often mainly in sales and support, rather than the “creative hub” of the company. There is value created by such activity, but it is only a small slice of the whole; so the amount of tax these companies pay here is small.
However, the view persists that these giants have such an influence on our lives, they should be paying more. This has led to many calling for taxes on revenues from UK customers, rather than on profits. But follow that through, assume every country does the same and extend it to the whole economy (and isn’t the whole company becoming digital?) and you end up with UK household names being taxed more heavily overseas than in the UK. Do we really want that to happen?
The UK government doesn’t seem to think so. In a “position paper” issued last year, HM Treasury (HMT) reaffirmed their commitment to the “tax where value is created” principle. However, in an interesting development they suggested that the digital age has created a new source of value. Where user participation on an internet platform is vital to the business model (e.g. it drives advertising revenue, or fees from people using the site to sell) this user participation can itself be regarded as a source of value. Currently, this source of value creation is not generally considered when dividing up the tax take on a company’s profits; so arguably some profits may be going untaxed, or taxed in the wrong place. Importantly, it is not being suggested that this is “tax avoidance” – more that the current system simply hasn’t caught up with the digital age.
In our recent submission to HMT on their paper, the Chartered Institute of Taxation (CIOT) welcomed the government’s commitment to the value creation principle; and conceptually, we can see the case for new indicators of value creation, in particular user participation. However there are a number a key issues that need to be dealt with before we see significant changes to how the internet giants are taxed. Changes need to be agreed on a multilateral basis, especially if what is being considered is a reallocation of tax rights from one country to another rather than an additional tax take; defining what is a platform dependent on user participation, rather than a platform primarily selling content to customers could be difficult, and how value from user participation can be measured is not entirely clear. There is plenty of scope for governments to disagree amongst themselves, and with taxpayers, on how these issues should be resolved, so we expect a significant amount of controversy before any such measures are agreed.
It also needs to be born in mind that the amount of tax accruing to the countries where there is “user-participation” is likely to be a small part of the whole tax take of the companies involved. Ultimately, most of the value created is in the development and maintenance of the platforms, not the user participation.
Despite these problems, keeping with a value based approach is preferable to simply taxing revenues, which moves the focus of taxation from innovation and product creation to mere consumption. Worryingly, HMT does suggest taxes on revenue could be used as an “interim measure”, and the EU commission seems to be moving towards a revenue based approach. So those headlines about Rolls-Royce (or other iconic names) or BMW if you are in Germany may come about after all; be careful what you wish for!
By Glyn Fullelove, Chair of CIOT's Technical Committee