The uncertainties for US and non-US multinational corporations (MNCs) created by global tax issues and disputes likely will remain for some time. The impact of US tax reform continues to be closely monitored by other countries as they consider whether to introduce their own unilateral and multilateral reforms.
The OECD Inclusive Framework – which is committed to implementing the BEPS minimum standards – now has nearly 140 member countries and continues to expand. Under a mandate of the G20, the OECD seeks consensus among this large and diverse group of countries on the implementation and monitoring of the BEPS Project, and on the accelerated project reviewing the tax challenges of digitalization.
Meanwhile, the EU has taken a more active role in tax policy, implementing (and going beyond) the BEPS recommendations, reviewing and overruling domestic tax measures and rulings of Member States, and seeking agreement among its members and the international community regarding short-term and long-term measures to tax digital activities.
The taxation of the digitalization of the global economy continues to be a focus for policymakers and MNCs.
Following the G20’s request in 2017 for the OECD to accelerate its post-BEPS review of the tax challenges of digitalization, 2018 saw significant developments in terms of the OECD’s progress in exploring a global solution that could be agreed to by the Inclusive Framework countries. At the same time, unilateral measures have been developed by individual countries and the EU in lieu of a global agreement. Proponents of regional and unilateral measures claim they are necessary to encourage international agreement and meet short-term revenue needs and perceptions of fairness in the tax system. However, some US officials publicly have expressed concern regarding these measures, arguing that they create transatlantic trade barriers by discriminating against US businesses.
Building on the 2015 BEPS Action 1 Report, the OECD in March 2018 released an Interim Report that included an in-depth analysis of the changes to business models and value creation arising from digitalization. The Interim Report stated that the following characteristics are frequently observed in certain highly digitalized business models:
Describing the potential implications for international tax rules, the Interim Report identified the positions that different countries hold, which drive their approach to possible solutions. Some countries take the position that no action is needed, others consider there is a need for action that would take into account user contributions (i.e., in ‘digital’ business models), and still others consider that any changes should apply to the economy more broadly. The Interim Report paved the way for the OECD to move forward toward a long-term multilateral solution in the next phase of work.
In early 2019 the OECD announced that the Inclusive Framework would step up efforts toward reaching a global solution to the growing debate over how to best tax multinational enterprises in a rapidly digitizing economy. Its ongoing work focuses on two central ‘pillars’ identified in a Policy Note released after the Inclusive Framework’s January 2019 meeting.
The first pillar focuses on how the existing rules that divide up the right to tax the income of multinational enterprises among jurisdictions, including traditional transfer-pricing rules and the arm’s-length principle, could be modified to take into account the changes that digitalization has brought to the world economy. This requires a re-examination of the so-called ‘nexus’ rules – namely how to determine the connection a business has with a given jurisdiction to produce a taxing right – and the rules that govern how much profit should be allocated to the business conducted there.
The Inclusive Framework has considered proposals based on the concepts of marketing intangibles, user contribution, and significant economic presence, and how they can be used to modernize the international tax system to address the tax challenges of digitalization. Currently, the Inclusive Framework is considering a ‘Unified Approach’ to Pillar One that would create a new taxing right for market jurisdictions even when a MNC does not have a physical presence there, and would create a new three-tiered profit allocation system that departs from the arm’s-length principle in some respects. The new system would likely introduce enhanced binding dispute tools to better prevent and resolve transfer pricing controversies.
A second pillar aims to resolve remaining BEPS issues and explores two sets of interlocking rules designed to give jurisdictions a remedy in cases where income is subject to no or only very low taxation. The main components of Pillar Two are an income inclusion regime (based on a global foreign minimum tax rate) and a denial of deductions regime for undertaxed payments.
The designs of both pillars are subject to further negotiation and discussion among the members of the Inclusive Framework throughout 2020. The OECD hopes to be able to achieve a political consensus in 2020 and present a report to the G20 by the end of the year, with further efforts to implement any new system in the forthcoming years.
Partner, US Inbounds Tax, PwC US