New Tax Rules For The Digital Economy (And Other Economies Too )

The idea to tax the digital economy shifts slowly towards new taxation rights and new profit allocation rules that may affect more than just tech companies.

On 9 October 2019, the OECD published a proposal to tax Multinational Enterprises ("MNE") wherever they have significant B2C relations (the "Unified Approach Proposal"). The Unified Approach Proposal is the result of ongoing discussion at the OECD level and aims notably to answer the question of how to allocate taxing rights on income generated from cross-border activities in the digital age among different jurisdictions.

Despite the first initiatives aimed at taxing big digital companies such as GAFA (Google, Amazon, Facebook and Apple), the scope of the Unified Approach Proposal goes even further. It now aims at amending the current international taxation principles more generally with a view to adapt them to the digitalisation of the economy and to introduce a new taxing right for market jurisdictions.

WHY IS THE UNIFIED APPROACH PROPOSAL IMPORTANT?

The Unified Approach Proposal seeks to create a new model for allocating profit to different main jurisdictions.

Impact for the global economy and relations between States

The model addresses clear unease at how profits are taxed in the digital economy. However, the proposals have morphed over time into a proposal to shift profit from producer States to consumer States. This will have consequences for the relations between States with economies that produce high value goods and services and States with large consumer populations.

Impact for businesses

Most businesses are prepared to pay a fair level of tax but seek to pay tax on profits in one location in a manner that is clear and manageable from a compliance perspective.

The Unified Approach Proposal does acknowledge the risk of double taxation but is relatively silent on the potential compliance cost and overall complexity. Businesses should engage with the consultation process (see below) to ensure that the very practical issues the Unified Approach Proposal raises are understood and that any final proposals in the future do not create a disproportionate cost of compliance, which for even medium size businesses, could act as a barrier to cross-border trade and potentially increase the concentration of economic power in large companies.

BACKGROUND OF THE UNIFIED APPROACH PROPOSAL

The tax challenges of the digitalisation of the economy were identified as one of the main areas of focus of the Base Erosion and Profit Shifting ("BEPS") Action Plan, leading to the 2015 BEPS Action 1 Report. In March 2017, the G20 Finance Ministers mandated the Task Force on the Digital Economy ("TFDE"), through the Inclusive Framework on BEPS, to deliver an interim report on the implications of digitalisation on taxation by April 2018 and a final report in 2020.

The Tax Challenges Arising from Digitalisation - Interim Report dated March 2018 (the "Interim Report") provided an in-depth analysis of new and changing business models that enabled the identification of three characteristics frequently observed in certain highly digitalised business models: scale without mass, heavy reliance on intangible assets, and the importance of data, user participation and their synergies with intangible assets.

Since then, continuing discussions and proposals were articulated around two pillars which could form the basis for consensus: Pillar One focuses on the allocation of taxing rights by suggesting modifications to the rules on profit allocation and nexus and; Pillar Two focuses more on unresolved BEPS issues.

On 13 February 2019, the OECD released a consultation document "Addressing the Tax Challenges of the Digitalisation of the Economy" setting out three proposals to revise existing profit allocation and nexus rules (Pillar One). These proposals were based on the concepts of "user participation," "marketing intangibles" and "significant economic presence" (the "Three Proposals"). The consultation document also set out a fourth, global anti-base erosion proposal to allow countries to tax profits...