Melissa Dejong, OECD Centre for Tax Policy and Administration
Tax has been a high profile topic in recent years. People may often think of large scale tax avoidance by huge multinationals – which the OECD has estimated at between USD 100 – 240 billion in lost revenue annually. However, tax evasion and fraud goes on every day, and may be happening right in your local restaurant, bar, grocery store or hairdresser.
In the digital world, every day tax evasion can be facilitated even more, with taxpayers using readily available technology to evade tax. Previously, tax evasion in small businesses could be undertaken simply by accepting cash under the table, or keeping a separate set of books.
Now, the same outcomes can be achieved even more efficiently, using software such as “zappers” and “phantomware.” Zappers physically prevent sales appearing on the records. Phantomware creates virtual sales terminals for the same purpose. Both allow businesses to selectively delete or reduce their sales figures, without leaving a trace of any alteration. The taxpayer reports lower sales and lower taxable income, all the while retaining the actual profit. This type of evasion and fraud (called “electronic sales suppression”) makes it hard for tax authorities to detect any discrepancies. These types of tax evasion technologies are also now becoming available over the internet – which can make it harder for tax authorities to control and penalise.
Not only that, but taxpayers can also evade tax by over-reporting their deductions. This can occur by creating false invoices that look genuine, but where no outgoings have actually been paid. This fraudulently reduces taxable income, causing substantial revenue losses to the government. For example, in the Slovak Republic, during the years 2014 and 2015 the amount of risky VAT detected in domestic invoicing fraud was more than half a billion euro.
Tax authorities also face challenges in the online sharing economy, through ride-sharing or home-sharing online marketplaces. These online sharing platforms – which are of course legal – can generate taxable income for taxpayers, but which may not be reported and stay under the radar of the tax authority.
However, tax authorities are catching up.
The OECD’s new report Technology Tools to Tackle Tax Evasion and Tax Fraud shows how technology is being used by tax administrations around the world as a powerful tool to swiftly identify and tackle tax evasion and tax fraud. The report details countries’ technical experience and revenue successes from implementing technology tools, particularly to counter electronic sales suppression and false invoicing.
It demonstrates how easy and effective these technology tools can be. For example, a number of technology solutions to combat electronic sales suppression are available, which can include a tamper-proof black box installed in point of sales machines as well as real-time transaction reporting to the tax authority. The results are impressive, such as:
- Sweden has experienced increased tax revenue by EUR 300 million per annum.
- Mexico brought 4.2 million micro businesses into the formal economy as a result of e-invoicing.
- Rwanda saw a VAT increase of 20% within two years of introducing its solution.
- Hungary saw VAT revenue increase by 15% in the first year of operation, which more than covered the implementation costs.
- In Quebec in Canada, not only was substantial revenue recovered, but the solution also increased the efficiency for the tax authority to conduct audits, with the number of inspections being increased from 120 to 8000 per year.
The report also shares successes in using technology to tackle false invoicing. Countries have already shown that using electronic invoicing solutions can prevent and reduce tax evasion, such as where invoices can be verified as authentic using digital signatures and online verification tools. It can also make tax compliance easier for businesses where electronic documentation can replace paper-based audits or reporting obligations.
Finally, the report describes the emerging tools tax authorities are using to detect online business activity, and notes that this is likely to be a growing area for tax authorities in the digital world.
As well as detailing the technical features of these solutions, the report also explains best practices for effectively implementing these solutions. By sharing these successes and best practices, it is hoped that other tax authorities can leverage this information and give consideration to how they might quickly implement similar solutions. Not only can this mean more revenue for public services, but it has a preventative and deterrent effect, and levels the playing field for compliant businesses that have already been paying their fair share of taxes.
This report is part of an ongoing series of reports on tax and technology, which is produced by the OECD’s Task Force on Tax Crime and Other Crimes. The Task Force furthers the work of the Oslo Dialogue, which promotes a whole of government approach to fighting tax crimes and illicit flows.
Statement from OECD Secretary-General Angel Gurría
The “Panama Papers” revelations have shone the light on Panama’s culture and practice of secrecy. Panama is the last major holdout that continues to allow funds to be hidden offshore from tax and law enforcement authorities. The OECD has been leading a global crackdown on these practices since 2009, working hand-in-hand with the G20. Through the Global Forum on Transparency and Exchange of Information, we have constantly and consistently warned of the risks of countries like Panama failing to comply with the international tax transparency standards. Just a few weeks ago, we told G20 Finance Ministers that Panama was back-tracking on its commitment to automatic exchange of financial account information. The consequences of Panama’s failure to meet the international tax transparency standards are now out there in full public view. Panama must put its house in order, by immediately implementing these standards.
While the “Panama Papers” data expose nefarious activities, they also show a decline in the use of offshore companies and bearer share companies, which is a testament to the incredible transformation effected in the last 7 years to establish robust international standards on tax transparency, including on beneficial ownership: 132 jurisdictions have committed to the standard on exchange of information ‘on request.’ Of those, 96 jurisdictions will introduce automatic exchange of financial account information within the next 2 years. Almost 100 jurisdictions have joined the Multilateral Convention on Mutual Administrative Assistance in Tax Matters. As a result of our in-depth peer review process, the use of bearer share companies is close to being eliminated across the world, and the beneficial ownership rules have been strengthened to ensure that information is now available to tax authorities when they need it.
Establishing global standards and making commitments are just the start though. Effective implementation is the key to lifting the veil of secrecy once and for all and eradicating tax evasion. The time has come to make sure that no jurisdiction can benefit from failing to meet their commitments. In the run-up to September’s G20 Leaders Summit in Hangzhou, we must use every opportunity to deliver. The next G20 Finance Ministers meetings and the Global Anti-Corruption summit taking place in London in May will be critical.
Q&A on Panama Papers
What does the release of the “Panama Papers” actually tell us?
The Panama Papers describe in detail how a veil of secrecy is still allowing funds to be transferred between jurisdictions and held offshore, where it can be hidden from tax authorities. Panama’s consistent failure to fully adhere to and comply with international standards monitored by the Global Forum on Transparency and Exchange of Information for Tax Purposes is facilitating the use of offshore financial centres for hiding funds, depriving governments of tax revenue and often aiding and abetting criminal behaviour.
The Panamanian government says that the OECD has recognised its efforts to improve access to information about beneficial ownership of entities and its willingness to share such information with authorities in other jurisdictions. Is this actually true?
The OECD has been working for more than seven years to establish robust international standards on tax transparency and ensure their implementation. In 2009, when the initial objective of the Global Forum was to reach international agreement on the Exchange of Information on request, most countries and jurisdictions were quick to get on board, while a few, including Panama, were reluctant to make commitments or move forward along with the rest of the international community. After many years of resistance, Panama updated its domestic legislation in 2015, which provided the basis upon which to engage in the phase of the review process that assesses whether effective information exchange is actually taking place. Panama remains well behind most other comparable international financial centres.
To push the transparency agenda forward, the G20 identified Automatic Exchange of Information as a new international standard in 2014, and almost 100 jurisdictions and countries have already agreed to implement it within the next two years. Whilst almost all international financial centres including Bermuda, the Cayman Islands, Hong Kong, Jersey, Singapore, and Switzerland have agreed to do so, Panama has so far refused to make the same commitment. As part of its ongoing fight against opacity in the financial sector, the OECD will continue monitoring Panama’s commitment to and application of international standards, and continue reporting to the international community on the issue.
Is Panama the only outlier, or is it the tip of the iceberg? Are there other jurisdictions posing similar problems?
Having conducted well over 200 Phase 1 and 2 peer reviews in the past 7 years, the Global Forum has identified a number of member countries and jurisdictions whose legal and regulatory framework for the exchange of information are as yet not up to international standards. They include Guatemala, Kazakhstan, Lebanon, Liberia, Micronesia, Nauru, Trinidad and Tobago and Vanuatu. It is clear that there are other jurisdictions where a lack of information on beneficial ownership of corporate and other entities is facilitating illicit flows.
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The OECD presented today the final package of measures for a comprehensive, coherent and co-ordinated reform of the international tax rules to be discussed by G20 Finance Ministers at their meeting on 8 October, in Lima, Peru. The OECD/G20 Base Erosion and Profit Shifting (BEPS) Project provides governments with solutions for closing the gaps in existing international rules that allow corporate profits to « disappear » or be artificially shifted to low/no tax environments, where little or no economic activity takes place. The BEPS measures were agreed after a transparent and intensive two-year consultation process between OECD, G20 and developing countries and stakeholders from business, labour, academia and civil society organisations.
Revenue losses from BEPS are conservatively estimated at $100-240 billion annually, or anywhere from 4-10% of global corporate income tax (CIT) revenues. Given developing countries’ greater reliance on CIT revenues as a percentage of tax revenue, the impact of BEPS on these countries is particularly significant.
Undertaken at the request of the G20 Leaders, the work to address BEPS is based on the 2013 G20/OECD BEPS Action Plan, which identified 15 actions to put an end to international tax avoidance. The plan was structured around three fundamental pillars: introducing coherence in the domestic rules that affect cross-border activities; reinforcing substance requirements in the existing international standards, to ensure alignment of taxation with the location of economic activity and value creation; and improving transparency, as well as certainty for businesses and governments.
The final package of BEPS measures includes new minimum standards on: country-by-country reporting, which for the first time will give tax administrations a global picture of the operations of multinational enterprises; treaty shopping, to put an end to the use of conduit companies to channel investments; curbing harmful tax practices, in particular in the area of intellectual property and through automatic exchange of tax rulings; and effective mutual agreement procedures, to ensure that the fight against double non-taxation does not result in double taxation.
The BEPS package also revises the guidance on the application of transfer pricing rules to prevent taxpayers from using so-called “cash box” entities to shelter profits in low or no-tax jurisdictions, and redefines the key concept of Permanent Establishment, to curb arrangements which avoid the creation of a taxable presence in a country by reliance on an outdated definition.
The BEPS package offers governments a series of new measures to be implemented through domestic law changes, including strengthened rules on Controlled Foreign Corporations, a common approach to limiting base erosion through interest deductibility and new rules to prevent hybrid mismatch arrangements from making profits disappear for tax purposes through the use of complex financial instruments.
Nearly 90 countries are working together on the development of a multilateral instrument capable of incorporating the tax treaty-related BEPS measures into the existing network of bilateral treaties. The instrument will be open for signature by all interested countries in 2016.
Examples of BEPS schemes to be eliminated
The final outcomes of the BEPS Project are being presented on Monday 5 October 2015 at 2 p.m. (CET) – more details of webcast streaming here.
Today’s post is from OECD Secretary-General Angel Gurría.
Six years since the onset of the Crisis many advanced countries continue to face high unemployment, sluggish growth and weak public finances. Growth is also slowing down in emerging markets.
Meanwhile, as recent revelations have demonstrated, the frayed international tax system has long allowed multinationals to plan their way around paying corporate taxes. And bank secrecy has let individuals stash money undetected, and untaxed, in hidden corners of the world.
Such practices erode the integrity of our tax systems, damage the capabilities of our governments, diminish economic growth and corrode the trust of our citizens who are the vast majority of taxpayers. The way tax is levied and spent is one of the most important levers to address social inequalities, create jobs, pay for education, infrastructure and other public services and encourage investment in innovation.
The OECD has helped put the international tax system at the forefront of the international policy agenda. Our work has been endorsed by the G20, whose leadership deserves praise and recognition for giving top priority to calling time on tax havens and recognising that an international tax framework developed 100 years ago is no longer fit for purpose.
Accounting for almost 90% of the global economy, 44 countries including the G20 have tasked the OECD with finding ways to fix this situation. Our Base Erosion and Profit Shifting (BEPS) Project aims to ensure the rules governing these systems are transparent, and that multinationals cannot exploit gaps between national tax laws or artificially shift profits to low tax jurisdictions where no real economic activity takes place.
We’re moving fast. The first results of our BEPS project were released in September and we are on track to deliver the final package of measures a year from now. These efforts will neutralise the “cash boxes” companies use to keep trillions of dollars of profits offshore and free of taxation. They will also ensure that patent boxes can’t be used to shift profits to countries where no substantial activities are carried out to generate those profits. Countries have also been spurred into action: Ireland will put an end to “double-Irish” tax planning schemes and the Netherlands will renegotiate its tax treaties with developing countries to ensure they can’t be abused by multinationals to avoid paying tax. And the European Commission has launched high-profile state-aid investigations into tax practices by its members that could breach EU law.
We have also witnessed a sea change on the tax transparency front since 2009 when strict bank secrecy was still the rule in many countries. The Global Forum on Transparency and Exchange of Information for Tax Purposes now has over 120 members. The Forum has issued over 70 compliance ratings on its members and over 500 recommendations have resulted in changes to laws and practices that will improve tax transparency worldwide.
Implementing Automatic Exchange of Information (AEOI) is the next major objective. We have developed a new global standard in close cooperation with G20 countries and 93 jurisdictions have now committed to launching automatic exchange by 2017 or 2018. Only last month in Berlin, 51 countries and jurisdictions took the first step toward implementation by signing a multilateral agreement. Luxembourg, Switzerland, Singapore and many other financial centres are already on board, and more will follow. This robust standard will allow authorities to track income and offshore assets. These efforts are bearing fruit. Voluntary disclosures by tax evaders have already yielded 37 billion euros of additional revenue to OECD and G20 countries since 2009.
Extending the benefits of these changes to developing countries is a top priority. They have a big stake in this effort but lack the resources to crack down on their own. The OECD is involving them fully in shaping the new global standards. Initiatives such as our Tax Inspectors Without Borders are specifically designed to help developing countries prevent the erosion of their tax bases and the illicit outflow of revenues through tax evasion.
Now is the moment for governments to take action in a concerted international effort. Corporate profits must be based on the true cost of developing products and services, not on clever distortive tax arrangements that favour multinationals over domestic businesses. Too many multinationals are getting away with paying as little as 1% -2% on their global profits, and in some cases paying nothing at all.
Overhauling the global tax system and its practices is fundamental if we are to deliver stronger, cleaner and fairer growth for a post-Crisis world. What happens in the next 12 months, starting with the G20 Brisbane Summit, will be critical for the success or failure of this exercise. Making historic changes means taking tough decisions and takes political courage. In the current circumstances, nothing less will do.
Are you following the G20 leaders’ summit in Brisbane this weekend? The OECD Observer magazine is here to help. OECD Secretary-General Angel Gurría and Australian Treasurer Joe Hockey lead this fact-packed “300th edition” through the G20 issues on the table at Brisbane, with articles on growth (notably the 2% growth challenge), trade, gender and jobs. In our Ministerial Roundtable on employment, ministers from Australia, Germany, Korea, Spain and the US outline the actions they have been taking to create more and better jobs. Business and labour representatives add their perspectives. The edition also asks whether Europe can avoid deflation, and traces the fall in productivity growth across OECD countries since the 1960s. With Brisbane the focus of world attention, the OECD Observer casts a spotlight on Australia’s economy, and asks why the “lucky country” is also a happy one. We recount how Australia came to join the OECD (not as smooth a path as you might imagine), and outline the country’s future challenges in the Asian Century.
Last weekend, the OECD presented its first BEPS recommendations to the G20 for an international approach to put an end to so-called “stateless income”. Seven “Actions” are being proposed, as part of a 15-point plan.
Ensure the coherence of corporate income taxation at the international level, through new model tax and treaty provisions to neutralise hybrid mismatch arrangements (Action 2).
The basic idea behind hybrids is to have the same entity or transaction treated differently by different countries to avoid paying tax. A typical hybrid instrument would allow a company to treat something as debt in one country and equity in another. Hybrid transfers are arrangements that are treated as transfer of ownership of an asset in one country but as a loan with collateral in another. By playing off one country’s tax system against another, like children sometimes do with their parents when they try to get what they want, the most successful hybrids achieve double non-taxation – the company doesn’t pay tax anywhere.
Realign taxation and relevant substance to restore the intended benefits of international standards and to prevent the abuse of tax treaties (Action 6).
“Treaty shopping” is the most common form of treaty abuse. It generally refers to arrangements through which a person who is not a resident of one of the two States that concluded a tax treaty attempts to obtain benefits that the treaty grants to residents of these States. How? By setting up a shell company in one of the treaty States and routing investments through it. OECD and G20 countries have all agreed to reject treaty-shopping practices. Proposed drafts of a specific anti-abuse rule based on a “limitation-on-benefits” provision and a more general anti-abuse rule based on a “principal purpose test” have been unveiled to ensure that only “true” residents get the benefits of the treaty.
Assure that transfer pricing outcomes are in line with value creation, through actions to address transfer pricing issues in the key area of intangibles (Action 8).
Most world trade actually takes place within multinational enterprises, for example the headquarters in Germany paying a subsidiary in India to carry out research or manufacture components. This payment has to be at arm’s length to ensure that profits (or losses) are allocated among the different parts of the group in a fair and sound manner. How to apply the arm’s length principle in practice is detailed in the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations. Easy in many cases, it may get extremely difficult, and subject to manipulation, when we are talking about intangibles, like famous brands, patents, algorithms or the like. Estimates of annual investment in intangibles in the United States alone are between $800 billion and $1 trillion, with a stock of intangibles of up to $5 trillion. Now, new guidance has been developed to align the transfer pricing rules with modern business.
Improve transparency for tax administrations and increase certainty and predictability for taxpayers through improved transfer pricing documentation and a template for country-by-country reporting (Action 13).
Countries have agreed that companies should report on a country-by-country basis certain key information, such as assets, sales and number of employees. This will provided tax administrations with a broad picture of the group structure and where profits are made and allocated for tax purposes. The focus can then be on those that engage in aggressive tax planning that separates the location where profits are made from where they are reported for tax purposes.
Address the challenges of the digital economy (Action 1).
The digital economy does not generate unique BEPS issues, but some of its features can exacerbate BEPS risks, such as the importance of intangibles, the mobility of users, network effects and multi-sided business models. (If you thought certain things, like an e-mail address, an app, a videogame, an Internet search, were “free”, look at how much money Internet advertising generates). It’s hard to say where certain activities or assets “are” for tax (and other) purposes. Depending on how you look at it, it could be on the computer of the user watching an ad, the firm paying for that ad, the server streaming it, the head office of the owner itself… Or take an off-line delivery service (pick your favourite): despite its considerable sales in a country like France, in theory, its French operation is only a delivery company processing orders for a firm based in (pick your favourite again). This ability to centralise infrastructure at a distance from the market and sell into that market from a remote location, generates potential opportunities to achieve BEPS. It does so by fragmenting physical operations to avoid taxation, especially when combined with the increasing ability to conduct substantial activity with very few personnel. One year from now, an agreement will be reached so that this will not be possible anymore.
Facilitate swift implementation of the BEPS actions through a report on the feasibility of developing a multilateral instrument to amend bilateral tax treaties (Action 15).
Even in the old economy, governments took steps to ensure that international taxation didn’t harm firms operating across borders. Many domestic and international rules to address double taxation of individuals and companies originated from principles developed by the League of Nations in the 1920s. The OECD has been working for years to help tax administrations and policy makers cooperate across borders. The OECD Model Tax Convention serves as the basis for the negotiation, application, and interpretation of over 3000 bilateral tax treaties in force around the world. Its Commentaries have been cited by courts in virtually every OECD member country, as well as in many non-OECD countries. Now change is coming in several key areas. But without a mechanism for swift implementation, changes to model tax conventions will only widen the gap between these models and the content of actual tax treaties. Such an implementation mechanism does exist, and it is a multilateral instrument. Difficult? Yes, but it is feasible, and developing it is necessary not only to tackle BEPS, but also to ensure the sustainability of the consensual framework to eliminate double taxation. So not only feasible, also desirable (at least by those like us who think change is needed).
Counter harmful tax practices (Action 5).
The OECD published a report on Harmful Tax Competition: An Emerging Global Issue in 1998, but 15 years later, concerns about the “race to the bottom” on the mobile tax base are as relevant as ever. The focus has shifted though. In 1998 a major concern was regimes partially or fully isolated from the domestic economy (“ring-fencing”). For example, this could take the form of giving firms resident status to avoid paying taxes in another country, but not allowing them access to local markets where they would compete with national firms. Today, across the board corporate tax rate reductions on particular types of income are of growing concern. To counter harmful tax practices more effectively, Action 5 commits the Forum on Harmful Tax Practices (FHTP) to revamp the work on harmful tax practices. Priority has been given to improving transparency, with the obligation to exchange information on rulings related to preferential regimes. The focus is now on requiring substantial activity for any preferential regime with a special focus on the “patent boxes” which are mushrooming these days. – regimes that subject certain IP income to a preferential rate of tax. Going further, the work will engage with non-OECD members on the basis of the existing framework and consider revisions or additions to the existing framework.
You can contact the BEPS team at CTP.BEPS at oecd.org (replace ” at ” by @)
Pascal Saint Amans on fighting tax avoidance by multinationals
“It’s a wrong situation. It’s gettin’ so a businessman can’t expect no return from a fixed fight. Now if you can’t trust a fix, what can you trust? For a good return you gotta go bettin’ on chance, and then you’re back with anarchy. Right back inna jungle. On account of the breakdown of ethics.”
Johnny Caspar in the Coen brother’s Miller’s Crossing would have been pleased to hear that today the OECD is announcing a way to remedy the shocking lack of ethics in the increasingly globalised globe people do business on. Like Johnny, we’re concerned about the consequences when certain parties don’t play fair. Johnny’s way of levelling the playing field is to bury the scallywags underneath it, but this being the OECD, our proposal, developed with G20 countries at the G20’s request, concerns the international tax system and how to “inject greater trust and fairness” into it.
It’s less exciting than machine guns and hit men, but the sums involved are literally millions of times bigger than the cash the Coens’ gangsters are fighting over. The Tax Justice Network claims that $21-32 trillion are stashed offshore – the equivalent of the combined GDP of the US and Japan. That only concerns tax havens. There are also a number of other means available for what is variously called tax evasion, tax avoidance or tax planning, depending on the degree of legality. Sometimes the neutral, non-judgemental term tax dodging is used, even by the OECD. Usually though, we use more technical terms like “base erosion and profit shifting” (BEPS) to describe the mechanisms firms exploit to avoid paying what most citizens would consider “fair” taxes. As we discussed in this article, BEPS schemes themselves can be extremely complicated, but the basic idea is simple: shift profits across borders to take advantage of tax rates that are lower than in the country where the profit is made.
As we’ve discussed before, the core of the problem is that taxes are a national affair while finance is international. The OECD has been helping governments cooperate on tax collection for decades, and the Model Tax Convention serves as the basis for the negotiation, application, and interpretation of over 3000 bilateral tax treaties in force around the world. The Convention was updated in 2012 to allow tax authorities to ask for information on a group of taxpayers without having to name them individually.
These are so-called targeted requests, but automatic exchange of information is the systematic and periodic transmission of “bulk” taxpayer information collected by the source country to the country of residence concerning income from dividends, interest, royalties, salaries, pensions, and so on. Automatic exchange seems to work both to detect tax evasion and as a deterrent. Clinical trials suggest it also cures memory loss. Denmark helped 440 of its absent-minded citizens to remember foreign income after the tax administration sent them a letter announcing that it received automatic information from abroad.
More than 40 countries have committed to early adoption of the Standard for Automatic Exchange of Financial Account Information published today, committing tax jurisdictions to obtain information from their financial institutions and automatically exchange that information with other jurisdictions annually. The Standard sets out what information has to be exchanged, the financial institutions that need to file reports, the different types of accounts and taxpayers covered, as well as common due diligence procedures to be followed by financial institutions (verifying the address of account holders for instance).
According to today’s presentation, the “advantage of standardisation is process simplification, higher effectiveness and lower costs for all stakeholders concerned” (except presumably for tax dodging stakeholders).
The Standard consists of the two parts: the Common Reporting and Due Diligence Standard (CRS) describing the reporting and due diligence rules to be imposed on financial institutions; while the detailed rules on the exchange of information are in the Model Competent Authority Agreement (CAA). The CRS draws heavily on a model developed by the United States, France, Germany, Italy, Spain and the United Kingdom to implement the US’s Foreign Account Tax Compliance Act (FATCA) through automatic exchange between governments.
Of course companies and individuals who spend a fortune on experts to help them dodge taxes will try to get round the CRS. To avoid this, the financial information to be reported includes all types of investment income, account balances and revenue from selling financial assets. A wide range of financial institutions apart from banks have to report too, including brokers, certain insurance companies, and certain so-called collective investment vehicles – funds that pool money from a number of accounts. The Standard also requires those signing it to look beyond “passive entities” to report on the individuals that ultimately control the money from behind the screen of entities set up to hide where the money is actually going.
What’s the alternative to imposing a global standard? “A proliferation of different and inconsistent models would potentially impose significant costs on both government and business to collect the necessary information and operate the different models. It could lead to a fragmentation of standards, which may introduce conflicting requirements, further increasing the costs of compliance and reducing effectiveness.”
Or as Johnny Caspar pointed out, “… ethics is important. It’s the grease that makes us get along, what separates us from the animals, beasts a burden, beasts a prey”. I hope youse all agree.
The next time somebody asks you take part in a consumer survey or opinion poll, ask them how much they’re prepared to pay for your time and opinion. They’ll probably stop pestering you in case you talk to them for hours about the aliens who stole your chocolate cake. Working for nothing is such an accepted part of the modern economy that it’s the person who calls it into question who is labelled crazy. Millions of us toil away humbly for well-known companies without getting paid. Some airlines won’t even let you board unless you make your own ticket, or else they’ll charge you a fortune for printing it at check-in.
It’s obvious that by doing what a travel agent or airline employee used to, you’re saving the company money and helping to boost its profits. Some of your other contributions to corporate well-being aren’t so easy to define and measure though. If you upload a video, does the site add the same value if 10 people watch it or 1 million? And if the site uses your video to attract advertisers, is the ad money made in your country, the countries where the video is seen, the country where the computer storing it is kept, or none of these?
Increasingly, the last answer is the one favoured by multinationals, and that poses problems for taxation. Some businesses that are worth billions may pay practically no tax in the places where they operate and make profits. Not because they’re defrauding the system, but because tax systems simply haven’t kept up with how firms in the digital economy in particular add value and make profits, on intangible assets such as design and licensing for example, or even by exploiting your personal data.
Other firms also avoid paying what most citizens would consider “fair” taxes through “(tax) base erosion and profit shifting” or BEPS as the OECD calls it. As we discussed in this article, BEPS schemes themselves can be extremely complicated, but the basic idea is simple: shift profits across borders to take advantage of tax rates that are lower than in the country where the profit is made. Three popular mechanisms for doing this are hybrid mismatches, special purpose entities (SPE), and transfer pricing.
Hybrids try to have the same money or transaction treated differently (as debt or equity for instance) by different countries to avoid paying tax, and often feature dual residence – companies that are residents of two countries for tax purposes. An SPE is an entity with no or few employees, little or no physical presence in the host economy and whose assets and liabilities represent investments in or from other countries and whose core business consists of group financing or holding activities.
Transfer prices are the prices various parts of a company pay each other for goods or services. They are used to calculate how profits should be allocated among the different parts of the company in different countries, and are used to decide how much tax the MNE pays and to which tax administration. There is no simple method for calculating a transfer price and the lack of good “comparables” (similar operations carried out at market prices by unrelated entities) often results in profits being artificially shifted to no- or low-tax jurisdictions.
International tax rules are generally efficient in ensuring that companies are not subject to double taxation, but BEPS takes advantage of gaps in the rules to avoid paying tax completely, so-called “double non taxation” or to pay a sum across two or more countries that is less than what they would pay in a single country.
Opportunities for MNEs to pay less tax harm everybody. Governments lose revenue and may have to cut public services and increase taxes on everybody else. But businesses suffer too. Small businesses, businesses working mainly in one national market and new firms can’t compete with MNEs who shift profits across borders to avoid or reduce tax. And an MNE that doesn’t shift profits is at a disadvantage compared to its BEPSing rivals.
What can be done? Today, the OECD launched a 15-point Action Plan that will give governments the domestic and international arms they need to combat BEPS. The Plan recognises that greater transparency and improved data are needed to evaluate and stop the growing disconnect between where money and investments are made and where MNEs report profits for tax purposes.
The Action Plan will for example stop the abuse of transfer pricing by ensuring that taxable profits can’t be artificially shifted through the transfer of patents, copyright or other intangibles away from countries where the value is created, and it will oblige taxpayers to report their aggressive tax planning arrangements.
When we wrote about BEPS in February, we mentioned the sense of urgency surrounding the OECD work, with the proposal that a workable plan be agreed on within six months. The next steps will take a bit longer of course, but not that much longer. The actions outlined in the Plan will be delivered over the next 18 to 24 months by the joint OECD/G20 BEPS Project, regrouping all OECD members and G20 countries on an equal footing. To ensure that the actions can be implemented quickly, a multilateral instrument will also be developed for countries that want to amend their existing networks of bilateral tax treaties.
Some may protest and try to get the plan neutralised, but would they really prefer the alternative if the no action is taken to address the weaknesses that put the present consensus-based multilateral framework at risk and countries apply: “… unilateral measures, which could lead to global tax chaos marked by massive re-emergence of double taxation”?