A report expected this week from the Organisation for Economic Co-operation and Development could help kick-start changes to an international tax system many say is out of date for the times.
Earlier this year the OECD published “Addressing Base Erosion and Profit Shifting,” which looked at the root causes of BEPS and six pressure areas including the residence-source tax balance (particularly in a digital economy), transfer pricing issues, the effectiveness of anti-avoidance rules, and the existence of preferential regimes.
At the urging of G20 finance ministers, the OECD has created an action plan. The OECD report is on the agenda for the G20 finance ministers meeting in Russia July 18 and 19. It also ties in with an OECD declaration back in May that included a number of countries that aren’t OECD members declaring support for a comprehensive action plan. It will also be on the agenda for the G20 heads of state meeting in September.
This all comes after several highly publicized cases involving corporate tax avoidance or shifting of profits to other countries by companies such as Apple Inc. and Starbucks Corp. In the case of Starbucks, it had not paid corporate taxes in the U.K. for five years. It recently made a bulk payment of £5 million after a barrage of public criticism, with a promise for another £5 million at the end of the year.
“It shouldn’t be a system of governments trying to name and shame or bully companies into paying money,” says Patrick Marley, a partner with Osler Hoskin and Harcourt LLP’s tax group. “If the U.K. wasn’t happy with their tax system, in my view the correct response is to amend your tax rules.”
With the global economy continuing to struggle and some nations considering strict austerity measures to deal with their rising debt, there is a strong desire to change the international tax system.
“When people are rioting in the streets you have to think outside the box a little bit,” says Marley.
The main countries driving for change include Germany, France, and the Scandinavian countries, says Greg Gartner, a partner with MoodysTax Law LLP in Calgary. “Germany and France probably have the most to gain from the OECD proposals because they are the most disadvantaged under the current system and Germany is carrying some big weight right now in Europe.”
The objective of the OECD plan is to make more of a level playing field. “Going from theory to practice is a whole other situation,” Marley says.
Gartner says the reason he is skeptical and sees it all “going nowhere” is because the OECD wants to get to a consistent base of corporate taxation internationally and that may be unrealistic.
“With tax systems being used as such a socio-economic tool I just can’t see how they are going to get that sort of collaboration among the member states,” he says.
That said, there might be interest in the treaty regimes with the U.S. and U.K. and the hybrid treaties with Canada and the U.S. and the double-dip structures.
“There isn’t that level of sophistication in the treaty network outside of the Canada-U.S.-U.K. that I can see getting some traction because it’s within the OECD’s bailiwick and for each of the members to negotiate,” says Gartner. He can, however, see getting to a common transactional-type of tax.
However, MoodysTax Law principal Kim Moody says he can see where there may be interest in the OECD plan because tax issues have become high profile and taxpayers are paying attention like never before.
“The average taxpayer is suddenly interested in this topic,” says Moody. “The average person is generally disinterested and intimidated by tax but since it’s been getting media coverage that has changed.”
Moody predicts there may also be openness to taxation where the sales are taking place. So if an electronics company is selling product of a certain quantity in Germany maybe the system could be designed to tax that stream of revenue there.
Historically, tax systems have largely gone after bricks and mortar industries but have not kept up with the times in terms of the increase in intellectual property and Internet-type businesses globally.
“I see, in the treaty system, where there may be greater emphasis on negotiating rights for intangible property and Internet-type industries. Right now you just have royalty type provisions, which I think are almost ludicrous in their application to the 21st century in terms of the way business is being done,” says Gartner.
While Marley concedes interest in revising the international tax system is not new, the political climate is what may be giving the discussion real legs this time around to “not just change things around the edges but perhaps have significant and substantive changes.”
“I think part of it as well is when governments are looking for drastic measures to raise revenues one of the first things that would come to mind is who can we raise money from who doesn’t vote, and multinational corporations fit that bill quite nicely in that it’s tempting for companies to try and tax foreign businesses to raise revenues,” he says.
But while some organizations might view “big bad corporations” as a good way to raise revenues, at the end of the day all corporate taxes are borne by taxpayers.
“So if corporations are taxed more the first to be hit are shareholders, which would include pensioners and generally investors,” says Marley. “Beyond that, to the extent companies react to tax changes and move operations to other jurisdictions, then it could impact jobs and the local economy. Companies can also react by passing extra costs on to consumers in the form of higher prices or to their employees in the form of lower wages. It’s a broad spill-on effect of raising taxes in one place.”
One of the areas of focus in the report is transfer pricing and how the U.S., for example, is focused on any shifts of income to a third country — not the resident or source state but any third country involved.
“Representatives of the U.S. Treasury have said it’s the main focus of this action plan for them. Each country might take a different view of what the main focus should be but that’s the U.S. view,” says Marley.
Depending on what the changes are and Canada’s response is, it could impact the competitiveness of Canadian multinationals and potentially put companies here at a disadvantage to foreign-based multinationals.
Gartner says Canada already does a lot in terms of sourcing income back into the country from offshore.
“This discussion is not about trying to get offshore profits. Canada does a good job already of getting those back. The discussion with OECD is on the allocation of income between member states and the taxability of it. It’s who I pay it to in the first instance and who I get the credit with. That is the essence of the OECD’s push to this. Where do we allocate the income?”
It is expected the OECD action plan will recommend best steps to take and that countries implement in a two-year time frame. But it will all depend on the collective political will to make change to the system, says Marley.
“When the OECD and G20 make recommendations it could go the way of climate change and get parked on a shelf, or it could lead to real substantive changes,” he says. “It’s easy to look at this from a theoretical perspective, but harder to implement practically when you’re applying potential changes to the rules to actual companies in actual countries.”
Earlier this year the OECD published “Addressing Base Erosion and Profit Shifting,” which looked at the root causes of BEPS and six pressure areas including the residence-source tax balance (particularly in a digital economy), transfer pricing issues, the effectiveness of anti-avoidance rules, and the existence of preferential regimes.
At the urging of G20 finance ministers, the OECD has created an action plan. The OECD report is on the agenda for the G20 finance ministers meeting in Russia July 18 and 19. It also ties in with an OECD declaration back in May that included a number of countries that aren’t OECD members declaring support for a comprehensive action plan. It will also be on the agenda for the G20 heads of state meeting in September.
This all comes after several highly publicized cases involving corporate tax avoidance or shifting of profits to other countries by companies such as Apple Inc. and Starbucks Corp. In the case of Starbucks, it had not paid corporate taxes in the U.K. for five years. It recently made a bulk payment of £5 million after a barrage of public criticism, with a promise for another £5 million at the end of the year.
“It shouldn’t be a system of governments trying to name and shame or bully companies into paying money,” says Patrick Marley, a partner with Osler Hoskin and Harcourt LLP’s tax group. “If the U.K. wasn’t happy with their tax system, in my view the correct response is to amend your tax rules.”
With the global economy continuing to struggle and some nations considering strict austerity measures to deal with their rising debt, there is a strong desire to change the international tax system.
“When people are rioting in the streets you have to think outside the box a little bit,” says Marley.
The main countries driving for change include Germany, France, and the Scandinavian countries, says Greg Gartner, a partner with MoodysTax Law LLP in Calgary. “Germany and France probably have the most to gain from the OECD proposals because they are the most disadvantaged under the current system and Germany is carrying some big weight right now in Europe.”
The objective of the OECD plan is to make more of a level playing field. “Going from theory to practice is a whole other situation,” Marley says.
Gartner says the reason he is skeptical and sees it all “going nowhere” is because the OECD wants to get to a consistent base of corporate taxation internationally and that may be unrealistic.
“With tax systems being used as such a socio-economic tool I just can’t see how they are going to get that sort of collaboration among the member states,” he says.
That said, there might be interest in the treaty regimes with the U.S. and U.K. and the hybrid treaties with Canada and the U.S. and the double-dip structures.
“There isn’t that level of sophistication in the treaty network outside of the Canada-U.S.-U.K. that I can see getting some traction because it’s within the OECD’s bailiwick and for each of the members to negotiate,” says Gartner. He can, however, see getting to a common transactional-type of tax.
However, MoodysTax Law principal Kim Moody says he can see where there may be interest in the OECD plan because tax issues have become high profile and taxpayers are paying attention like never before.
“The average taxpayer is suddenly interested in this topic,” says Moody. “The average person is generally disinterested and intimidated by tax but since it’s been getting media coverage that has changed.”
Moody predicts there may also be openness to taxation where the sales are taking place. So if an electronics company is selling product of a certain quantity in Germany maybe the system could be designed to tax that stream of revenue there.
Historically, tax systems have largely gone after bricks and mortar industries but have not kept up with the times in terms of the increase in intellectual property and Internet-type businesses globally.
“I see, in the treaty system, where there may be greater emphasis on negotiating rights for intangible property and Internet-type industries. Right now you just have royalty type provisions, which I think are almost ludicrous in their application to the 21st century in terms of the way business is being done,” says Gartner.
While Marley concedes interest in revising the international tax system is not new, the political climate is what may be giving the discussion real legs this time around to “not just change things around the edges but perhaps have significant and substantive changes.”
“I think part of it as well is when governments are looking for drastic measures to raise revenues one of the first things that would come to mind is who can we raise money from who doesn’t vote, and multinational corporations fit that bill quite nicely in that it’s tempting for companies to try and tax foreign businesses to raise revenues,” he says.
But while some organizations might view “big bad corporations” as a good way to raise revenues, at the end of the day all corporate taxes are borne by taxpayers.
“So if corporations are taxed more the first to be hit are shareholders, which would include pensioners and generally investors,” says Marley. “Beyond that, to the extent companies react to tax changes and move operations to other jurisdictions, then it could impact jobs and the local economy. Companies can also react by passing extra costs on to consumers in the form of higher prices or to their employees in the form of lower wages. It’s a broad spill-on effect of raising taxes in one place.”
One of the areas of focus in the report is transfer pricing and how the U.S., for example, is focused on any shifts of income to a third country — not the resident or source state but any third country involved.
“Representatives of the U.S. Treasury have said it’s the main focus of this action plan for them. Each country might take a different view of what the main focus should be but that’s the U.S. view,” says Marley.
Depending on what the changes are and Canada’s response is, it could impact the competitiveness of Canadian multinationals and potentially put companies here at a disadvantage to foreign-based multinationals.
Gartner says Canada already does a lot in terms of sourcing income back into the country from offshore.
“This discussion is not about trying to get offshore profits. Canada does a good job already of getting those back. The discussion with OECD is on the allocation of income between member states and the taxability of it. It’s who I pay it to in the first instance and who I get the credit with. That is the essence of the OECD’s push to this. Where do we allocate the income?”
It is expected the OECD action plan will recommend best steps to take and that countries implement in a two-year time frame. But it will all depend on the collective political will to make change to the system, says Marley.
“When the OECD and G20 make recommendations it could go the way of climate change and get parked on a shelf, or it could lead to real substantive changes,” he says. “It’s easy to look at this from a theoretical perspective, but harder to implement practically when you’re applying potential changes to the rules to actual companies in actual countries.”
