The idea was to tackle potential tax avoidance with a global solution, and the biggest effort in this respect was the OECD’s BEPS (Base Erosion and Profit Shifting) project, an ambitious set of actions intended to reduce tax avoidance by coordinating tax rules on a worldwide basis.
The BEPS Project started a global paradigm shift in the field of tax planning: more and more, multinationals have had to highlight the economic rationale of their business arrangements and to stay clear of reputational risks associated with what the OECD understands as aggressive tax planning. But the earthquake initiated by the BEPS Project was just the beginning. After tying international tax rules together through the Multilateral Instrument (a “treaty of treaties” designed by the OECD that homogenizes bilateral tax agreements between States) and the Inclusive Framework (an OECD-sponsored forum in which jurisdictions from all over the world discuss international tax matters), the OECD is ensuring that the global structure that it has been building for the last decade stays in place and continues to lead the global tax-governance agenda.
For the OECD, now the undisputed main actor in international tax policy, the next step after BEPS is the so-called Pillar One, a project that focuses on the possibilities of taxing the digital economy. This new OECD project is still in an initial stage; it was presented in late May 2019 as part of an expansion of the competencies of the Inclusive Framework, with the first public consultation paper dealing exclusively with the topic appearing on 9 October 2019. However, it already hints at what we can expect from the OECD’s vision for the future of the taxation of the digital economy. Pillar One puts a few options on the table with the idea to reach a consensus by the end of 2020. There are two lines of action: first, a new nexus rule to link profits to the jurisdictions in which they arise. Since digital companies do not necessarily require physical presence to carry out their activities in a given jurisdiction, the nexus rule would be unconstrained by this physical presence. The second line of action would be a new profit-allocation rule that goes beyond the generally accepted arm’s- length principle – an international standard by which intra-group transactions should be compared with those carried out between independent parties –, which is the cornerstone of profit-allocation rules in the field of international taxation.
The idea of updating and harmonizing the taxation of the digital economy on a global scale makes sense, because it should provide a level playing field that is up-to-date with the current business reality for all companies. However, this will also mean constraints on what States can do to remain attractive jurisdictions for digital companies – constraints that will be of most importance for those jurisdictions that take pride in their attractiveness for businesses, particularly those of a digital nature, which have a strong presence in these jurisdictions. Since the rules that the OECD intends to recommend may deviate largely from current international tax principles, the consequences of Pillar One on the legal framework of countries, such as the aforementioned, are currently hard to predict.
Therefore, digital companies operating in countries that offer them a particularly attractive environment will have to keep in mind these deep, fast changes taking place and be ready to adapt to them. Likewise, jurisdictions that wish to remain interesting for these companies will have to show a great deal of flexibility and offer innovative solutions in order to retain their power of attraction.
Fernando Longares, Tax Partner, EY Luxembourg