What is the proposal?
Paris-based 34-member Organisation for Economic Co-operation and Development (OECD) published a proposal to advance international negotiations to ensure large and highly profitable Multinational Enterprises, including digital companies, pay tax wherever they have significant consumer-facing activities and generate their profits.
The proposal would re-allocate some profits and corresponding taxing rights to countries and jurisdictions where MNEs (same as MNCs) have their markets. It would ensure that MNEs conducting significant business in places where they do not have a physical presence, be taxed in such jurisdictions. It is part of wider efforts to restore stability and certainty in the international tax system in the digital global economy; and mitigate the risks of double taxation. Apart from reallocating taxing rights it aims at ensuring a minimum corporate income tax on MNE profits.
Why does the new global digital economy make it urgently necessary?
Traditionally, companies paid taxes in the countries where their economic activity is generated. But in the digital economy, firms can “move” the source of their profits, like patents and other intellectual property, to countries where tax rates are extremely low. That allows them to pay lower rates than companies that operate only in a single country like the United States. It is a Base erosion and profit shifting (BEPS) issue. The base of taxation is shifted from one country to another by paying tax on profits in a low tax jurisdiction.
In a digital age, allocation of taxing rights can no longer be exclusively circumscribed by reference to physical presence. The current rules, dating back to the 1920s, are no longer sufficient to ensure fair allocation of taxing rights in an increasingly globalised world.
What are the newly proposed OECD rules?
There are two new rules:
How do you characterise this effort?
It aims to address the tax challenges arising from digitalisation of the economy.
It brings together common elements of existing competing proposals, involving over 130 countries, with input from governments, business, civil society, academia and the general public.
The ultimate goal is ensuring all MNEs pay their fair share.
How has the new system gone beyond the arm’s length principle for allocation of taxable profits?
The arm's length standard is used to determine how much of the profits should be attributed to one entity and, consequently, the extent of a country's tax claim on such entity. The proposed OECD tax wants to allocate more income to the marketing jurisdiction away from the R&D and production jurisdictions – even though there may be no business activities in the marketing jurisdiction in many cases. That’s quite different to the current arm’s-length principle.
What is the new urgency for the proposal?
The issue has already created trade tensions between US and some European Union countries. The issue of how to tax digital giants like American firms Google, Apple, Facebook and Amazon prompted France earlier in 2019 to pass its own law on taxing them, drawing anger from the United States. France, backed by Britain, argues that the digital giants must pay taxes on revenues accrued in a country even if their physical headquarters is elsewhere. Washington, meanwhile, fears that US companies will be singled out and need to be protected. Google, Apple, Facebook, Netflics and Amazon are all US companies.
Further, failure to reach agreement by 2020 would greatly increase the risk that countries will act unilaterally, with negative consequences on an already fragile global economy.
How will India benefit and what is India’s response?
If a consensus is arrived at, it will provide
For the advantages cited above, India signaled in-principle acceptance of the proposed tax.
Also, India was losing tax revenue from digital firms located outside like Facebook and Google. So the government in 2016 introduced a 6% tax in the form of an equalisation levy or known as Google tax on the amount paid to internet companies by advertisers