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International action on the digital economy

International action on the digital economy

Grant Wardell-Johnson and Andy Hutt discuss European Commission and OECD plans for cross-border coordination in taxing the digital economy.

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In the last week both the European Commission and the Organisation for Economic Co-operation and Development (OECD) have announced the next phase of their plans for cross-border coordination in taxing the digital economy.

On 16 March, the OECD released its interim report “Tax Challenges Arising from Digitalisation”. This report reflects consensus achieved between more than 110 member countries, and recognises that the existing tax framework has two key features requiring change in order to adequately address the digital economy. These are:

  • the nexus rules about the jurisdiction(s) in which a taxpayer is deemed to have a taxable presence; and
  • the profit allocation rules about how a multinational’s profits are allocated between the different jurisdictions in which it is deemed to have a taxable presence.

There is not yet consensus among OECD members about exactly how these features should change, and what interim measures countries may adopt pending the OECD’s target of achieving a consensus-based long-term solution in 2020. The OECD also notes that some of its initiatives to combat base erosion and profit shifting (BEPS) are already resulting in certain multinational enterprises changing their structure to improve alignment with their real economic activity.

On 21 March, the European Commission released its package of proposals for a “Fair and Effective Tax System in the EU for the Digital Single Market”. The package includes proposals that the European Council should issue two directives on the taxation of the digital economy, such that:

  • Each member state would amend its tax law to treat an entity which has a “significant digital presence” in the member state as having a taxable presence (“digital permanent establishment (PE)”. A digital PE would include a website or mobile application with revenues, users or digital services customers in a particular member state exceeding certain thresholds.
  • Until the member states have legislated the digital PE concept, they would each apply a digital service tax (DST) from 1 July 2020 at the rate of 3 percent of revenues derived from customers in that member state. Only groups with global revenue above EUR 750 million, and European Union (EU) revenue above EUR 50 million would be affected. The DST would apply to the supply of advertising space, marketplaces for transactions directly between users, and the transmission of collective user data. It would not apply to digital content services or certain financial instrument trading platforms.

The logic behind the European Commission’s proposal is that significant value can be created by the interaction with, and contributions to certain digital platforms by residents of a member state. Therefore applying the principle that tax should arise in the jurisdiction in which value is created, it is appropriate for the platform to pay tax in member states where its users live.

In order for the proposals to take effect, consultation must first take place with the European Parliament. The European Council would then need to unanimously adopt the final directive wording in order for it to take effect.

 

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