Mazars provides comments on OECD proposals for taxation of the digitalized economy

The proposals

The OECD project refers to challenges associated with, and proposals to address, the taxation of the digitalized economy. It includes proposals for reforming international tax rules, the latest versions of which were the subject of the October 2020 consultation, which the OECD has divided into two streams known as “Pillar 1” and Pillar 2.” However, the scope of each of these pillars is extensive, encompassing companies and business models having little to do with digital platforms or technology.

Pillar 1
Pillar 1 outlines proposals that would allocate an amount of companies’ global revenues, above a certain profit threshold, among countries based on the level of sales in a jurisdiction (the amount to be allocated is referred to as Amount A). The proposal does not contemplate that companies within scope would be subject to additional taxes. The reallocation would essentially mean that some countries would be giving up a part of their tax base in favor of other countries. The proposal suggests that limiting scope to companies with annual gross revenues in excess of 750M Euro would be appropriate. This is the threshold for country-by-country reporting under the OECD’s Base Erosion and Profit Shifting (“BEPS”) rules. It is also contemplated to be limited to two types of businesses: those engaged in (i) ‘automated digital services’ and (ii) ‘consumer-facing businesses.’

Also included in Pillar 1 is a proposal for an Amount B that attempts to minimize transfer pricing controversies over routine returns for intercompany distributor arrangements. The proposal is for a fixed return for certain baseline marketing and distribution activities.

Pillar 2
Pillar 2 represents a continuation of some of the OECD’s BEPS efforts. It involves a global minimum tax – an expansion of controlled foreign corporation (“CFC”) rules. It includes a complex interaction of interlocking rules: an income inclusion rule; an undertaxed payment rule, and; a subject to tax rule.

The OECD proposal begins with local financial accounts but, as with Pillar 1, many details remain to be resolved before the proposal could be truly workable.

Like Pillar 1, Pillar 2 generally proposes to include within scope only companies with annual gross revenues in excess of 750M Euro.

The OECD has indicated that the US GILTI regime will be grandfathered from the proposal, and the US Treasury under the Trump administration has said that it would not sign on to the proposals otherwise. However, it is not altogether clear what that means.

Mazars’ comments on the OECD proposals
In our December 14 comments on Pillar 1, Mazars reiterated its support of the OECD’s initiative, while also noting that the project’s scope has become too broad, complex and difficult to implement. Our comments also emphasized that the project’s outcome should be targeted to minimize compliance costs and also include safeguards to exclude small and mid-sized businesses.

Further, we highlighted that, with its current proposals, the OECD appears to be diverging from the traditional arm’s-length principle. The allocation of Amount A under Pillar 1 appears to be essentially a form of global formulary apportionment, with Amount B representing another allocation key in a global apportionment formula.

We recommended, as an alternative, revisiting the OECD’s model treaty permanent establishment standard to address remote sales. Finally, our comments highlighted the lack of robust research that has been conducted to date on how the new proposals would impact the global economy.

Status
The OECD consultation was open for comments through December 14, 2020, resulting in thousands of pages of responses. A public consultation was held (virtually) on January 14 and 15, 2021.
Although originally targeted with a 2020 deadline, many points remain to be resolved and require political agreement before the project can approach completion. The negotiations over the current proposals were mostly put on hold pending the US election. The OECD has said that it expects agreement on the proposals on the table by mid-2021 but this timeline appears very aggressive, given the transition to a new administration that will involve new personnel at US Treasury.

Some countries have already imposed digital services taxes, or threatened to impose them in the absence of a deal. In response, the Office of the United States Trade Representative has launched investigations into whether these digital services taxes are trade violations. It has so far concluded that the digital services taxes imposed by France, Italy, India, Turkey, the UK, Austria and Spain constitute trade violations. It had levied a 25% tariff on French goods including makeup and handbags in response, but those tariffs have now been suspended indefinitely. Decisions as to measures to take in response and ongoing investigations into remaining countries’ taxes remain for the Biden administration to address.

Mazars’ Insight
Large multinationals – whether or not they are digital companies – should prepare for changes in the way their profits are allocated globally, or additional taxes, from Pillars 1 and 2. Smaller companies that may not be in scope, but that have digital platforms or that sell through digital platforms, may be caught by digital services taxes currently in effect and additional ones if the OECD negotiations fail to reach a positive conclusion.

Please contact your Mazars professional for additional information.

This alert was produced in conjunction with Ivins, Phillips & Barker, Chtd.

Published on January 27, 2021

The information provided here is for general guidance only, and does not constitute the provision of tax advice, accounting services, investment advice, legal advice, or professional consulting of any kind. The information provided herein should not be used as a substitute for consultation with professional tax, accounting, legal or other competent advisers.