Tax and digitalisation: the need for a multilateral response

International tax rules have yet to adapt to modern business. A multilateral response is essential if countries are to overcome the tax challenges arising from digitalisation

Globalisation and digitalisation have changed how and where profits are made. International tax rules, which date back to the 1920s, have yet to adapt accordingly. The COVID-19 pandemic has exacerbated these trends, so the current international tax rules are increasingly perceived as unfair and outdated.

Growing public pressure has led some countries to consider implementing unilateral measures to tax multinational enterprises that are operating in their markets, but that cannot be taxed based on current ‘nexus’ and ‘profit allocation’ rules. The proliferation of unilateral measures such as digital services taxes actually decreases tax certainty while increasing the likelihood of disputes. Disputes relating to these matters have even arisen among certain G20 members, further highlighting the urgency to develop a global solution. There is now widespread agreement – and not just in the G20 – that international tax rules must be adapted to the 21st-century economy.

On equal footing

The Organisation for Economic Co-operation and Development has brought together more than 135 countries, including all G20 members, on an equal footing in the G20/OECD Inclusive Framework on Base Erosion and Profit Shifting. Since 2016, its members have been implementing a 15-point action plan to tackle tax avoidance by multinationals, developed between 2013 and 2015. Substantial progress is being made on countering BEPS risks in several areas. Yet the tax challenges arising from digitalisation, which go beyond BEPS issues, remain to be addressed.

Two-pillar approach

Following a mandate from the G20, countries committed to reaching an agreement on a consensus-based solution by the end of 2020. Its implementation would improve tax certainty for both businesses and tax authorities. The ongoing work is based on a two-pillar approach, which has been informed by extensive public consultations with many stakeholders, including businesses, academia and civil society.

Pillar One would establish new rules on where tax should be paid (nexus rules) and a fundamentally new way of sharing taxing rights between countries. The aim is to ensure that digitally intensive or consumer-facing multinational enterprises pay taxes where they conduct sustained and significant business, even when they do not have a physical presence, as is currently required under existing tax rules.

Pillar Two would describe a set of rules that would ensure all large multinationals pay at least a minimum level of taxes on their profits somewhere in the world, which will help address remaining BEPS challenges.

Glass half full

Although the G20 deadline could not be met due to delays caused by the COVID-19 crisis and political divergences, substantial progress was achieved. During its 8–9 October 2020 meeting, the Inclusive Framework approved blueprints of the two-pillar approach to address the tax challenges of the digitalisation of the economy, and recognised them as “a solid basis for future agreement”. The Inclusive Framework also agreed to continue working to resolve the remaining issues quickly, with the goal of concluding the process by mid-2021.

On 14 October 2020, G20 finance ministers endorsed the blueprints and stated: “Building on this solid basis, we remain committed to further progress on both pillars and urge the G20/OECD Inclusive Framework on BEPS to address the remaining issues with a view to reaching a global and consensus-based solution by mid-2021.”

The blueprints, which are currently subject to a public consultation, reflect the convergent views of members on many of the key policy features, principles and parameters of both pillars, and identify remaining technical, administrative and policy issues yet to be resolved. Input on the consultation documents can be provided until mid-December 2020.

Boosted global revenues

According to the OECD, the two pillars could increase global corporate income tax revenues by about $60–100 billion per year or up to around 4% of global corporate income tax revenues, taking into account the combined effect of these reforms and of the US Global Intangible Low-Taxed Income regime.

For businesses, simpler rules, increased tax certainty and the prevention of double taxation would create an environment that is more conducive to trade and investment. However, if multilateral efforts fail, and countries increasingly choose to adopt unilateral measures, the risks to the international economy could be grave. Continuous support from the G20 leaders for the proposals, combined with leaders’ active role in bridging differences, would go a long way to ensure political agreement can be reached on a consensus-based solution by mid-2021.