January 31, 2020 the OECD published an update statement (the Statement) on the
Digital Tax Initiative, highlighting progress on the scope of the new taxation
rights and agreeing to a timeline to reach a consensus position by the end of
the year. However, many difficult issues remain
unresolved, and the OECD working groups have established an aggressive timeline
to reach this consensus and hold off unilateral digital tax policies currently
planned by over a dozen countries. Indeed,
France has agreed to postpone implementation of their digital tax and the US
has agreed to postpone retaliatory tariffs while resolution of the OECD
initiative is ongoing.
In 2015, under Action Plan 1 of the OECD Base Erosion and
Profit Shifting initiative, the Task Force on the Digital Economy concluded that
the digital economy raised fundamental issues around tax nexus, the role of
digital users’ data in the digital economy, digital income characterization,
and allocation of digital economy income among jurisdictions, especially among digital
user jurisdictions. In 2019, the OECD
issued several working papers and discussion drafts on conceptual methods to
compute this new taxing right, which is presented as two pillars.
- Pillar One, new
nexus and profit allocation rules, in which the new taxing right is a form of
residual income of the overall company or business unit based on user
participation whether or not the company has a physical presence in a
jurisdiction, is called the Unified Approach.
- Pillar Two focuses
on enhanced BEPS actions that create a minimal tax requirement for global
income, similar in spirit to the US GILTI and BEAT regulations of the 2017 US
Tax Cuts and Jobs Act (USTCJA).
confirms that the member countries of the Inclusive Framework (IF), nearly 140
countries, established that the Unified Approach is the basis to address the
taxation of the digital economy and changes to the international tax rules. The
delegates of the IF affirmed
their commitment to reach an agreement on a consensus-based
solution by the end of 2020.
Importantly, the Statement proposes that
any consensus-based agreement will include a commitment by members to withdraw
unilateral actions on Digital Tax.
However, the Statement is issued without prejudice; the positions
articulated will require a consensus before they are accepted by the member
Statement contains further guidance on key policy and technical matters that
will be further developed according to the timeline included in the document
itself. The IF meeting of July 2020 is a fundamental milestone: the goal of
that meeting is to reach agreement on the key technical issues of the new
taxing right. A final report is envisioned
by the end of the year.
One – some clarity on scope
Scope related guidance
A key question for many companies is determining whether they
fall within the scope of the Pillar One rules and the new taxing right. The
Statement provides some important clarifications on this point.
The Statement presents two type of businesses that would be
within scope of the Pillar One rules: (i) automated and standardized digital
services and (ii) consumer facing businesses. The following sectors are
specifically mentioned as being in scope:
- Automated digital services: These
are companies that can develop an active and sustained presence in remote
locations without physical presence.
Examples include online search engines, social media platforms,
intermediate platforms, digital content screening, online gaming, cloud
computing services, and online advertising services.
- Consumer facing businesses: These are
companies that sell goods or services but engage with their customer base through
targeted marketing, branding and use of individual data. Examples include personal computing products
(eg, software, home appliances,
mobile phones), clothing, toiletries, cosmetics, luxury goods, branded foods,
refreshments, franchise models, (hotel and restaurant licensing), and
automobiles. Products for commercial and
professional use would be exempted.
Both of these lists are non-exhaustive and subject to
modification as the working groups move forward in 2020.
The Statement further reiterates that extractive industries
and financial services should be
excluded from scope with some restrictions if companies operate different
business lines that cross industries and sectors.
As companies continue to assess the applicability of these
rules to their business, it is important to note that the Statement is implying
that, for an entity with multiple business lines, segmentation of these
business lines between in-scope and out of scope activities would be required.
In the public consultation, many companies indicated that the administrative
burden of such (financial) segmentation would be significant. Nonetheless,
for the moment, the OECD appears to endorse the segmentation principle.
Statement also supports threshold levels to assess relevance of the new taxing
right. These include consolidated gross
revenues for the company, total revenues associated with the taxing right, and
materiality thresholds for the level of tax.
Key issues to be addressed in
contrast to scoping issues, the Statement appears to provide little insight on
many other key issues concerning Pillar One, but rather highlights the issues
to be addressed in 2020. These include
the complex issue of the treatment of deductions and credits to avoid double
taxation as a result of the new digital tax.
The Statement acknowledges the inadequacies of current treaties and the
need for binding arbitration processes.
The Statement also includes a list of 11 issues areas to be addressed,
including varying the taxing right by level of digitalization and geography,
new nexus rules, financial baselines and tax base determination, the mechanics
of the formulary taxing right, dispute resolution, and administration issues.
acknowledges the US safe harbor proposal.
The OECD intends to address the option of having Pillar One act as a safe
harbor if and when all technical details of Pillar One are agreed upon. Based on the comments during the OECD’s
January 31 webcast, there seem to some reservations within the OECD on the
effectiveness of a safe harbor Pillar One scenario.
Two – progress, but little clarity
Two consists of a global anti-base erosion proposal aimed at ensuring that the
profits of internationally operating businesses are subject to a minimum rate
of tax. Pillar Two had fewer open issues than Pillar One, and the Statement
simply states that “…work on key issues is advancing at a fast pace.”
rules at the base of the proposal were confirmed (Income Inclusion Rule, Undertaxed
Payments Rule, Switch-over Rule, and Subject to Tax Rule) but IF still needs to
define major design elements, starting from the order in which its rules apply − which will determine what countries benefit
from the additional tax payments.
with the October 2019 version of the Secretariat Proposal on Pillar Two, a
broader discussion has been held on the Income Inclusion Rule. In particular,
IF confirmed that it will operate as a top-up to an agreed fixed rate, which
has yet to be determined. On the important question of income blending − the ability to offset low-tax income with high
tax income in determining the effective rate − the
Statement acknowledges multiple policy choices, but makes no recommendation at
this time. During the webcast, the OECD
speakers appeared to point to “jurisdictional blending” as having the broadest
support within the IF. The Statement
notes that carve-outs are an important point of consideration – eg,
the rules might include an exception from Pillar Two for companies with
economic substance in a jurisdiction.
Pillar One, many open issues must be resolved by the July meeting.
development of a new taxing right is a major initiative, and the OECD continues
to work at a brisk pace to address a complex set of design, implementation, and
administrative issues to reach consensus by mid-year and a final position by
year end. During the January 31 webcast, Pascal Saint-Amans, director of the
OECD’s Centre for Tax Policy and Administration, said: “To respond to one of
the questions we received − ‘What is plan B?’ − we
don’t have a plan B. What is at stake is
indeed a big risk, a trade war.”
Piper will continue to provide updates on this important topic.
more about these developments, please contact any of the authors or your usual
DLA Piper attorney.