November Tax Alert

Article

OECD proposes a “unified approach” to addressing the digitalisation of the economy

Tax Alert - November 2019

By Bruce Wallace and Bart de Gouw

 

Pillar 1 of the Inclusive Framework is moving!

Since 2015 the OECD has been working on BEPS Action 1, to find a consensus-based solution to the tax challenges arising from digitalisation.  Recently this progress has crystallised in a programme which is imagining new approaches to the allocation of taxing rights among countries, including new approaches to nexus (permanent establishment) issues and the arm’s length principle.

Following a public consultation document released in February 2019 which put forward two pillars (Pillar 1, allocation of taxing rights, Pillar 2, minimum taxation and other BEPS issues), the OECD Secretariat has now proposed a “unified approach” to Pillar 1 (“the Proposal”).  The unified approach includes a wider scope for large digital and “consumer-facing” businesses, a new nexus rule, a three-tier profit allocation mechanism, concepts for eliminating double taxation, and sets a robust tax disputes process.  The “unified approach” intends to be consensus-building to facilitate expanding the reach of the taxing authority in market jurisdictions in a way that is simple, avoids double taxation, and significantly improves tax certainty relative to the current practice. Whether the intended outcomes, most notably simplicity, are achieved is yet to be seen. At present it is unclear at what size a business would be subject to the new way of tax; there has been some talk of using a threshold of EUR750m which applies for other purposes, but there is also potential for this threshold to be increased.

 

Implications for NZ’s large businesses

New Zealand’s business community will be taking note of the Proposal’s mechanisms (i.e. empowering taxing authorities to collect revenue based on a market base) as the document is, effectively, the OECD’s multi-lateral ‘response’ to unilateral digital services taxes (“DST”) that several countries have proposed / implemented over the course of the last year.  The NZ Government has signalled that any decision to not progress its DST proposal (as outlined in its July 2019 DST discussion paper) would be contingent on significant OECD progress on the taxation of digital businesses.  NZ businesses caught by either the proposed scope of the unified approach (“consumer-facing businesses”) or the NZ DST will be waiting for the Government to confirm whether it will still pursue a DST in New Zealand.  While the OECD timeline for developing the proposals is aggressive, it is still a slower timeline compared to the potential to implement a unilateral DST which can have relatively immediate (though potentially negative – think trade retaliations) impact.

For the group of large New Zealand businesses that operate above the EUR750m threshold, the main takeaway from the OECD’s Proposal will be the wider definition – “consumer-facing businesses” (which goes beyond just highly digital businesses).  This will be of interest, and potential concern, to some New Zealand businesses as it widens the scope of the Pillar 1 work to organisations that do not operate a digital business-to-customer model.  There is also likely to be strong interest in the technical details of how the different mechanisms will operate.  The Proposal makes it clear that more work is needed to define the application thresholds and set specific percentages / allocation keys for determining non-routine returns, allocation to market intangibles and allocating market intangibles to particular market jurisdictions.  These details are intended to be developed in 2020 after high level principle decisions have been made.

The Proposal also notes a number of exclusions from the potential scope – exceptions that will have interesting applicability to some NZ businesses.  For example, the application threshold could be set at a significantly higher level of group sales so as to target only very large multi-national groups.  Far fewer NZ businesses could be in-scope if this change is agreed upon.  The Proposal also indicates that the unified approach might not be applied to extractive industries, the financial services sector and the commodities sector.  This raises some interesting questions around what counts as a financial services business (many businesses that provide financing services are not banks) and how the rules will apply to a business that has traditionally traded commodities but has evolved to also sell value-added products.  The OECD has also not been clear as to what constitutes a commodity; nor where in the supply chain something becomes “consumer-facing”.

 

Next steps

The programme of work on the Inclusive Framework is picking up pace.  We expect a proposal on Pillar 2 will be released for consultation in November 2019, focusing on creating a global anti-base erosion mechanism to ensure multinational businesses pay some minimum level of tax.  Looking into 2020, the OECD has expressed that it is hoping to build greater consensus towards the meeting of Inclusive Framework participants in June 2020.  Once a general consensus is reached on the conceptual approaches proposed this should facilitate the (significant) technical work required to ready the proposals for agreement and implementation – a process expected to take 18 months.

Stakeholders are invited to provide comments to the OECD on the Pillar 1 proposal by 12 November 2019.

If you’re interested in a more in-depth review of the OECD Secretariat’s Pillar 1 proposal, please refer to this Deloitte article.

If you are interested in discussing the potential implications of the Pillar 1 proposal for your organisation further, please contact your usual Deloitte advisor or feel free to connect with Bart de Gouw or Bruce Wallace.

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