By Mark Phillips

Nobody can know with certainty, but it’s estimated that around 10 per cent of global GDP — US$8 trillion — is currently stashed away in tax havens.

Organisation for Economic Co-operation and Development’s (OECD) Centre for Tax Policy and Administration Director Pascal Saint-Amans believes US$2 trillion of accumulated profit of US companies is in Bermuda, a zero tax jurisdiction. This means the US could have been short-changed US$700b in tax revenue.

Many governments are tired of taking this lying down. According to Saint-Amans, over the past two years 20 governments in different parts of the world have managed to collect US$37b in corporate tax and that, by anyone’s standards, is not small change.

Certainly the OECD has made rapid inroads with its plan to overhaul the global corporate tax system. The project — Action Plan on Base Erosion and Profit Shifting, commonly referred to as BEPS — proposes a series of actions to align contemporary tax policy with the realities of today’s global economy.

Hard on the heels of the Action Plan receiving a resounding endorsement at the G20 summit in Brisbane late last year, Saint-Amans seems perfectly entitled to remark on its progress: “So far, so good.”

However, the UK government’s recent decision to try to legislate what has been misleadingly dubbed a Google tax (there is no evidence to suggest it has been specifically structured with Google in mind) could be a real spanner in the OECD’s works.

Basically, Chancellor of the Exchequer George Osborne caught the OECD off guard by deciding to introduce a unilateral crackdown on tax-avoidance strategies and, some contend, sidestep Britain’s treaty obligations through a charge that falls outside the corporate tax system.

Although complicated, the proposed changes, effective 1 April 2015, will effectively give British tax authorities powers to levy a diverted profits tax of 25 per cent, compared to the normal tax rate of 21 per cent. According to Osborne, multinationals will have to cough up an extra £1billion. Other than that, he said very little.

Copycats 

The OECD (and British industry in general) was largely unimpressed.

“It is unfortunate that the UK has decided to go it alone with a diverted profits tax, outside this process, which will be a real concern for global businesses,” said Confederation of British Industry Director-General John Cridland.

“The legislation will be complex to apply, and if other countries follow suit, businesses will have a patchwork of uncoordinated unilateral rules to navigate, which risks undermining the whole OECD approach.”

Indeed it does, but undeterred, Australia’s Federal Treasurer, Joe Hockey, has hinted that he too may introduce a Google tax.

Hockey has a strong political incentive to be seen to be doing something. What’s more, like his counterpart in the UK, he isn’t really accountable. He can take whatever unilateral action he chooses, impervious to a desire for international consensus and without the need to wait for it to happen.

And Hockey has another good reason to act, with one well-known IT brand revealed to have successfully sheltered more than US$44b in Ireland over the past four years, a good part of it profits from Australia.

If there was a diverted profits tax, the Australian Taxation Office could claim 30 per cent of whatever portion came from sales in Australia — assuming it could somehow work out exactly what that was.

Consensus

After so much hard work by the OECD and G20 to establish real consensus on how to combat the systemic rorting of the tax system by some multinational corporates, many question why at least one OECD member country is intent on going it alone.

“There is real pressure on governments to be seen to be acting immediately,” Saint-Amans says.

“We’re halfway there on BEPS, but people want the inefficiencies of the international tax framework fixed now.

“They want loopholes that allow big global companies to pay so little closed. That is why there has been such willingness among countries to work together on this, but it’s also a reason why there is pressure to act unilaterally.”

The Action Plan will not be completed until the end of this year, and with an election to fight in May, it is likely Osborne decided that he couldn’t afford to wait.

“The diverted profits tax is definitely not great in terms of coordinating a joint approach,” Saint-Amans concedes.

“BEPS is working because if we do nothing the situation will not improve, and could dramatically worsen. More counties would then take unilateral actions, and that could well harm the investment climate.

“It’s also true that if governments move unilaterally we risk ending up with a patchwork that is not compatible and might even cause the whole international tax system to unravel.”

Saint-Amans notes that the UK has always been a staunch supporter of the BEPS project. He believes its Google tax is in part aimed at sending a strong political message to US companies — particularly (but not exclusively) tech firms — and, of course, reassuring average taxpayers that the big end of town is going to be made to pay its way.

“At the end of the day, I hope the tax will be compatible with what we are doing, or at least an accessory to it,” he says.

“I think it is also a way for them to say that if we don’t achieve real progress on BEPS, this is what things are going to look like.”

For its part, the UK Treasury has denied any conflict with OECD reforms, claiming the Google tax is actually complementary to BEPS. Whatever the case, the OECD has to secure agreement in 2015 on the eight remaining deliverables in the Action Plan. Otherwise, more countries will inevitably go their own way.

Country by country

It is also likely that country-by-country reporting (as opposed to companies declaring profits by region or globally) will form the backbone of the Google tax. The UK was the first of the 44 countries involved in the BEPS proposals to formally commit to such a regime.

“Double Irish” structures are squarely in the UK Treasury’s sights — just as they are with the OECD. Essentially, these structures are used to route profits to havens such as Bermuda, which has neither a corporate nor personal tax regulatory regime. In Britain, many internet companies pay little tax because their main profit-generating activities are in lower taxing jurisdictions such as Ireland.

In 2012, Google used a Double Irish structure to send royalties totalling €8.8b to a Bermuda-based company registered in Ireland. Late last year, Ireland announced it was finally putting an end to the loophole.

Saint-Amans has no problem with Ireland’s relatively low 12.5 per cent tax rate, but he does with Bermuda’s non-existent one. Yet the question remains: how do you close tax havens without eliminating tax competition?

“You don’t,” Saint-Amans declares. “What you need to do is establish rules so that countries can implement their sovereignty. All countries are sovereign, but sovereignties can be undermined either by lack of coordination or the behaviour of a few.

“As such, you need to regulate that behaviour — namely harmful tax practices — by ensuring that you cannot put in place something that will erode the tax base of other countries without requiring any substantial activity on site.

“All countries should be free to choose their corporate income tax, but not to undermine the revenue base of other countries by offering tax shelters to profits earned elsewhere. There is nothing wrong with offering a competitive tax regime for real activities — such as smaller economies wanting to attract investment — but what will not be allowed is when one might offer the best system for a multinational to locate to purely through a contractual agreement, because that is really bad.”

A new era of transparency

What is also potentially bad is that once some of the changes proposed by the OECD take effect, particularly country-by-country reporting, governments around the world will of necessity be reviewing data they have never had to deal with before. According to some critics, the upshot will be a dramatic increase in audit activity across the globe.

“They think, because of globalisation, tax risks have increased and as a result there will need to be more audits,” Saint-Amans says.

“The ground rules as they stand are fundamentally deficient, and so there are many different dimensions to look at. I’m concerned, however, that some in the business community are saying the OECD will create a world where there are audits everywhere. Have we done that? No, and we will not.”

What the OECD is doing, he maintains, is putting an end to situations such as when some Australian companies were recently found to be avoiding tax on profits because they had been shifted through Luxembourg.

Where previously Australian tax authorities were not informed of such occurrences, under BEPS they would be.

Saint-Amans believes country-by-country reporting is the way to achieve a new era of global operational transparency with regard to corporate profits. It will, he says, effectively equip tax administrations with the instruments they need to cope with globalisation.

“For companies, I also hope we provide a system that leads to increased certainty.

“There are countries which are not OECD members but have increasing weight — South Africa, Indonesia and others. They don’t necessarily agree with the OECD and, unfortunately, this means there is still going to be the risk of uncertainty. But it has nothing to do with tax — it’s just a matter of the world economy changing.

“China, for example, now has a bigger role. It is not a member of the OECD, it has its own practices and does not necessarily agree with the OECD’s standards. For years China and India have said that an international BEPS system won’t work. They say that it isn’t fair — with ‘fair’ being from the perspective of their not having a large enough source of taxation.

“We’re trying to bring these countries to the table to agree among themselves on a common set of rules about where profits should be taxed.”

Indeed, ten developing countries are now set to join the consultation process.

All countries should be free to choose their corporate income tax, but not to undermine the revenue base of other countries by offering tax shelters to profits earned elsewhere.

Auditing frenzy?

Saint-Amans acknowledges that there may be some short-term increase in audit activity as governments aggressively pursue revenue repatriation, but that the argument over whether profits should be taxed at residence or source is an old one.

“There is actually nothing new here,” he maintains. “It has been a debate for the past 50 years and will continue to be a debate for the next 50 years. And at the end of the day, it’s a bilateral debate between countries with many elements.”

In reference to suggestions the OECD’s plan could result in China claiming a greater share of mining company tax currently paid in Australia, Saint-Amans says: “Whatever happens at the OECD, there is not much there that will really influence the bilateral negotiations between Australia and China.”

What the OECD can do is fix a system that Saint-Amans says is not only dated and deficient, but badly broken. Some big companies are deliberately behaving unfairly and obviously benefiting from an international tax structure that can no longer hope to deal with things like the digital economy.

“It’s true that some companies have been engaged in extraordinarily aggressive tax planning, but to say they are being unfair is irrelevant,” Saint-Amans says. “They have been able to plan around the system and reduce their tax burden, but the onus is on governments to create the rules.”

Given the breadth of the changes being pursued by the OECD, its progress to date in obtaining the signatures of participating countries has been impressive.

Whether a tax called Google will slow or even stall that progress is yet to be seen.

Mark Phillips is a business writer based in SE Asia and Australia.

This article was first published in the March 2015 issue of Acuity magazine.