Digital Economy Raises Serious Questions For Global Tax Policy – Forbes
Global tax policy is still playing catch-up with innovation. Over the last hundred or so years, tax policy around the world was rooted in clear-cut jurisdictional boundaries. Goods and services were taxed where they were produced and where they were sold, all of which occurred in bricks-and-mortar, physical locations. It was simple and it worked.
Today, virtually all commerce is digital. Sure, there are still stores and warehouses and factories, but the supply chain that supports these structures is almost entirely electronic. Take the purchase of a book, for example. It is not uncommon for the book to be purchased in one country, the order to hit a computer in another and fulfillment to come out of another. If it’s a real book, it needs to be printed somewhere, but if it’s an e-book, it can be warehoused in the ether. It’s the same for apps, games, TV shows, movies, music, software. Even hard goods – in the age of digital printing – are not bound by the traditional laws of physical location.
So, how do you tax them?
This question has been generating a lot of attention lately thanks to a global tax reform action plan published by the Organization for Economic Cooperation and Development (OECD).
The OECD plan, which is called “Action Plan on Base Erosion and Profit Shifting”, and commonly referred to as “BEPS” lays out a series of 15 proposed actions designed to realign contemporary tax policy with the realities of today’s global economy. The first action on the list: Address the tax challenges of the digital economy. Specifically, the report states:
“The digital economy is characterized by an unparalleled reliance on intangible assets, the massive use of data (notably personal data), the widespread adoption of multi-sided business models capturing value from externalities generated by free products, and the difficulty of determining the jurisdiction in which value creation occurs. This raises fundamental questions as to how enterprises in the digital economy add value and make their profits, and how the digital economy relates to the concepts of source and residence or the characterization of income for tax purposes. At the same time, the fact that new ways of doing business may result in a relocation of core business functions and, consequently, a different distribution of taxing rights which may lead to low taxation is not per se an indicator of defects in the existing system. It is important to examine closely how enterprises of the digital economy add value and make their profits in order to determine whether and to what extent it may be necessary to adapt the current rules in order to take into account the specific features of that industry and to prevent BEPS.”
Put simply, the plan says that the old-fashioned, jurisdictional approach to taxation needs to change to better tap into digital commerce.
The plan has raised concern among many technology companies who worry that they could be singled out for special tax treatment. That became apparent following an announcement made in January that the OECD plans to publish a specific tax proposal focused on the digital economy in the next two months. In response, a group of some of the largest U.S. tech companies formed a lobbying group called the Digital Economy Group. In a letter to the OECD, the group wrote:
“The internet is available to any enterprise that wishes to access it. Accordingly, no enterprise that secures a cost advantage by virtue of adopting internet-based efficiencies can exclude competitors from doing the same.”
Since this skirmish between the OECD and tech companies, a number of commentators have suggested that special tax rules for tech firms would not work in the real-world. The Financial Times quoted Pascal Saint-Amans, a tax official at OECD, who tried to recast the agency’s action plan as a focus on the digital economy as opposed to a targeted referendum on digital companies:
“There is no such thing as digital companies rather than digitization of the economy. There may not be therefore a solution for the digital economy but we will need to draw on features of digital economy when we revise the system. Most of the tax planning by these companies will be addressed by this.”
Saint-Amans followed the Financial Times story with a slightly more clearly worded public statement the next day, in which he explained that the OECD would continue to move forward with BEPS:
“The Task Force on the Digital Economy, which has been considering the issue since its inaugural meeting in October 2013, will further discuss options during its next meeting in February. A public consultation is planned for spring. Significant progress has already been made in the various areas identified under the BEPS Action Plan. The OECD will report on options for addressing the specific and systemic issues raised by the Digital Economy at the September meeting of G20 Finance ministers.”
So, while the details are far from final, it is likely that we will see some tech-inspired tax reform talk from the OECD at some point this year. Whether they will single out the digital economy or simply make allowances for the digital operations of all companies remains to be seen.
For some perspective on how this could play out, I spoke with David Spencer, a New York-based tax attorney and member of the board of advisors of the Thomson Reuters Journal of International Taxation. Spencer has written extensively on the digital economy portion of the BEPS project. He pointed to a paper by Professor Dale Pinto, which compared e-commerce to mail-order transactions: