Digital tax on big tech firms, explained

India along with Japan, China, France, and the UK called on all G20 countries on Sunday to adopt the principle of ‘significant economic presence’ while addressing challenges to tax profits made by offshore digital companies Apple, Netflix, Facebook, Google, and Amazon.

At the G20 Finance Ministers and Central Bank Governors Meeting in Fukuoka, Japan, Nirmala Sitharaman flagged a number of key issues related to taxation and digital economy companies, reported the Press Information Bureau.

Besides Sitharaman, Finance Secretary Subhash Chandra Garg and Reserve Bank Deputy Governor Viral Acharya took part in the interactions at the Ministerial Symposium on International Taxation. They all made a strong case for the adoption of a common digital tax system that meets the needs of the time and brings those skirting corporate taxes into the tax net.

In a draft communique Reuters obtained, the group said it endorses the “ambitious” two-pillar approach to a so-called digital tax, and that it will “redouble [its] efforts for a consensus-based solution with a final report by 2020”.

Coming ahead of the G20 summit next month, this means that the nations—despite some resistance from the G7—will be pushing forward with plans to plug international loopholes used by tech giants to lower their tax bills, such as channeling sales via countries reputed as low-tax jurisdictions.

The two-pillar approach involves rules by which countries must tax companies…

  • …based on where they sell their goods and services, rather than where the headquarters is, and
  • firewalled by a global minimum tax rate, so that even if a company shifts its sales to lower tax havens like Luxembourg, the benefits will be limited.

Big tech’s tax bill is due

In other words, nations across the table voiced the desire to tax digital giants based on their revenue and number of users in every market where they operate.

The amount of tax the world’s biggest tech firms pay has long been a source of frustration for countries housing these companies’ headquarters, and those where their end customers are based.

Facebook, Google, Amazon, Apple, and other large technology firms face a lot of criticism for cutting their tax bills. Google reportedly saved up $3.7 billion in taxes in 2016 by shifting money between Ireland, the Netherlands, and Bermuda. In 2017, Apple moved two of its subsidiaries from Ireland to Jersey after the EU pressured Ireland to close its tax loopholes. Meanwhile, Amazon paid no federal corporation tax at all in 2018 despite profits of $11.2 billion.

Offset impact of digitalisation on the tax system

The new rules would mean higher tax burdens for large multinational tech firms; but they would also make it harder for countries like Ireland to attract foreign direct investment with the promise of ultra-low corporate tax rates and then refuse to share tax-related information.

Britain and France have been among the most vocal proponents of proposals to tax big tech companies that focus on making it more difficult to shift profits to low-tax jurisdictions.

However, talks regarding the EU’s proposed digital tax broke down earlier this year due to pushback from Ireland and the Nordic bloc. There are plans to reopen the debate if the planned reforms are delayed; the UK will alternatively implement its own “digital services tax” by April 2020.

The road ahead

The US is concerned that any digital tax could discriminate against its home-grown tech firms despite assurances that the new tax rules will not attack any particular firm. But US Treasury Secretary Steven Mnuchin later urged the parties to go forward with a strong consensus, pointing out that “having a fragmented tax approach is not good for any of us”.

Members of the G7 reportedly disagree on the legislation’s second pillar, Reuters reported, which is by far the most potent solution to prevent these companies from booking profits in low-tax countries.

Consensus needs building also on the definition of “digital business”, and the problem of distributing tax authority among different countries, i.e., who has the final say over a company’s taxes when it straddles multiple countries.

The G20 ministers, however, expressed commitment to working on charting out a “digital tax” by the end of the year and publish a report in 2020 finalising the details of the measure, according to the working calendar established by the Organization for the Economic Co-operation and Development.

To correct unfair corporate tax codes in lieu of votes

An overhaul of the international tax rules is long overdue, in view of how ill-fitted it is to the designs and advances of digital commerce. With the world’s leading industrialised countries coming out in favour of setting up a new tax model that is adapted to the digital economy, the dangers of big tech’s growing influence may be curbed.

Stressing the need to fix the issue of determining the right nexus and profit allocation solution for taxing the profits of big tech, Sitharaman noted that the work on tax challenges arising from the digitalisation of the economy is entering a critical phase with an update to the G20, due next year.

In a finance ministry statement, she said with almost 90 jurisdictions now adopting the automatic exchange of financial account information, it would ensure that tax evaders could no more hide their offshore financial accounts from the tax administration. She solicited cooperation in bringing relevant developing countries and non-compliant jurisdictions, which have not yet committed to any timeline, into the fold.

Also read: Here’s how to find ethical alternatives to big tech products and services

“The global imbalances left a detrimental impact on the growth of emerging markets. Unilateral actions taken by some advanced economies adversely affect the exports and the inward flow of investments in these economies,” the statement said.

Under the present system and in the absence of a blanket law, the Indian government in 2016 rolled out equalisation levy as a tax deducted at source (TDS) on payments made to multi-national tech firms (like Facebook and Netflix) by Indian firms.

India has, in the past, opposed attempts by developed countries to formulate an e-commerce policy outside the World Trade Organization (WTO) framework. New Delhi has its heart set on bringing offshore companies with a significant economic presence in the country, into the tax net to address the present shortcomings in taxing the digital economy.

Why this matters

India hopes to be able to tax the huge income generated by its growing dependence on offshore digital firms and their services—from cab-hailing services to streaming platforms and messaging apps. Accounting for most of the world’s Facebook and WhatsApp users, the country will definitely benefit once the digital tax (based on the number of users) is implemented.

This will also lead to greater digital inclusion, claim advocates of the proposed common tax, because it puts geography into the tax code for tech companies in a new way.

By specifying revenue and profit thresholds, as well as business lines, the tax is designed to make tech companies bear its burden. It places a levy on the revenue of services provided in a particular location because of a “value creation mismatch,” experts have said.

Users of digital services contribute to their value (when, for example, user data helps sell targeted advertising), while the profits from those services accrue to companies whose operations are elsewhere, argues John B. Horrigan writing for World Economic Forum.

For India, like France, the issue is of utmost importance to domestic politics as well. Both countries gripped by anti-establishment and anti-elite populist sentiments, have refocused governance and economic policies aimed at lowering the tax burden for the middle and working classes.

Several finance ministers, including French Finance Minister Bruno Le Maire, said at the panel discussion on Saturday that they needed to act quickly to correct unfair corporate tax codes or risk being punished by voters.

“We cannot explain to a population that they should pay their taxes when certain companies do not because they shift their profits to low-tax jurisdictions,” he said.

Japanese Finance Minister Taro Aso also highlighted “the public frustration surrounding the lower effective tax rates faced by some digital companies in particular”, Efe News reported.

Prarthana Mitra is a Staff Writer at Qrius

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