Stopping Corporate Tax Avoidance: Time For Real Changes
By Wayne Swan
Last week I attended in Paris a very discreet though fundamental meeting: the OECD was discussing its proposals for taxing digital multinational companies such as Google, Amazon, Facebook, Apple, Netflix, and Uber. It was, in reality, the opportunity to talk about the future architecture of the international tax system. Moreover, this debate wasn’t limited to the usual suspects, the members of the G20, the 20 richest countries on the world. It was also open to developing countries.
Tax avoidance can be found in all economic sectors, but digital companies best demonstrate how broken the current international tax system is. Ordinary workers have no choice but to pay their taxes, and feel the full force of the law if they don’t. But increasingly multinational corporations can get away with avoiding or evading their corporate tax responsibilities by using tax havens, where up to 40% of their foreign profits are shifted.
At the centre of this tax avoidance industry is the exploitation of the transfer pricing system whereby a multinational is encouraged to organise its own subsidiaries in complex structures which shift profits to low-tax countries, rather than where the real economic activity actually occurred.
The current multinationals’ tax avoidance structures are conceptually straight-forward: low profits are declared in high-tax jurisdictions, both in developed and developing countries, so that the bulk of profits is attributed to affiliates in low tax jurisdictions supposedly responsible for managing intellectual property, finance or commodity trading. And the whole manipulation is legal in the current international tax system. This is how, for example, Google moved €19.9 billion ($22.7 billion) through a Dutch shell company to Bermuda in 2017
Allocating a multinational’s tax base between countries based on transfer pricing was always a flawed system. But it was tolerated by richer countries until we reached the current magnitude of globalization, with the associated changes to production and supply chains, and the increased value allocated to intellectual property rights, which multinationals strategically place in low-tax jurisdictions as a means to avoid taxation.
As the “Panama Papers” and the “Paradise Papers” have exposed, as much as 10 percent of global GDP is now untaxed and inaccessible to authorities in tax havens. Political leaders have now to face the anger of their populations who discover that multinationals pay practically no taxes, while ordinary citizens suffer the degradation of public services linked to austerity measures.
In 2012, G20 finance ministers recognised the problem and turned to the OECD to implement a process for reform of the international tax system. At that time the scope, size and impact of multinational tax evasion was dramatically underestimated. Thankfully in recent years its impact on public revenues across the developed and developing worlds has become alarmingly more obvious.
This work led, in 2015, to a package of reforms known as the “Base Erosion and Profit Shifting” Project, or BEPS. The reform process was led by OECD countries and opened up to developing countries only after this initial package was unveiled. Today, 125 countries are involved, forming a group called the “Inclusive Framework.”
The OECD work on BEPS is at a critical juncture. It was undoubtedly a step towards fighting some of the most egregious tax avoidance mechanisms. It initiated, for example, the sharing among tax authorities of country-by-country reports on these companies’ profits and tax payments. Unfortunately, however, this norm will apply only to very large multinationals, and the reports will not be publicly available, depriving civil society of an essential tool of transparency.
Furthermore, OECD BEPS system has failed to deal with the core mechanisms of tax avoidance, the transfer pricing system and other tax avoidance mechanisms (such as the Patent Boxes). These remain available to multinationals and have in a sense been legitimised by the BEPS process.
The Independent Commission for the Reform of International Corporate Taxation (ICRICT), of which I am a member, is convinced that alternative solutions do exist. In our latest report, we take stock of what has been achieved and highlight what should happen in the next phase of reform, “BEPS 2.0.”We believe that multinationals should be taxed in accordance with the economic reality that they operate as integrated enterprises, and allocate profits between countries through a formulaic approach using objective factors that reflect their physical activities in each country. No hard to value intangibles, or hard to define risk, control of risk, but employees, tangible assets and sales. These are the factors that create value and generate profit: people, capital investments and sales.
We also believe that tax competition can be stopped by introducing a global minimum tax. But this needs to be wide, to include all type of profits. A global minimum tax should be designed to benefit not just developed countries, but also developing countries, by ending the pressure on them to offer harmful tax incentives and lower tax rates.
It is simply not possible to have prosperous middle class societies without a level of taxation that can deliver decent chances for everyone and sustain successful, legitimate democratic government. Without rising revenues, for instance, developing nations will never be able to meet the sustainable development goals that the United Nations set out in its 2030 Agenda. As the saying goes: pay taxation, buy civilisation. Healthcare for all, education for social mobility, a decent social safety net for those left behind, the elimination of political and business corruption, strong public regulation of the environment – these are what a troubled world needs. They are the best weapons we have against cynicism, populism and hate-mongering.
As the OECD is trying to find a consensus on how to tax digital multinationals, we say the issue is wider and affects the whole economy. As the digital economy is fast becoming the economy itself, any solution should be comprehensive and deliver a sustainable international tax architecture fit for the 21st century. It means a rediscuss ion of taxing rights to deliver a fairer allocation of tax revenue than the current system, which has been stripping critical revenue from both developed and developing countries.
Wayne Swan is the Former Treasurer and Deputy Prime Minister of Australia and a
member of the Independent Commission for the Reform of International Corporate