It would be a mistake to assume that the digital tax measures being discussed at OECD and EU level will be limited to particular business sectors. After all, the digital economy is increasingly becoming the economy itself, as the OECD and many others have pointed out. Which also explains why the OECD has stopped calling it the ‘digital economy’ and now refers to the ‘digitalised economy’.
It would also be a mistake to assume that those measures will be limited to ‘digital’ business activities. While digital businesses operating internationally are currently seen as having a competitive advantage over traditional businesses from a tax perspective, there is a growing consensus that targeting the former with new tax measures will tilt the playing field in the other direction. So, for example, a traditional mail-order company that is selling into a country using a hard-copy catalogue, should be subject to the same tax rules in that country as a company doing the same thing by way of online sales. Whether that’s for legal or economic reasons doesn’t much matter. The end result would be new rules for all businesses, not just those with digital business models. Having said that, short term 'emergency' measures may turn out to be more focused.
Another reason non-digital business could be affected would be if the solutions for taxing digital business involved a fundamental rewrite of the current international tax rules. Think formulary apportionment, home state taxation, or a destination based tax system. All these have been raised in some shape or form as potential solutions and all would have a significant practical impact on businesses working across borders. While such radical changes may seem far-fetched to some, it would be unwise to discount them given the widely acknowledged difficulties of ‘tweaking’ the current international tax rules to deal with the ‘digital problem’.
So can we at least say that purely domestic business will not be affected? Well, yes and no. The focus in most cases will be to bring the tax on the foreign business up to that of the comparable domestic business. That’s arguably one of the reasons an equalisation tax is being talked about (or has already been introduced in, say, India or Italy): to bring the foreign tax burden into line with that on domestic taxpayers. However, if the solution for the foreign businesses is fundamentally different from that applying domestically, there could be pressure to amend the domestic rules. For example, suppose deemed profit levels are found to be the most suitable way of determining the tax base for profits allocated to a new ‘digital PE’ (aka ‘significant economic presence’); there could then be pressure to apply similar rules to domestic taxpayers. The Italian ‘web tax’ is a real time example of a digital solution that will be applied to both resident and non-resident suppliers.
Having said that, there are also those saying that solutions should focus on the ‘real’ offenders – the Ubers, Amazons and Googles of this world. Pour encourager les autres, as it were. That idea may be easy to sell in certain quarters, but whether it passes the ‘smell test’ is another matter (even if it worked for country-by-country reporting).
At the other end of the scale, small digital companies and those just entering the market may be disproportionately hit by some of the measures under discussion if not limited to the tech giants. Those companies typically have low margins and are often in loss situations. That makes them particularly vulnerable to taxes levied on a gross basis, like withholding taxes or some versions of an equalisation levy, since those businesses often can’t absorb the tax cost. Digital service providers that work as a kind of shared service centre for participating businesses are equally at risk given that the remuneration will typically be on a cost basis. Even if tax refund mechanisms are provided the related compliance burden is likely to be disproportionate for such companies. Of course that assumes that such taxes are eligible for relief in the first place: if, as is widely feared, such taxes may not be covered by existing treaties then they will count as a direct cost for all players in the market. The current Indian ‘equalisation tax’ is a case in point.
Apart from the question who will have to bear any new taxes, there is also the question of how they will be collected. This is a particular issue for withholding taxes and equalisation levies. As for a regular VAT, there are three basic options: the customer pays, the supplier pays, or an intermediary such as a bank or digital platform pays. All have their difficulties, but there is a particular issue with B2C supplies, given the anticipated low level of compliance if customers have to pay the tax and the practical difficulties intermediaries expect they would have to deal with. It is not then surprising that the Italian equalisation tax has only been introduced for B2B transactions.
It’s unlikely that the OECD’s interim report, expected in April, will contain much in the way of concrete solutions to the above, although it may be hoped there will be some guidance to better align ongoing unilateral measures. The EU’s proposals, expected by late March, should contain some practical ideas for long term solutions, such as an adapted version of its consolidated tax base initiative (CCCTB). Notwithstanding the political pressure for ‘quick fixes’, any concrete measures the EU comes up with will hopefully be accompanied by thorough impact assessments before being implemented. While the tax at stake may be considered high, the potential damage to innovation and growth from premature or ill-considered action is a lot higher!