The international community has been debating tax avoidance by multinational companies for so long that even the most clever scribes are running out of new ways to talk about it.
In 2012, an editor at The Economist titled a column on the subject “The Price Isn’t Right,” a pun on the television game show The Price Is Right. A year later, the issue remained unresolved and The Economist apparently had run out of puns: “The Price Isn’t Right,” read the headline on a feature article on corporate profit shifting. The price is getting better, but it still isn’t right.
The 2008 financial crisis, which plunged many of the world’s richest countries deeply into debt, was the initial spur to action. The Group of Twenty (G20) bestowed the Organisation for Economic Co-operation and Development (OECD) with the task of developing a strategy to stop the abuse of tax havens by wealthy individuals and to close gaps in the international tax system, which multinational companies had been exploiting to lower their annual contributions to national treasuries by between US$100 and $240 billion, according to the OECD.
A decade post-crisis, the effort finally appears to be making a dent, prompting The Wall Street Journal to suggest it could be the most successful example of international cooperation since the World Trade Organization was founded in 1995. The administration of US President Donald Trump, which tends to go its own way and bully others into following, is playing a positive role in the tax discussions, the Journal said.
According to the OECD’s latest update for the G20, there are now more than 4,500 information-exchange agreements, covering 90 jurisdictions, whereas in 2008 there were only 40. Some 47 million offshore accounts have been revealed to various domestic tax authorities for the first time, yielding some 95 billion euros in additional revenue. The value of bank deposits in known tax havens has dropped more than 30 percent from a decade ago, as it has become harder to hide wealth.
Tax dodging is also getting harder for international corporations. Ángel Gurría, the OECD’s Secretary-General, informed G20 finance ministers and central bank governors in Fukuoka, Japan, earlier this month that 21,000 previously secret tax rulings between countries and international companies have been shared, eliminating the ability of executives to negotiate “sweetheart” deals with tax havens.
Eighty jurisdictions now produce “country-by-country” reports of the activities, income and assets of multinational enterprises, up from about 60 a year ago. Since 2015, some 250 tax policies have been reviewed and “virtually all the regimes that were identified as harmful have been amended or abolished,” Gurría said in his report. “Treaty shopping” also has become less lucrative, thanks to improved transparency, he said.
That counts as progress.
But the job has become more complicated than imagined a decade ago. Back then, the obvious culprits of profit shifting were companies such as Starbucks Corp., sellers of tangible goods that could be fairly easily targeted, once governments resolved to do so. Now, the black hats are worn by big global technology companies such as Alphabet Inc., the parent of Google, and Netflix Inc. These companies derive much of their value from intangible assets such as intellectual property, which they can stash with subsidiaries based in low-tax jurisdictions, or from selling services in dozens of countries without ever collecting local sales taxes, for instance.
“The tax challenges of the digitalisation of the economy remain to be addressed,” Gurría said. “The public, in many countries, have yet to be convinced that changes are real and that justice has been restored in the international tax system.”
G20 nations say they will finish the job. Leaders, who gather for a summit in Osaka, Japan, later this week, likely will endorse their finance ministers’ pledge to “redouble” their efforts to find a consensus on taxing digital companies by the end of 2020. The G20’s track record at keeping politically difficult promises is mixed. However, if they pull this one off, it would represent one of the bigger tax revolutions in memory, upending the tax strategies of many of the world’s most successful companies.
The stakes are high.
Important companies could find their profits squeezed. Consider Shopify Inc., Canada’s biggest digital company with a market capitalization of CDN$48 billion on the Toronto Stock Exchange. The tax laws governing “transfer pricing,” or the rates at which divisions of the same company trade with each other, are material enough to the company’s fortunes that it feels obliged to warn shareholders every year in public filings that any changes in the rules could hurt profits.
To be sure, shrinking the biggest digital companies adds to reasons to overhaul the international tax system. These companies have a unique ability to generate profits, because they can acquire hundreds of millions of customers at little cost. Academics and policy makers have begun to worry that their market power is stifling competition and exacerbating wealth inequality. Tax policy has done little to slow their ascent. Amazon.com Inc., for example, paid no tax in 2018 and 2017, according to Bloomberg News.
“When we look at the evidence of many academics, what we can see is that the distribution of income and the widening of the distribution of income can be explained, in part, by some small group of firms getting a greater share of the spoils of economic activity,” Carolyn Wilkins, senior deputy governor at the Bank of Canada, said in an interview last month. “The question that I have is: At what point do these firms actually become a barrier to productivity gains as opposed to a contributor to them?”
Gurría said in his report to the G20 that acting quickly was important to avoid a situation where frustrated governments proceed on their own, risking double taxation and other pitfalls that could impede investment and economic growth. He said he would need a political agreement “soon,” and the outline of an “architecture” would have to be agreed by January, if leaders are serious about having a new regime in place by the end of 2020. “This timeline is extremely ambitious,” Gurría said.
There are more than 125 countries involved in the endeavour, which the OECD calls BEPS, short for the OECD/G20 Inclusive Framework on Base Erosion and Profit Shifting.
Among the proposals under consideration are formulas for valuing intellectual property and other intangibles for tax purposes and a minimum tax for big global firms. On the latter, the Independent Commission for the Reform of International Corporate Taxation would set the rate between 20 percent and 25 percent and allocate the proceeds among countries based on factors such as a company’s sales, employees and users in each country. Such a tax “would greatly weaken these firms’ financial incentives to use so-called transfer pricing among their subsidiaries to shift recorded profits to low-tax countries,” Jayati Ghosh, an economics professor at Jawaharlal Nehru University in New Delhi and a member of the commission, wrote in an op-ed for Project Syndicate in April.
It seems too simple. And yet it’s the complexity and opaqueness of the current system that international companies exploit to their advantage. Simple might be the right answer to this complex problem.