The United Kingdom recently announced a proposed ” Google tax ” on multinational companies like Google and Amazon, which have a large market share and generate substantial profits from intangible assets in the country. Despite this fact these companies pay very little in the way of UK corporate tax. The profits are diverted to corporate headquarters in low-tax jurisdictions such as Luxembourg or Ireland, through what the Organization of Economic and Corporate Development (OECD) terms “Base Erosion and Profit Shifting’ (BEPS).
Profit shifting is a common practice among technology companies and other multinationals, which are often dealing in digital transactions or sales that may not actually be ‘located’ anywhere, or are concluded through other entities in country. Intellectual property such as patents can also be shifted out of the home country to a tax jurisdiction that has a more favorable rate.
The UK Chancellor claims that the measure, dubbed the “ Google tax ”, will bring in revenue of over $475 million per year, using a rate of 25%, which is higher than the UK standard corporate tax of 21%. Supposedly, this will motivate the company to simply pay the existing lower corporate tax rate in the UK, and forego the profit shifting strategy.
For example, when Google sells advertising in the UK, not all of those proceeds are being booked or taxed in country, since the national corporate tax only applies to corporations with an ongoing business presence. So the new UK law seeks to tax any profits being generated in the country, even though a company might also being paying tax in the jurisdiction of their headquarters as well.
A New Age of Global Tax Measures
There are a few issues with this move that have raised the alarm for global businesses. The first is that the UK is part of the European Union, a single economic market where companies are free to sell across borders without fear of being taxed in the country they are selling. It may be that this new tax wont survive any legal challenges for that reason alone. Also there is the issue of allocating business activity among several jurisdictions, where management, sales and manufacturing may each take place in a different country.
The impact of BEPS reform on intellectual property remains to be seen, but there is sure to be action in this area by governments who are looking for revenue sources from multinationals. As one commentator notes: “…many strategies for the holding and exploitation of IP are likely to come under significant pressure. As a result, historic, as well as future, positions may come under increased scrutiny.”
Traditionally, profits are only taxed in a foreign country if there is creation of ‘permanent establishment’ (PE) via an ongoing business presence and activity. The digital age has made the application of PE more difficult and evades some of the taxation that can erode global corporate profit. Even where sales are made in country, they are often concluded in a way through third parties or subsidiaries that avoids the creation of PE tax status. The OECD is calling for a revision of the PE definitions in many tax treaties to prevent ‘PE avoidance’ tactics. (page 19, Action 6)
This is a new area of focus for countries that are looking to retain the tax revenue of its largest corporations, while those same companies seek out jurisdictions with the lowest possible rates for their regional headquarters. The “Google tax” is the first step to curtailing this tactic, but other developed countries are sure to follow with measures of their own. There will be an ongoing impact for IP related businesses, as ‘virtual business activity’ via online sales, websites and aggregation of copyrighted material may expose businesses to local taxation.