Public outcries over tax avoidance by multinational enterprises like Apple and Google have pushed politicians to act. The unprecedented international political will to combat base erosion profit shifting by multinationals led to the endorsement of the G20 in September 2013 for the OECD to embark on an ambitious project aiming to eliminate double non-taxation.
The OECD has just released the first package of proposals addressing seven action items. These will be presented to G20 Finance Ministers in Cairns this weekend.
One of the key proposals is to increase transparency through a country-by-country reporting regime. Under the proposal, multinationals would have to report the amount of income, profit before tax and income tax paid in each of the countries where they have operations. In addition, they would have to disclose their total employment, capital and assets in each of the countries.
A properly designed country-by-country reporting regime is critical in the war on profit shifting for two reasons. First, it would provide much needed information for tax authorities to identify targets for tax investigations. For example, if such reporting were in place when Apple implemented its international tax avoidance structure, the substantial profits booked in Ireland and the minimal tax paid in that country would be immediately apparent to the ATO.
Second, the country-by-country reporting regime would have a deterrent effect. As the tax benefits from an international tax avoidance structure would be disclosed to tax authorities around the world, the risk of a tax investigation would be much higher. Multinationals would likely think twice before engaging in aggressive tax structures.
Multinationals are campaigning against change
The strong opposition from business against the country-by-country reporting regime suggests it would be an effective anti profit shifting weapon for tax authorities. The OECD consultation on this regime has been one of the most controversial action items of the profit shifting project so far. It has attracted over 130 submissions in total, with 79 from businesses and 43 from tax lawyers and accountants.
The overwhelming enthusiasm from the business and professional communities reflects their strong desire to keep as much tax information as possible “hiding from light”. One of their arguments against the country-by-country reporting regime is the compliance costs associated with preparing the required information. But compliance costs under the proposed reporting regime are likely to be a small fraction of the tax advisory fees that multinationals are willing to pay for tax avoidance structures.
In a recent US congressional hearing it was revealed Caterpillar Inc, an iconic US multinational, paid US$55 million to PwC for a tax structure under which it has successfully shifted US$8 billion from the US to Switzerland.
NGOs and academics, on the other hand, have argued for the country-by-country information to be made public. The deterrent effect is likely to be more powerful if the information is disclosed in the public financial statements of the multinational. The reputational issue is now a boardroom concern and can be a deal breaker when a multinational contemplates a profit-shifting structure.
But the concerns of multinationals have made inroads in the OECD proposal, in which the country-by-country information would be reserved for the eyes of tax authorities and not disclosed to the public. It appears that the OECD’s preference hinges to a large extent on its focus of the first function of the regime, namely, providing essential information for tax authorities to identify tax audit targets.
A successful implementation of the country-by-country reporting regime would be good news for “honest” companies which pay their fair share of tax. As the regime helps tax administrators to focus on the right targets for tax investigations, it would minimise the risk of wasting time and effort on honest taxpayers.
Of course, the devil may be in the detail. The OECD will undertake additional work in the coming months to develop detailed implementation and reporting rules.
It is unclear at this stage how much additional useful information will become readily available to tax authorities. For example, the proposal suggests that information about related party transactions of a multinational in a country would be provided to that country in a “local file”. It is not clear if these local files would be readily available to other countries where the multinational has operations.
Taking Apple’s tax structure as an example, Apple Australia buys products from Apple Singapore, which in turn buys the products from Apple Ireland. The ATO would have the local file showing the information about the intra-group sales between Australia and Singapore. However, unless it can readily obtain information about the intra-groups sales between Singapore and Ireland, the ATO would not have enough information to complete the puzzle. Without a global understanding of the whole tax structure, it would still be difficult for the ATO to effectively assess and challenge the arrangement.
Obtaining full global information about the tax structure of a multinational is the correct first step in the battle against profit shifting. However, it will take much more to win the war.
The tax structures of Apple and Google, etc. are in full compliance of tax law. Even with the whole picture of Apple’s tax structure in front of the ATO, it will still need effective tax law to collect the fair amount of tax. The challenge for the ATO is: how can it lay its hands on the profits booked in Ireland that have not been taxed anywhere in the world? The current tax law does not empower the ATO to claim a share of that income. Tax administrators in most countries are in the same boat.
This is the most challenging part of the project. A fundamental rethink of the underlying principles of the taxation of multinationals is necessary for a comprehensive solution to the profit shifting issues. The OECD will have to do much more work on some highly controversial issues in the coming months. International consensus would likely to be more difficult to achieve on these issues.