25 Feb 2020
How does BEPS 2.0 seek to ensure a more level tax playing field?

How BEPS 2.0 seeks to ensure a more level tax playing field

Authors

Peter Moreau

EY Belgium Tax Partner

Passionate to deliver and solve. Family man and father of 2 boys. Love the outdoors.

Jan Bode

EY Belgium Tax- Transfer Pricing Leader

Transfer pricing. Solution driven. Client focused.

25 Feb 2020

Are the European member states and companies ready for the measures of BEPS 2.0? How will this affect the global tax landscape and companies’ tax strategies?

Digital transformation is all around us creating sustainable growth and enhanced well-being. Traditional domestic and international taxation rules are not designed and fit to deal with the digital economy.

The current BEPS 2.0 initiative introduces measures to ensure a global minimum level of taxation and focuses specifically on introducing new concepts and rules to address the tax challenges of the digitalization of the economy and grant new taxing rights to the countries where users of highly digitalized business models are located.

The impact of the digital economy on taxation

After the financial crisis of 2008-2009 and multiple international revelations about tax evasion and aggressive tax planning, the G20 countries, together with the OECD, decided to take the necessary measures against erosion of the tax base (Base Erosion) and profit shifting. This resulted in the BEPS 1.0 action plans, published in 2015.

While the BEPS 1.0 initiatives have led to many changes to the international tax rules to limit profit shifting, authorities believed that it did not yet adequately address the challenges of the digitalization of the economy. Many countries have started in recent years to impose unilateral tax measures to tax digital companies. Some countries issued new legislation to tax companies who are active in a jurisdiction via online platforms, online sales, etc. or via other means with the introduction of a digital service tax.

The purpose of this new OECD project is to consolidate these types of unilateral efforts into a consensus position to help avoid misaligned unilateral efforts and double taxation. 

The term 'base erosion and profit shifting' is actually not a good choice of words to define the new OECD initiatives. Rather, it is a 'recalibration' of the international tax system to pave the way for a level playing field for taxes.

The two pillars of BEPS 2.0 that will affect companies

In January 2019, following the initiative of the G20 leaders, the OECD announced that it would engage in renewed international discussions to focus on two central pillars: one pillar addressing the broader challenges of the digitalization of the economy and focusing on the allocation of taxing rights, and a second pillar introducing minimum taxation standards. These initiatives involve more than 130 countries to achieve a consensus position.

Pillar One
  • With the Pillar One proposal, the OECD is developing a new right to tax highly digitalized companies but also consumer-facing companies who reach consumers in a jurisdiction through digital means. When these companies generate revenues from consumers or use consumer data even without being physically present in such a country, they will become subject to tax. Since the current proposals also target consumer-facing companies who sell either directly or via intermediaries to a consumer, many multinational companies may potentially be affected by these new proposals.
  • These proposals contain a fundamental change to the existing transfer pricing rules. The proposal introduces the use of a formulary-based approach to allocate profits between companies or branches. This is an important evolution and it will be interesting to see how both sets of rules will co-exist.
Pillar Two
  • Pillar Two represents a substantial change to the international tax landscape, striving to ensure that a multinational corporation will pay a minimum level of tax on its profit.
  • The OECD does not want to force countries to introduce a minimum rate, but will under this proposal impose a minimum taxation on its foreign income received by foreign subsidiaries and branches that are taxed at a rate lower than this minimum rate.
  • Several measures are defined to achieve this goal, ranging from an additional tax at the parent company level for lowly taxed foreign income, to source taxation (withholding tax or deduction limitation) for payments made to lowly taxed companies.
  • This proposal is expected to affect both the behavior of taxpayers and policy-makers in the jurisdictions and wants to stop the race to the bottom on corporate tax rates.
  • There are still many challenges to achieve a workable, simple and transparent model to achieve these objectives, but the OECD is reporting good progress and aims to come to some conclusions by the end of 2020. Not all corporations would be subject to such a minimum taxation and mostly the globally active multinationals with a certain minimum turnover may ultimately be subject to these rules.

Both with Pillar One and Two, the OECD strives for a coordinated and multilateral approach, as there is a risk that many jurisdictions will take unilateral actions to protect or attract their tax bases, with adverse consequences for all jurisdictions, leading to double taxation and controversy.

These measures are meant to lead to a better level playing field between countries, reduce tax competition between countries and give taxing rights to jurisdictions where the company has no physical presence but is active in its market.

The implementation of BEPS has much support

The OECD negotiated with more than 130 countries to substantially reform and recalibrate the international tax system. More than 100 countries have already indicated that they will implement the OECD proposals in their own legislation. It should be noted, however, that – despite multilateral negotiations – several countries are going ahead with measures of their own to tax major players in the digital economy.

More than 300 stakeholders provided feedback on the consultation documents Pillar I and II of the BEPS Action Plan. This proves that this international theme is very much alive in various sectors and companies.

Differences in tax rates between EU Member States

Tax rates in Europe vary widely. Large countries such as France and Germany have a rate of approximately 30%, while Ireland has a statutory tax rate of 12.5% and Hungary of only 9%. The average rate in the EU is between 20 and 25%.

It is clear that tax rates, and in general tax rules, always have and will be an important investment criterion. The BEPS 1.0 rules have changed international tax rules but have not imposed minimum taxation rules. With BEPS 2.0, the tax regime may potentially become less of a differentiator for multinationals as a criterion to invest in a jurisdiction to perform part of the business operations of a group.

Consequently, large EU countries advocate a healthy tax base as well as measures to reduce competition on the basis of tax regime by introducing minimum taxation rules.

Countries are preparing for BEPS 2.0

In assessing the impact of these new OECD initiatives, one can generally distinguish four categories of countries within Europe:

  • Countries with many headquarters and a large market, such as Germany and France.
  • Cr countries with many headquarters, but with a smaller internal market (and therefore export-oriented) such as the Netherlands, Sweden, Denmark, Finland,...
  • Small countries with few multinationals and a small internal market.
  • Countries with few multinationals (Ireland, Luxembourg,...) that, as regional hub offices, have managed to create a strong economy thanks to their tax regime.

It is clear that the measures of BEPS 2.0 will impact these economies differently. The OECD has measured in its impact analysis that the BEPS 2.0 initiatives will increase global tax revenue by 4%, indicating that the economies with the highest direct investments (hubs) will be impacted most. Many countries have already carried out impact analyses in order to examine the impact of tax-neutral measures on their income flows and to take balanced policy measures.

Many companies believe that the implementation of BEPS 2.0 will fade away fast. Nothing could be further from the truth. Companies should prepare thoroughly for far-reaching measures.

Companies should also prepare for BEPS implementation

The implementation of BEPS 1.0 via new treaties, EU directives and domestic legislation managed to get the attention of all market players. Internationally operating companies and national policymakers realized that the European approach against tax avoidance and tax loopholes was not a bluff but a project with concrete timelines.

BEPS 1.0 has barely been properly implemented and absorbed, yet every involved party must consider the proposal regulations stipulated in BEPS 2.0. The OECD has many challenges ahead to reach agreements on the proposals and be able to implement this worldwide, but it is committed to do so.

Many believe that the planned timing for conclusion on the measures by the end of 2020 may not be met. But even if it does not make the deadline, the implementation of such new measures in the near future is likely to become a reality, coordinated or not. If not coordinated, countries can still introduce individual reform measures. EY therefore strongly advises not to take a wait-and-see approach and follow up on these developments.ct analyses in order to examine the impact of tax-neutral measures on their income flows and to take balanced policy measures.

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Summary

The increasing digitalization of the economy has in recent years driven certain tax authorities to redefine their taxation rules. The OECD is now working on an initiative to develop a coherent recalibration of international taxation rules. This also includes measures to reduce the tax rate competition between countries. This initiative has a large buy-in and is developed with the participation of more than 130 countries. As these initiatives will impact many multinational companies, it is important to closely follow the evolution of these OECD initiatives and understand the potential impact.

About this article

Authors

Peter Moreau

EY Belgium Tax Partner

Passionate to deliver and solve. Family man and father of 2 boys. Love the outdoors.

Jan Bode

EY Belgium Tax- Transfer Pricing Leader

Transfer pricing. Solution driven. Client focused.