On 9 October 2019, the OECD published a proposal with the aim to ensure that large and highly profitable multinational companies, including digital companies, pay taxes where they have important consumer-oriented activities and generate profits. Allocating profits in countries without a company being physically present means a completely new perspective on corporation tax. The proposal concerns a number of elements that are briefly explained below.
It is difficult to predict how this proposal will develop further, but it is evident that countries are already looking for possibilities to enlarge their tax base when material consumer revenues are realized, even if there are no or hardly any physical activities performed within their borders.
Scope
How large the scope is and how a consumer-oriented company should be defined is not yet clear. In any case, these are highly digitized companies that communicate with users remotely. It is clear, however, that “consumer-oriented” must be interpreted broadly.
New Nexus
Secondly, there is a proposal to give the term “nexus” a whole new meaning. According to the OECD Secretariat, this is necessary because the current nexus rules for income allocation allocate zero income in cases in which a company does not have any physical presence or permanent representation in a jurisdiction. The new nexus rule applies both to situations in which a company already has physical presence in a jurisdiction, but also to situations in which the company only has a nexus with a jurisdiction based on sales. In the latter case, thresholds may be introduced for a minimum level of nexus. The new nexus rule would be applicable in all cases where a business has a sustained and significant involvement in the economy of a market jurisdiction, such as through consumer interaction and engagement, irrespective of its level of physical presence in that jurisdiction.
New Profit Allocation Rule and arm’s length principle
The at arm’s length principle remains in the proposal, but is supplemented with formula-based solutions in areas where so-called tensions in the current system are the highest, as in cases mentioned above.
Once it has been determined that a country has the right to levy taxes, the question is how to determine the taxable profit level. Because physical presence is no longer considered the decisive factor, a number of formulas have been proposed to allocate the profit.
Tax Certainty
According to the OECD secretariat, this proposal promotes tax certainty. However, the question is how the formulas will actually work out, as it can be difficult to first define the overall taxable base and attribute results to a country where there is no physical presence at all. This raises also all kinds of follow up questions, like how to deal with overall low results and the allocation of material costs.
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