Following my comment on the taxation of intangibles yesterday Andrew Jackson, a chartered tax adviser wrote a comment and blog post in response.
The first thing to say is that Andrew very clearly did not follow the argument very well. I know I was writing whilst listening to a session at the OECD, but he seems to think a headline is the same as an argument and that's not the case. I did not say there was no such thing as IP. Nor did I say that IP should not be taxed if charged for by third parties. What I did say, in summary, was:
When that IP is transferred to an asset owning enterprise ownership and use of the IP is separated, and when the asset owning company is located in a low tax state, which is now commonplace within many multinational corporations, the tax treatment of the IP owner and the company within a group that actually exploits that IP and makes the value that results from that use are also separated.
I thought it pretty obvious that the argument I made did, therefore relate to multinational corporations, but some seem to have missed that point, as Andrew did, at least in part. Instead he posed this question:
To take an example of a UK company that creates a successful brand identity (which I think you accept is IP), and then sets up a French subsidiary to use that brand in France, would you argue that for tax purposes the UK should not recognise any form of income relating to the French use of the IP? That is, all profits made by the French company should be taxed only in France, with any royalties paid to the UK for the use of the IP being ignored in both France (hence not deductible) and the UK (not taxable)?
That would seem to be ignoring a significant commercial issue. You may consider your own blog to be worthless (if you excuse the phrasing!), but many people consider other forms of IP to be worth paying considerable sums for, to third parties as well as related ones.
The upshot would be, for example, that subsidiaries using group branding would be taxed more harshly than third-party franchisees using the same branding. And in the example above, the UK parent would have expended considerable tax-deductible costs to generate non-taxable royalty income, which again would seem odd.
I'd agree that it is hard to get IP valuations right, and there's a lot of subjectivity there, but simply washing one's hands of a tricky question seems to me to cause more problems than it hopes to solve.
I have responded on the original post, but think it worth sharing that observation more widely, as follows, because the points made are important in this debate:
Your claim is based on a number of assumptions that you have probably never chosen to question because few do. They are nonetheless just assumptions; they are not facts.
The first of these assumptions is that the entities in France and the UK are separate entities but this is quite untrue: whilst under common control they actually form parts of a single entity. There is no reason why they are separate: a branch could also be used. It is choice but not necessity that a separate legal entity is used but to suggest that because this legal form is adopted the two entities are distinct and separate. You explicitly state that one controls the other. They are therefore not just under common control, they are an integrated whole.
That then is how they should be taxed, as a single entity. Any other approach is taxation on the basis of a fiction that does not really exist. In this case the tax base for the two companies is their combined profit. That is what they make and can return to their owners; a legal fact that the availability of group consolidated accounts recognises. The duplicity of tax and accounting approaches here is absurd: accounting seeks to reflect the reality of the integrated whole, the tax part of what is in effect the same profession seeks to deny that reality when the group profit does, in practice, provide the appropriate tax base (subject to adjustments) for the entity as a whole.
In that case the question to be asked is how the group profit is allocated between the states in which the combined company operates. That has, again, to reflect economic reality. And if a payment was made from France to the UK for the use of intellectual property that was the supposed property of the UK group that would, of course, be eliminated from consideration in the group accounts as being irrelevant to the overall profit made. All it represents is an allocation of profit — which is of course subject to challenge by both tax authorities on the basis of its artificiality under transfer pricing rules.
So what I am suggesting is that arbitrary payment that is open to challenge be ignored for tax and instead the combined profit be allocated on the basis of facts to the two states in which the combined operation trades. The basis suggested is a formula based on rational, ascertainable and pretty much indisputable data.
The question then is why would you prefer to be taxed on the basis of a fiction — which is what happens in the separate entity, arm's length pricing approach instead of on the basis of economic and accounting reality with profits apportioned on the basis of fact and by ignored wholly artificial assets that have no real intra-group significance, like intellectual property? The only answer I can come up with is that the artificial approach — fairy tale taxation as I think of it — helps the tax profession abuse profit allocation for its own advantage (there are lots of fees to be earned in this process which is little understood by the businesses concerned, who are therefore stuck over a barrel when the demand for payment from the profession is presented) and which allows it to claim its own intellectual property when candidly not many of the tax profession can otherwise claim a unique competitive advantage of equivalent value.
So what I propose offers certainty, simplicity, economic reality and reduced documentation, all with the result that reduced accountancy fees are paid.
No wonder tax advisers do not like my suggestion. But that does not mean it's wrong. Indeed, it may well mean it is right.
To reiterate: my comments relate to groups of companies. They do consider the nature of IP and the concept of value inherent within them. But mostly they relate to base erosion and profits shifting and the role of intellectual property in that process. That erosion does not take place without the active connivance of the accounting and tax professions. Intellectual property lets them play games to achieve that aim. It's time they were brought to an end by following the accounting and not the tax approach to this issue.
Thanks for reading this post.
You can share this post on social media of your choice by clicking these icons:
You can subscribe to this blog's daily email here.
And if you would like to support this blog you can, here:
I don’t understand this at all. There are UK companies that license valuable IP to foreign affiliates (the music industry is an obvious example). If we ignore the IP and the license fees then you’re creating a tax-free bonanza for them. The UK is, after all, a net exporter of IP.
I am not for a minute saying income is not taxed
I am arguing that intangible IP should not be used to reallocate profit in a group
But I am saying 100% of profit should be taxed
Please read what I wrote and not argue with straw men
I am not at all clear what you are saying.
So income from IP should be taxed but expenditure on IP not allowed as a deduction? Surely not.
Or are you saying expenditure can be allowed as a deduction in some circumstances but not others?
Or are you saying the amount of taxable/deductible license needs to be agreed between the States concerned? If so, that doesn’t seem very different from what happens now.
It would help if you stated simply what it is you are proposing.
I am saying intra-group IP is not a basis for profit allocation and needs to be ignored as it is for accounting now
I wholly agree third party is taxable / deductible
I am saying no agreement on the IP payment between states will be needed intra-group – it will be ignored
I am saying real profits – ignoring intra group reallocations will be allocated on the basis of the real profit drivers – sales, people and tangible assets
Like it or not, this is the direction of travel for international tax now
I am entirely clear what I am proposing
So is this part of your general position in favour of unitary taxation? Or a proposal within the existing international tax framework? If the latter, you need to be more specific.
The route to unitary tax is via profit split on the basis of pre agreed formulas based on key allocation drivers – sales, labour and physical assets
Not hard to summarise or understand
So you’re saying let the states scrap it out between them as to where the activity takes place? I don’t agree. The only people that are likely to benefit from that approach are tax advisers! What we need is a certain method of taxing multi-national groups that reflects economic reality and ensures that the MNCs and the various tax authorities can have some confidence in what portion is going to be taxed in each jurisdiction. To say you can pool the entire activity and just carve it up according to “the facts” is too simplistic. The solution is better enforcement; ensuring prices charged in intra-group transactions really are reflective of third party terms and – even more importantly – working with other jurisdictions to discourage low tax rates in third countries. Including subject to tax language in every double taxation agreement. Then taking an aggressive approach on tax residence and enforcement of genuine third party pricing. There is not a panacea for this issue.
But usually there are no equivalent 3rd party terms
So we end up taxing on a fiction
Or states scrapping it out on the basis of a fiction without guidance on how to deliver profit split
I am arguing for pre-agreed guidance on profit split
There is no doubt this is the direction of travel now
But professional invested in the current system are fighting for their profits from the existing failed mechanism for all they’re worth
I think you are being a bit dramatic as to why people criticise this suggestion. Most just seem to think that you’re wrong rather than being too invested in the system; the truth is advisers make money out of tax compliance in exactly the same way that they make money out of tax avoidance and your proposal doesn’t appear to me to cut down on the overall amount of work that a tax adviser would have (as far as I can see, it increases it). It’s no more a fiction than saying there is no separate entity, because there is, or that IP doesn’t have value, because it does. Intangible assets aren’t a fiction just because you say they are. What’s your evidence to say that usually there are no equivalent third party terms? In my experience that is not true, but HMRC is not aggressive enough in challenging comparables that are not right or a range that is too wide or functions being carried on across more than one jurisdiction. The problem is lack of challenge over the residence rules and the way transfer pricing is applied.
I think it is a truth universally acknowledged by all but tax advisers and the suppliers of database information that the supply of arm’s length pricing comparabales is limited
But if you want to tax on a fictional basis despite that, cary on arguing for the absurd
The tax world is moving around you, which is why country-by-country reporting is now going to be in transfer pricing requirements
I don’t care about CBC reporting. It just generates more work for tax advisers. I want a cohesive tax system which reaches the right result on the economic reality of the situation and provides overarching protection from egregious avoidance. I don’t think the current system achieves this; we agree on that. I don’t see how your system gets us any closer – it’s as much of a fiction as the system you are so critical of now and Andrew has provided a practical example of why. Your own statement that it is a “truth universally acknowledged” does not count as evidence. My opinion is that the current system would be vastly improved by enforcement and a more aggressive attitude by HMRC. You have yet to engage with that suggestion.
If, as I said at the OECD, CBC could provide safe havens for multinational corporations when matched with APAs the amount of work in agreeing international tax would reduce substantially
That’s why it is vigorously opposed by accountants and lawyers
And I have answered all your points – or others have – in links provided
Of course it’s limited – we don’t have an infinite number of transactions to compare to. Business is complex enough that it’s always going to be hard to find an exact comparison to any particular deal.
But that doesn’t mean that the information available isn’t good enough. You’re simply reiterating that transfer pricing is not a simple subject, which is not news, and concluding that it should be done away with, which is an over-reaction. Especially when your proposed replacement is more comples and less appropriate.
You have not said why it is more complex
Or less appropriate
You’ve just asserted it
I don’t see where you’ve engaged with the point I made at all – it seems it is you who is making assertions. Why do you think your solution is more effective than vigorous enforcement, in the light of the criticisms that Andrew has levelled (I think his blog post explains why he believes your solution is less appropriate than transfer pricing)? You attempt to brush off any attempts to actually dig deeper and collaborate in finding a solution and instead insist you are right without really saying why. Who will prepare the CBC reporting? The best qualified people seem to me to be tax advisers. Like I said, compliance work pays just the same as avoidance.
I heard lots on vigorous enforcement over the last few days
Stronger CFC rules
More withholding
International GAARs were proposed
All by people who know that EU law for a start will prevent this for 28 states at least and the rest will take decades
It’s a lovely excuse for continuing abuse
I want to end that abuse
What I propose will do that
And who does CBC? It’s from the audited accounts
Easy
Which is why it’s winning the debate
Yes I have – in other comments and in the examples on my own blog.
I am writing a longer note on Unitary Taxation, but I’ve been diverted into a digression on the current position so it’s taking longer than I expected. Essentially, though, I think Unitary Taxation is a special case of the current profit split approach to TP which would work well in limited circumstances, but for anything more complicated than a wholly-owned group you’d have to hang it around with too many epicycles.
Your approach reminds me of the HMRC approach to law-making, which seems to be to start with a simple position, draft rules to cope with it, and then not test it against more complex situations. With HMRC this inevitably leads to unfairness and/or patching up. Witness the recent partnership consultation, which seems to be completely unaware that many complex structures are set up for purely commercial purposes (in farming and property development, for example).
UT is not a special case of profit split
Profit split is a first approximation to UT and a step on the way to it
But it will need a GAAR as a next stage – but that will take time
Again, I don’t think your assertions follow from your proposal. You can assert that they do all you like. You can call me a supporter of tax abuse all you like (though it makes me wonder whether you’ve even read my comments, on this blog and others). The fact is you’re not engaging with what I am actually saying. I said nothing about the CFC rules, nothing about withholding…I am talking about enforcement of residence. Giving HMRC the resources it needs to challenge TP reports. None of that is anything at all to do with EU law. CBC is one tool which will assist with my approach – but it’s not a panacea and this shouldn’t be about “winning”, it should be about coming to the right answers.
The problem is, HMRC already has a huge amount of information and it could do more with it. I don’t think it has the resources to do much that is useful with CBC reporting so just pointing at CBC isn’t really giving a full answer to the issues and certainly isn’t doing anything to address what I’m saying. HMRC does not have the resources to factually assess every MNC to try to determine which parts of its global business are within the scope of UK taxation.
I don’t really understand what you mean by “it’s from the audited accounts”. Large businesses will go to their tax advisers for their tax compliance, I presume that will include CBC reporting. Documents published by the Big Four seem to reinforce that assumption. Just like with FATCA, which provided a huge amount of work for advisers.
There is no need to be so aggressive – I’m sure we’d have a much more fruitful discussion if you weren’t.
I am aggressive for good reason
You are supporting a system of abuse that literally costs lives
You expect me to be happy about that?
Dream on, is my response
Richard, I’m supporting nothing. You seem unable to read my posts. I don’t support abuse – I just don’t support your proposal because I think you’re wrong. Yours isn’t the only way to tax “justice”. Why not read my posts before you respond to them? It makes you look very foolish.
I read them with care
I am seriously doubting you reciprocate
Thanks for the reply.
In answer, I dispute that they are the same entity. Even ignoring the legal position, how would you account for a position where, say, the UK company owns 75% of the French company? You could not replicate that with a branch.
The 25% shareholder in France is entitled to 25% of the profits, but under your proposals would be rather higher at the expense of the UK. Or rather, assuming that a royalty is actually paid but not deductible, the minority shareholder’s post-tax profit share would be reduced.
I assume that you’d treat a 49% subsidiary of the UK company as a separate entity, so what we’d have is a situation where a French shareholder would be materially disadvantaged if he had a 49% holding rather than 51%, purely for tax reasons.
Having significant local interests in overseas operations is of course extremely common, so this is not merely a theoretical case.
I’d also submit that assigning nil value to IP for tax purposes is far more of a fiction than assigning an arm’s length value.
The main problem that I can see with arm’s length valuation is not that it’s a fiction, but that it’s hard to do so one runs the risk of getting an inappropriate answer – especially if not all the factors are taken into account. But I’d rather use principles which are intuitively sensible, generally applicable (to part-ownership as well as full control), and which reduce the anomalies in their application, than ones which are an acknowledged fiction, only make any sense in restricted situations (full control), and mis-fit a whole range of others (minority interests) leading to deliberate differences between the tax analysis and the commercial position – even if the latter are easier on the calculator.
Control is control
75% does not matter
Ownership is only one form of capital
And 49% is a very different reality from 51% so let’s recognise that fact
And as for your final para – sorry, but I am arguing for the use of facts – verifiable, provable facts (sales, labour head count and cost and tangible asset cost), and not fiction, which is exactly what you want to use
So a 25% shareholder’s rights do not matter, and the amount of profit they receive should depend on the results of the person who holds the other 75%?
I cannot agree with you there.
That’s what happens now….
Haven’t you noticed?
That happens now only if the majority shareholder manipulates transfer prices in the way you suggest and the minority shareholder does nothing about it; and it only happens within the joint venture: the resulting profits are not affected by the results of the majority shareholder’s other business.
With unitary taxatin, or by ignoring the value of IP, you would get a mismatch in every case, the tax charge in the JV suffered by the minor member would depend on the result of the major, and the minority shareholder could do nothing about even if it wanted to.
I really cannot see how it is fair or reasonable for me to get reduced dividends from my 25% holding simply because you as 75% shareholder made bigger profits in your other businesses and part of the tax liability on your profits has been allocated to our joint company.
I could try to set up the shareholders’ agreement to compensate me for this, but a) it would be tortuous and probably unworkable, and b) outside commentators might object to me trying to soften the impact of tax rules.
So I would have second thoughts about entering into that venture with you. The resulting chilling effect on commercial ventures would not be a good result for the world economy.
The remedy for the JV partner is in contract law
Not tax law
Shall we not be silly about what tax law is meant to do here? It taxes groups
It does not protect minorities
You clearly know that and are clutching at desperate straws
“Shall we not be silly about what tax law is meant to do here? It taxes groups”
Ah, I think we have a fundamental difference of opinion here: I think tax law is meant to tax groups *fairly*.
It is easy to tax groups, if you ignore what they do, who owns them, and all those other legal niceties. Taxing them fairly involves taking account of that sort of thing, and not lumbering me with part of your tax liability just because that way the tax regime fits a neat theoretical model rather than commercial reality.
There is no commercial reality to arm’s length pricing
That’s the point – arm’s length pricing does not happen because group’s decide to trade internally
So we should tax what does happen – not what you’d like to think should happen
You really cannot win this one with the line of argument you’re using – because arm’s length pricing is a fiction and always will be
“There is no commercial reality to arm’s length pricing”
Widgets are made in country A and sold to a related company in country B. They move to B and are sold there. That is a commercial reality.
You say we should treat the seller as the same legal entity as the manufacturer even if it does not have the same owners. I think that is far more of a fiction than saying that the manufacturer has sold widgets to the seller which has sold them on to a third party. It is certainly *not* a commercial reality, and cannot be reasonably viewed as one except in certain cases.
Arm’s length pricing is about price – not the fact that a trade takes place
And you well know that control is the issue
Respectfully, you are game playing and I am not interested in that
But some IP ownership is a verifiable fact – patents being the obvious example and they clearly have a value – the fact it’s hard to detrmine that value doesn’t to my mind mean that value and existence should be ignored.
There are also clearly issues around who should really be treated as the owner or owners of the IP for tax purposes, which may be different from who has the legal ownership, but again the fact that is difficult I don’t think means we should simply ignoire its existence.
On the latter,for example an organisation may have work done on developing a patent to market in an umber of lcoations around the world – e.g. you may have R&D centres in a number of countries (not unusal). Then for tax it may be arguable that ownership of the resulting IP should be shared rather than looking at the transactions the group undertakes – e.g. it may have the IP owned centrally and those R&D centres working under legal agreements as sub contractors to the central location – priobably they will make a small mark up.
But clearly the intellectual input has come from a number of locations so why not adopt a shared ownership approach and attribute a share of profits to those locations rather than allowing the central location to reap the benefits through royatlies, which is what commonly happens in practice. Anyway just an idea.
But back to my key thought taht you shouldn’t just ignore IP, especially where it clearly has identifiable/factual existence and fact.
But when that IP exists for sale only intra-group then all it does is move group profit
And then it’s not a profit driver, just a protection mechanism for profit which is very different
And in that case it may well be real but it should not be allowed to distort group profit allocation
And that’s my argument – which reflects the accounting reality that is called a true and fair view – which is what we should tax
If the 2 entities in France and Uk are an integrated whole, does that mean that the French entity can simply forego submitting a tax return. It is after all, no more than a branch. Do you honestly believe that the French revenue authorities will accept your argument.
So how would you suggest the French and the UK tax this “integrated whole” under current legislation.
Of course it does not mean that
It just means intra-group IP is ignored when allocating the profit split – a method allowed since 1995 by the OECD
Incidentally, you seem not to have read my posts very well. In particular, when you say above:
“I did not say there was no such thing as IP. Nor did I say that IP should not be taxed if charged for by third parties”
I didn’t claim you had said either of those. On the latter, although you appeared to be arguing that IP should be disregarded for tax purposes when intra-group you were silent about third-party positions, so I addressed both possibilities.
I apologise then: you appeared to hare a position others were taking; maybe I assumed too much into that
Oh, and for your final ad hominem comment: as a tax advisor, I don’t dislike your suggestion because I think it will reduce opportunities to avoid tax. I dislike you suggestion because it’s focused on a narrow position, it introduces anomalies and asymmetries between the tax and commercial analyses which do not currently exist, it will be just as hard (if not harder, or impossible) to achieve a “correct” answer as the current position, and to be honest it will artificially shift profits one one jurisdiction to another and this will permit tax avoidance.
So I think it’s complex, unfair, distorting, and ineffective at what it hopes to achieve. None of those recommend it to me, as a seeker after a simple fair tax regime which taxes economic reality.
I suggest you read the 1932 League of Nations discussion on this issue when minds were open
Unitary was rejected then as consolidated accounting did not exist but almost all agreed it was the right approach
On the other hand almost all agreed arm’s length pricing was taxing a fantasy
The profession has invested heavily in the fantasy
Read this http://www.taxjustice.net/cms/upload/pdf/Towards_Unitary_Taxation_1-1.pdf and http://taxjustice.blogspot.co.uk/2013/06/international-business-taxation.html
I’ve only skimmed the relevant sections of Picciotto’s book so far, but I’ve not seen anything to suggest that “almost all agreed it was the right approach”, or “almost all agreed arm’s length pricing was taxing a fantasy”.
So far as I can see, some countries thought apportionment was a good idea (although I think you’ve said clearly that in your view Unitary Taxation is about allocation, not apportionment), and some thought not, and the result was that they agreed on the arm’s length principle as being better.
But even though the League of Nations supported the arm’s length principle, I’d suggest that conclusions reached 80 years ago in a very different commercial and olitical environment should not necessarily be taken as gospel. The principles used should be those that give a sensible result now.
Fo you think BEPS would have happened if anyone thought the arm’s length pricing approach was working?
Seriously?
BEPS is looking at how the current approach is not working as well as it could. Reviewing the position is always appropriate, as is fixing it if it’s not working well.
To my mind there are two main faults with arm’s-length: one is that insufficient resources are deployed to police it. Give HMRC (and other authorities) better resources and the problem gets a lot smaller. The other is that it implicitly assumes that taxable income in country A is as good as taxable income in country B, but with tax havens and nil tax rates that’s not such a good plan in practice. I’d prefer some discrimination here – CFC rules that work in both directions, for example, or withholding tax on payments made to certain jurisdictions – though I know current UK tax policy is to scale that sort of thing back.
Ah, always that demand for CFCs – it’s the new mantra of the profession now they have destroyed them and know there is no chance of them being recreated
That demand is pure hypocrisy, in my opinion
So let’s stick to what’s possible. That’s the world I work in. You can suggest make believe but it just shows you want make believe reform to a tax system founded on make believe
At which point I think it fair to say that this debate is no0t going anywhere – which is exactly what the tax profession want
Unless you have a substantive point to add I think this line of discussion closed
I will determine what is substantive
Sorry, you say I want a make-believe system, yet I’m the one talking about taxing transactions which actually take place and you’re talking about blithely ignoring minority shareholders and deeming IP to have no value when it clearly does?
I really don’t understand what you’re getting at.
What this particular bit of the tax profession wants is a clear simple system that taxes profits in the country to which they relate.
I honestly believe that the arm’s length principle can achieve that, although the operation of it needs to be tightened up. I also honestly belive that Unitary Taxation as currently presented could only work sensibly in a small number of cases and will be a disaster if applied to most businesses, in that it will make the position hopelessly confused and lead to profits being taxed where they’re not made.
I am talking about allocating 100% of taxable profit determined only by total third party group transactions between the starts where it arises on the basis of the actual drivers of profit – labour, sales and real assets
That is all that can be real profit – the rest is reallocation giving rise to more or less than single taxation
Those are the real drivers of profit – internal IP only reallocates it
So my model is real
It is accurate
And the drivers are indisputably measurable
What is more – as tax recognises – it’s only the arm’s length deals that are properly priced that we will consider
So, this is market determined, market measurable, and only taxing real profit – where it is earned.
Now tell me what is wrong with that
Challenge accepted.
Your model takes no account of minority interests. Investors take great account of minority interests. Your model is therefore inaccurate.
The formula is based on headcount, sales, and assets. All these are easily capable of differing wildly between very similar businesses:
– Company A has 100 full-time employees in the UK; Company B has 10 staff and hires in 90 from an agency; ceteris paribus. Tax difference at present, nil. Difference under your formula, enormous.
– Company A has subsidiaries across Europe to make sales. Company B has one in Ireland from which all sales are made, with the subsidiaries just marketing. Under your system, tax is weighted more heavily to Ireland. You will be aware that the location of sales is a hot topic at present.
– Company A has a large property; Company B rents an identical property next door; ceteris paribus. Tax difference at present, nil. Difference under your formula, enormous.
So your proposal ignores market realities, relies on a formula which gives big tax differences for negligible commercial changes, and is unfair where there are minority shareholders.
You can perhaps deal with these problems, but the epicycles you’d require would destroy the very simplicity and transparency which are the whole purpose of the exercise.
Points answered:
1) Sub contracting is real, it has to be recognised and is in unitary tax.
2) Sales are by destination, not source: your point misses that widely appreciated fact
3) Property ownership is real: we can miss out physical assets if you like though: I can live with that.
But what you wholly miss is that all the issues you describe reflect real market choices that tax should reflect
What you want is a system of profit allocation that pretends there is a market and pretends transactions are real on an intra-group basis when we know they’re not
Now which is better: reality or make believe?
As for minorities: I have already made the point that tax law is not there to protect them and does not now and can’t
So we get back to the fundamental issue: what do we allocate tax on – reality or fiction and why you prefer fiction
Please explain
Picciotto’s paper, which I’ve just started to get to grips with, doesn’t seem to say that sales are by destination. His starting point (2.4.3, page 16) is: “It should be noted that this does not mean that a country can tax the business profits of a foreign firm which only sells into that country, unless that firm itself carries on business within the country.”
This brings us back to the old permanent establishment problem, but he then proposes (without much detail, so far as I can see) that the definition should be broader. The only specific he gives is that if a company has a website in a country, that should be a business presence. Not sure what he means by having a website “in” a country, but if he means by country identifier, Tuvalu (.tv) is going to pick up a lot of windfall profits.
I’m genuinely interested as to how well unitary taxation would work for extractive industries in developing countries. De Beers, for example, will sell virtually all its diamonds mined in Namibia outside the country. There are obviously substantial assets and employees engaged in getting the diamonds out of the ground, but a brief look suggests they are owned by Namdeb, which is a 50/50 JV between De Beers and the Namibian government, so presumably not within the group for unitary taxation (since there is no control). I can’t see that much of the extra profit created by De Beers once the diamonds are out of the ground is ever going to be allocated back to be taxed in Namibia. Are we happy with that? Is it not one of the things that unitary taxation is meant to be solving?
We are quite clear that UT is not a solution for extractives: turnover taxes and royalties are the answer to taxation at source in these countries, backed by much stronger valuation concepts that ensure price is fairly stated. The point is one size does not fit all – an idea that will be greatly developed by us over the coming year during which I expect to do a lot of work on the interface of accounting and tax – which has hardly been theoreticaly explored before
Almost all UT concepts are based on destination e.g. the EU CCCTB
And yes, we think country focussed web sites are PEs and the OECD got this issue wrong
That’s far from original thinking on our part
I’m not up to speed with the details of unitary taxation, but how is subcontracting recognised? It is neither a staff cost, a sale, nor an asset. If you simply count it as a staff cost, how do you distinguish between pure provision of staff, outsourcing of work, and the provision of advice or other services? Accountancy, for example: a company could employ an accountant, or have one supplied by an agency, or outsource the accounting function to another firm, or have services provided externally. I can’t see bright lines between these in commercial practice, and I can’t see a coherent principle why there should be bright lines in the tax treatment.
Sales are currently taxed by source. I know you’d like to have them taxed by destination, but that makes for a disproportionate amount of complication in anything but the simplest cases. Why should the small UK company I’ve just been looking at, which makes a few sales to the US, Cyprus, and a couple of other countries, be required to file half a dozen different returns?
You now propose to miss out physical assets as well as intangible ones, even though “assets” is one of the three pillars of the unitary formula. That seems very odd – I don’t think you’ve given an answer here.
Whether tax law can protect minorities is a question in itself, but even if we assume that current law fails to defend them, I think that is preferable to your system which would deliberately attack them.
What you seem to want is a system which arbitrarily distinguishes between, and gives very different tax effects to, transactions which are commercially very similar. You also want it to be deliberately unfair to a large number of taxpayers and leave them to work around the distortions this creates. That is not taxing any sort of reality in my book, not by a long chalk.
Sales are currently taxed by source, yes. Hence we get the abuse of companies like Google et al
We are not alone in advocating destination. The Mirrlees review did as does Mike Devereux at Oxford Centre for Business Taxation, recently endorsed by the House of Lords, although I do not think Mike has thought this through properly yet and am far from alone in saying so. The concept of PE then becomes a real one: we are quite clear a web site targetted at a location is a PE within it. A sale to it without a PE is an export from the source location, as now
There is no fixed formula for UT – in he US sales only is used by some states. We do not think a fixed formula for say both banking and exttactives helps: we thinkg there is room to deliver more than one formula especially during a profit split transition
And you have still not answered why you want to tax on the basis of a fantasy
Firstly: I do not want to tax based on a fantasy. That is why I oppose Unitary Taxation.
The fact that several people advocate destination-based sales does not necessarily make that the better option. How do you justify the need for half a dozen tax returns to my SME client? It is clearly more complex than source-based sales, and I see no great evidence that it’s more fair.
If Unitary Taxation requires multiple formulas, and doesn’t apply to entire industries, then I really don’t see how it can do anything other than introduce a large number of anomalies which will lead to controversy, tax loss, double taxation, and other problems. How do you determine the formula to be applied to any given group? How do you split out the profit attributable to extractive industries? How do you cope with JVs?
Does your client have PEs in half a dozen places? I’ll be surprised. Did you read what I said?
As for the other points – are you really suggesting TP documentation is easier than what I’m suggesting
Do you know anything about TP?
I’m actively involved in TP work, yes. Advising clients how to set prices ad document the position, responding to HMRC checks, all the fun stuff. And yes, I think it is a lot easier than what you’re suggesting would turn out to be.
A sale where there’s a PE is source-based sales, not destination-based. Your PE point does nothing about Google, which you’ve previously stated to be a problem: you’d just replace the (relatively low) UK profits on marketing activity with a (relatively low) allocated profit based on marketing headcount and assets, with sales being irrelevant. If inded there was any profit to allocate: if the global group were loss-making you’d eliminate the UK tax charge altogether. Essentially, you’d set overseas head office costs against UK trading income to give a UK tax loss – that seems to be far more of a fiction than looking just at the UK activity.
Google UK would be a PE – it has a UK web site and UK content only available in the UK
Ditto Amazon
So sales through that web site would be in the UK
You think that would change nothing?
I think you need to think again
And, of course, there would be no profit reallocation to Bermuda either from Ireland
To say this would change nothing indicates a serious lack of understanding or plain wishful thinking
I think it would change Amazon’s web site, so you could access any part of it from any country – although by preference you might choose to look at the UK pages first – if that were the definition of a UK website. As Mike Truman says, it’s not easy to unambiguously specify the location of a website. It’s even harder than a physical PE.
But even if it were, you could get all those benefits using the arm’s length principle rather than Unitary Taxation. I’ve long argued that Amazon’s UK operations go beyond the “ancillary” activities that ought to be excluded from being a PE, for example. Defining a website as being located in a particular jurisdiction due to some factors or other is just another example of that sort of reform.
Profit reallocation to Bermuda is an entirely separate matter, of course. In my view it all comes down to how the IP got to Bermuda in the first place, and the low Bermudan rates of tax. As I mentioned before, bi-directional CFC rules or withholding tax might help here. I’m not sure why you decry CFC rules: they are after all based on the same underlying principle as Unitary Taxation.
Don’t you believe it
Try to buy from Amazon UK from another country
And I am amused yet again that CFC is demanded when you know full well they will not happen and that for eyars the profession lobbied against them in the UK
Sorry – this is pure hypocrisy. I supported CFC and withholding and the profession argued against. Now there’s no hope of having them they say they’re the solution. Forgive me for being incredulous
At present it’s tough – but not impossible. If Amazon will get a large tax liability as a result, though, then that might easily change.
I am not demanding CFC rules and WHT, I am suggesting that they can be a useful counter to the low tax rates in certain foreign jurisdictions. Other tax advisors may disagree with me, of course, and I have to confess I am not decided on them – certainly I have found many implementations of them to be unfairly burdensome to many of my clients in the past. I need more thought before I could say firmly one way or the other what sort of rules I would like – and of course it would have to be in context.
However, I am rather offended that you should accuse me of hypocrisy because people who disagree with me acted accordingly. I’m a CIOT member, but that does not mean I subscribe to all the beliefs of all its members, nor that I am responsible for their actions. Some members of the ICAEW argue against CFCs – does that make you a hypocrite too?
You used the argument
I did not
You draw your own conclusions
Which argument? You’ve lost me.
Sounds good, ip payments to third parties are fine. Intra group transactions are bad , time for the advisors to dust off all those old decontrol structures that used to get used then …….