Since 2012, G20 countries and the OECD have pursued an initiative to reform international tax regimes by addressing opportunities for base erosion and profit shifting (BEPS). The OECD released a 15-point BEPS ‘Action Plan’ in July 2013, and is on track to issue the plan’s final reports no later than December 2015.
Sluggish economic activity abroad continues to put pressure on foreign governments to control budget deficits through reduced domestic spending. In light of this fiscal austerity, allegations of ‘unfair’ tax avoidance and ‘aggressive’ tax planning by multinational businesses have received greatly increased attention from the press and government officials around the world.
In this environment, technical compliance with tax rules is not enough; companies must instead be prepared to provide explanations of profit allocations that diverge from the location of employees, tangible assets, and sales. And although the BEPS project is nominally a tax issue and will likely spur the most significant changes to the taxation of international business in a generation, business executives also should pay attention to this project because of its potential for significant negative impacts on cross border trade and investment.
...U.S. multinationals are likely to be disproportionately impacted by the BEPS project ...
U.S. multinationals are likely to be disproportionately impacted by the BEPS project because U.S. international tax rules are out of sync with the rest of the world. The U.S. has the highest statutory tax rate among major global economies. It also has a comprehensive “worldwide” tax system in which the foreign earnings of U.S. companies are subject to U.S. corporate tax with a credit for taxes paid to the foreign jurisdiction.
In contrast, the vast majority of foreign governments have shifted their income taxes from a worldwide basis to a territorial basis that limits the tax base to income from activity within their borders. The high U.S. statutory corporate income tax rate in combination with the worldwide income tax system has negative consequences for American businesses and workers in an increasingly global economy. In the event that the United States is unable to reform its tax system soon to lower the rate, U.S. multinationals will be adversely affected more than their foreign competitors by outcomes from the BEPS project broadening the taxable base.
The BEPS project may also result in higher foreign taxes on U.S. multinationals (and less tax collection by the U.S. Treasury) as a result of redrawing the lines of taxing jurisdiction for cross-border income.
Although the BEPS project was originally intended to reach consensus on a new common set of international tax rules that would prevent “double non-taxation” of income, it is unlikely that new rules will be uniformly implemented, even if consensus is achieved. Some governments are using the BEPS project as a justification for advancing their domestic tax agendas and to claim what is described as a ‘fair share’ of corporate tax revenues.
There is also an increasing danger that U.S. multinationals will be the targets of protectionist policies implemented through discriminatory application of existing tax rules.
U.S. multinationals will also be adversely affected because some countries, including some of our largest trading partners, have recently enacted new rules that are inconsistent with traditional international tax norms and explicitly designed to extract more tax revenue from U.S. multinationals. There is also an increasing danger that U.S. multinationals will be the targets of protectionist policies implemented through discriminatory application of existing tax rules.
Although a goal of the hurried two-year time frame for the OECD’s comprehensive rewrite of existing international tax standards was to prevent governments from taking unilateral actions, there are concerns that the BEPS project is actually emboldening such measures. As soon as one country moves ahead of the OECD consensus process, others are spurred to action, not wanting to be left behind. Uncoordinated unilateral tax rule changes increase the likelihood of double taxation and cross-border disputes, which will impair global trade and investment.
U.S. multinationals will also face significantly increased tax-related compliance costs ...
U.S. multinationals will also face significantly increased tax-related compliance costs, as a result of increased complexity in international tax rules and new documentation and reporting rules. New reporting requirements for larger companies will markedly increase compliance costs, as well as make detailed country-by-country tax and financial information more visible to tax authorities, and possibly - in the future – to the public. The volume of data disclosed will be much more than companies are currently reporting worldwide, so compliance burdens may grow substantially. The new reporting requirements are likely to give foreign tax authorities information that would be used to demand an increased share of U.S. multinationals’ global profits.
Business executives also should pay attention to the BEPS project because governments facing budget shortfalls and various other public voices (e.g., the EU and non-governmental organizations) are questioning whether multinational companies pay their ‘fair share’ of taxes. The issue is political — companies whose tax liabilities in a given country don't correlate well with the level of operations in that country are being subjected to aggressive income tax examinations and mainstream media attacks that pose reputational risks (particularly for consumer businesses). This is occurring regardless that their structures satisfy existing international tax rules and may have been formally approved by the relevant tax authorities.
Another impact of the BEPS project is that in addition to complying with tax rules and regulations of individual countries, business executives now also must be aware of, and ensure compliance with, multilateral, non-tax agreements possibly impinging on tax rules. For example, at the beginning of 2014, the European Commission (EC) announced that it was focusing on ‘fiscal State aid’ in the context of the European Union (EU) program to prevent aggressive tax planning, tax avoidance and tax evasion by multinational enterprises. There followed a series of investigations into specific tax rulings and tax regimes involving Ireland, the Netherlands and Luxembourg, primarily targeting U.S. multinationals.
In general, European competition law prohibits EU member states from providing certain forms of state aid to ‘undertakings’ (activities carried on by partnerships and companies) without prior authorization of the EC. This essentially is an anti-subsidy prohibition, designed to safeguard fair competition. However, the state aid investigations are a novel, unprecedented application of such anti-subsidy provisions, which may override EU member states’ domestic tax rules and contravene rulings given by tax authorities intended to provide certainty as to the appropriate tax treatment of transactions. The state aid investigations may raise financial accounting issues for rulings that are or may be subject to challenge as inconsistent with state aid rules.