Base Erosion and Profit Shifting (BEPS) is an acronym that refers to the adverse impact of tax avoidance strategies adopted by multinational enterprises, on national tax bases. BEPS is achieved very often by adoption of devious, though not unlawful, transfer pricing models. Sequentially, profits get shifted and therefore tax base gets eroded. For instance, in 2013 the US Senate investigated the case of Apple which had a registered, highly profitable unit in Ireland, controlled from America and lawfully avoiding taxes in both countries. Companies like Starbucks, Amazon and Fiat Chrysler have similarly benefitted from benign tax laws in Netherlands and Luxembourg. Thus instances of tax jurisdiction shopping are legion.
Organization for Economic Co-operation and Development (OECD) observes that the profit rates reported by Multinational Enterprises (MNE) affiliates located in lower-tax countries are twice as high as their group’s worldwide profit rate on average; the effective tax rates paid by large MNE entities are estimated to be 4 to 8½ percentage points lower than similar enterprises with domestic-only operations.
Such aggressive tax management results in annual loss of tax revenue to the extent of US$ 114 billion for developing economies, according to estimates of Oxfam, a leading international aid agency. Developing economies are more dependent on corporate tax than advanced economies. Global loss in tax revenue is estimated at $240 billion a year, which is 10 per cent of global corporate income tax receipt. In the US, though the nominal corporate income tax rate is 35 per cent, actual rate of liability is 15 per cent thanks to BEPS.
Different countries have tried to tackle this unintended menace in different ways. For example, Britain recently introduced “Diverted Profits Tax” (DPT) which imposes a levy on profits routed to tax havens through ‘contrived arrangements’.
In early October this year, OECD, at the request of G20 countries (India is a member of G20) released BEPS proposals, which aim at curbing these corporate sleights of hand and ensuring that MNEs are taxed where economic activities take place and value-creation is done. A comprehensive, coherent and coordinated reform of international tax rules is attempted. It is claimed that these proposals are a game-changer, being the most drastic modification in multinational taxation framework since the 1920s. OECD’s Secretary-General has euphorically claimed that these proposals, expected to be approved by G20 governments at a summit in November, will put an end to ‘double non-taxation’. However, it is wise not to go overboard in our enthusiasm since the increasing digitisation of the economy makes identification of location of profits more difficult. It is a sobering thought that business metamorphoses faster than the development of regulator’s skill.
BEPS proposals are likely to impact about 9000 companies worldwide. 155 Indian companies, apart from subsidiaries of MNEs, will be covered under these guidelines. The Model Tax Convention and the Revised Transfer Pricing Guidelines are likely to be released by OECD in 2017. The Action Plan has identified 15 actions, along three fundamental pillars: introducing coherence in the domestic rules that affect cross-border activities, reinforcing substance requirements in the existing international standards and improving transparency, as well as certainty for businesses that do not take aggressive positions.
One of the main actions relates to the requirement of provision of country-by-country details, annually and for each tax jurisdiction in which they do business, by all MNEs with annual consolidated group revenue above 750 million Euros (approximately Rs. 6000 crore). These details include the amount of revenue, PBIT, income tax paid and accrued, number of employees, capital allocated, retained earnings, tangible assets, each entity within the group and each one’s business activity. The details are to be furnished from the fiscal year beginning on or after 1 January 2016.
Various measures contemplated in the proposals range from new minimum standards to revision of existing standards, common approaches which will facilitate the convergence of national practices and guidance drawing on best practices.
Critics have pointed out that BEPS proposals are likely to generate more disputes among countries with each one fighting for a higher share of MNE’s profits in order to boost its tax revenues. Agreement on BEPS proposals is only the first step in the long journey for streamlining international tax administration. Successful implementation may take a long time. Meantime it is proposed that following the G20 and OECD call for even increased inclusiveness, a new framework for monitoring BEPS will be conceived and put in place, with all interested countries participating on an equal footing.
We are on the threshold of a paradigm shift in international tax practices.