Many governments are self-righteously attacking major global companies for escaping local taxation on operations in their country. Many of the same governments have effectively been introducing laws which if effective would lead to global companies paying tax on the same profits to multiple countries in aggregate amounting to more than those profits.
‘FANG’ is the acronym for four high-performing technology stocks in the market – Facebook, Amazon, Netflix and Google (now Alphabet, Inc.).
At the same time, many countries have been seeking to attract business to their jurisdictions by incentives including ones which could reduce taxation on profits to be zero. They then scream “tax avoidance” when the company is attracted to the country and pays no tax.
Countries globally need to confer and get their consolidated act together. Consider the following confusing possibilities:
If say Planemaker builds a plane in Country A it seems quite reasonable that they tax the profits on the sale of the plane no matter where the purchaser lives. Confusingly, if you film a film in foreign Country A you would likely find the film not being taxed although it is ‘made’ there. This is because countries are only too happy that a film is made in their country. They often give incentives to encourage foreign filmmakers to do this because of the local employment it creates and local revenue arising for local suppliers to the filmmaker. Governments would not countenance creating concerns for foreign filmmakers that they might be taxed on worldwide income just because they made the film in that jurisdiction
It is thought that Planemaker In Country should be taxed on profits on their plane sales wherever the purchaser lives whilst foreigners making films there are often exempt from tax on foreign sales. How contradictory!
The parts of the plane may have been made by Planemaker in countries other than Country A and merely assembled in Country A.
How do all the various countries fairly tax the profits?
Should Country A tax 100% of the profits even though say only 10% of the labour took place there?
If the parts were instead made by independent suppliers Country A would seem to be fairly taxing its profits because the local suppliers would pay tax on their profits.
What happens if say all parts were made by a factory of Planemaker situated in Country B but the plane was assembled in Country A?
Planemaker may be forced to produce local accounts in Country B for the manufacturing activity and dream up a pretend sale price for the parts which Country B would like to be as high as possible and Country A would want to be as low as possible. The transfer price would be agreed independently after argument individually with each taxing authority and result in possible double taxation.
Strange results can occur even if the transfer price agreed with both countries were identical. If say 100% of the parts were made in Country B you might still find that only 10% of profits are being taxed there whilst 90% is taxable in Country A where it is merely assembling the parts into a plane. Planemakers selling activities take place all over the world. If the sale of the plane is achieved truly via the Planemakers sale office in Country C. Do we now have to “pretend” that Planemaker In Country A has sold the completed plane to itself in Country C at a pretend price which could be disputed by the authorities in both countries? After all, the sale was made by a sales office within borders of Country C and its Revenue normally expects to tax 100% of sales profits and might be unhappy at finding it was taxing less than 100%.
The confusion does not end there.
Since Planes are being sold to purchasers all over the world and an employee of the sales office might well exchange contracts in Country D. As a result, Country D’s tax authority would like to say that since contracts were exchanged there the sales obviously took place there and therefore profits should be taxed there. Country C and Country D could both seek the profit on the same sale price whilst Countries A and B also have their noses in the trough of the same profits
Even worse, it could be that the sale was materially negotiated in Country E and the signing parties in perhaps a vain attempt to avoid unreasonable multiple taxation merely crossed the border to Country D to exchange contracts. Country E might still seek to tax the sale price of the plane since material negotiation took place there but so will all the other countries including Country D maintaining that it was the venue for exchange of contract.
The possibilities do not end there.
A company involved in these transactions could be formed in Country F (and even other companies involved multiple other countries). Country F could well consider that it has the right to tax its profits for that reason and argue for different transfer pricing. If say this company was the assembler of the plane in Country A that country would still seek tax as the Company was made there.
If the majority of the directors of any one of the companies involved were resident in Country G that country would feel that they should be able to tax profits as being made because of decisions of the controlling directors in that country. If these controlling directors met in Country H its authorities will also feel they had the right to tax profits as being the venue of decisions If the controlling shareholders lived in Country I, it’s authorities will feel they had the right to tax the profits for that reason alone.
With possible multiple companies involved in the activities with multiple possibilities relating to its shareholders, directors, offices, places of contract exchange and material negotiation, etc, etc in theory every country in the world could claim the right to tax the same profits.
Taxation via Transfer pricing arguments, royalties for technology used and fees for the right to use brand name can add more confusion.
One planemaker can end up being dramatically unfairly taxed compared with another.
Obviously, a company should reasonably seek to AVOID being taxed multiple times. Say the company successfully achieves tax being mitigated by being attracted by and fairly using incentives in various countries to operate to some extent in those countries. Every Country could still scream TAX AVOIDANCE!
It would reasonable to demand that countries coordinate their tax legislation before attacking a global company however large. Problem is that the very nature of business activities has been disrupted by the internet and will be further dramatically disrupted by Blockchain and ancillary products which will cause the disappearance of many traditional intermediaries and blurring of what activity takes place where. This will be the subject of another article.