GAFA (The world leading IT companies: Google, Amazon, Facebook, and Apple) have dominated the world economy for the last decade. Their exponential success is an effect of various causes, such as these companies’ innovation, user-friendly execution, and brand equity. However, there is one common cause for success that these companies share: mastering the art of tax avoidance. Due to their digitally-driven business models, these companies do not need to establish a physical presence in the countries where most of their customers are located. This allows them to circumnavigate paying taxes to high-tax-rate countries by establishing a minor physical presence in countries with lower tax rates.
This poses a huge problem for global governments. Due to the relative simplicity of tax avoidance in the digital age, many countries, such as Spain, the U.S., and France lose out on millions of dollars in tax revenue every year. In an attempt to remedy the situation, the OECD provided the following statement in 2019: “Today the OECD Secretariat published a proposal to advance international negotiations to ensure large and highly profitable Multinational Enterprises, including digital companies, pay tax wherever they have significant consumer-facing activities and generate their profits.” This digital tax aims to bring a more unified approach by changing some of the rules and terminology in international tax. For example, all proposals submitted to the OECD included a new ‘nexus’ rule that does not depend on physical presence but more on where a company actually conducts its business.
While there are many important reasons for the application of a digital tax, there are also numerous drawbacks to it. Here are some of the pros and cons of applying the digital tax, according to the Deutsche Bank research:
- Companies can no longer avoid paying taxes on profits they generate abroad.
- Digital taxation should result in a more level playing field for domestic and global competitors, as global companies will not have the advantage of paying lower tax rates.
- Countries will no longer lose out on massive tax revenues. For example, “the EU loses almost 20% of its (theoretical) corporate tax intake. Within the EU, Germany, France and Italy are suffering most, with Germany losing 28% of its potential tax intake and France and Italy c. 20%, respectively.” (dbresearch)
- Above all, applying digital taxation would result in a more fair, transparent, and efficient system of taxing digital products or services.
- Many proposed models of digital taxation are revenue-based instead of profit-based.
- Global trade relationships may be adversely affected.
- “The resultant shift from the country-of-establishment principle to the country-of-destination principle is not only a major turning point for international tax law, but also harbours significant risks. Countries such as Germany, which rely heavily on exports and make major digitalisation efforts, might lose in two ways. Their companies might become less competitive as they may have to pay new taxes in their export markets (higher risk of double taxation), and their domestic corporate tax revenues might decline.” (dbresearch)
- Compliance with new guidelines will incur heavy costs on many businesses.