The plan to tax royalties posted overseas on the back of UK-based sales from April 2018 sets a clear pointer in terms of the government's general approach to clamping down on aggressive tax planning by the digital multinational giants like Amazon, Apple and Google. Philip Smith asks whether the Budget proposal will work
It could be ‘game over’ for low tax bills at the large multinational digital companies as the Chancellor revealed plans to tax royalties posted overseas and launched a wider review on how such companies are taxed in the digital age.
In his Budget speech, the Chancellor, Philip Hammond admitted that along with the innovation and growth that technology brings – remember, he had earlier announced moves on electric and driverless vehicles as well as a commitment to improving maths in our schools – digitalisation posed ‘challenges for the sustainability and fairness of our tax system’.
He announced that from April 2019, digital giants that do business in the UK will be required to pay income tax on royalties relating to UK sales, when those royalties are paid to a low tax jurisdiction, ‘even if they do not fall to be taxed in the UK under our current rules’.
This move, which could require a reboot of many digital companies’ business models, comes two years after Hammond’s predecessor George Osborne introduced the diverted profits tax, dubbed the ‘google tax’ even though the eponymous search engine provider has not so far been required to pay it. The DPT has since gone on to raise £138m.
However, although the new royalties tax will be expected to raise £200m a year over the next four years, Hammond is hoping that the tax will change behaviour rather than act as a new revenue source. As he told MPs on Budget day: ‘This does not solve the problem, but it does send a signal of our determination.’
Targeting digital giants
Experts agree that this move, combined with a wider review of taxation in the digital age, gives a clear signal that the UK government, as well as the larger international community, will seek to claim its fair share of tax revenues from the likes of Apple, Amazon, eBay, Alphabet [Google] and Microsoft that have turnover in the billions and yet apparently pay little tax.
Rajesh Sharma, international tax partner at Smith & Williamson, describes the announcement as ‘a grand statement’, but complains there is insufficient detail and that it is not clear how the tax will be calculated, even if, in the light of the Paradise Papers, action on tax avoidance was expected.
‘In the short term, the move is designed to send a signal to companies seeking to minimise tax. We expected the government to do something, so this announcement does not come as a surprise; however, also as expected, there is a lack of detail and some confusion as to what this will mean in practice,’ Sharma says.
‘Most importantly, this is an indication of the direction of travel,’ agrees PwC tax partner Alex Henderson. ‘It is a precursor of a wider consultation. It is aligned with steps that George Osborne took around the diverted profits tax, and so can be seen as an extension of this. But it is also an extension of the reach of the Treasury.’
Details of the new tax will be published on 1 December 2017. ‘We will have to wait and see how broad it will be,’ says Henderson. ‘It could be the first in a series of moves, but this could set up a tension between the desire to attract business to the UK and wanting to get the revenue from those businesses.’
The new tax will essentially be a withholding tax on the intellectual property (IP) royalty element of payments for digital services provided to the UK from abroad, where the IP is held in a low tax jurisdiction.
The new tax would be subject to relief under double taxation agreements: although many low tax jurisdictions might be regarded as tax havens and not have such an agreement with the UK, some low tax jurisdictions do.
However, Henderson makes the point that the Chancellor is expecting the new tax to affect a behavioural change rather than create a new source of revenue per se.
The revenue forecasts from the measure contain a cautionary message about the effectiveness of unilateral measures without broader international agreement. It is expected to raise £285m in its first year, falling to £130m in 2022-23, its fourth year of operation, in part because the affected multinationals can be expected to adjust their structure and behaviours to mitigate the effect of the tax.
But as the Chancellor said himself, ‘this challenge can only be properly solved on an international basis, and the UK is leading the charge in the OECD and the G20 to find solutions’.
Glyn Fullelove, CIOT vice president, agrees, saying: ‘Governments continue to struggle to reconcile the perception from their citizens that “internet giants” have a significant “footprint” in economies where they have a lot of sales but relatively little other presence, with an international corporate tax system that taxes value creation, and attributes little if anything of that to sales activity.’
This does not stop the UK government striking out on its own where it thinks necessary, and in some ways shows that it is trying to act as a leader, hoping that others will follow.
Jim Meakin, head of tax at RSM, says that the tax system requires an overhaul as the existing rules largely date back to the early 20th century and do not reflect how digital businesses currently generate revenue in many different countries, often without a significant physical presence.
‘What is interesting is that the UK is seeing itself very much as a thought leader, diverging from the international approach by proposing new solutions for taxing businesses that derive most of their value from user activity on their platforms, for example social media companies,’ Meakin says.
The digital companies will continue to wonder how they have replaced the global banks as the global economy’s punch bag
‘This suggests that the UK is trying to shape the direction of the international taxation debate while still maintaining its support for OECD initiatives.’
Reaction from digital companies
The digital companies, will no doubt be watching with interest. Spotify, the online music subscription service, recently told the OECD about its concerns over unilateral actions taken by individual national governments. It urged governments to refrain from taking immediate actions and to wait for additional evidence on the effects of the OECD Base Erosion and Profit Shifting (BEPS) project.
‘We are confident that given a few short years the effects of BEPS will be clear and show that the objective to substantially reduce/eliminate aggressive tax planning has been delivered,’ it said.
For its part, the OECD is expected to deliver a report on taxation and the digital economy in April 2018, in response to Action 1 of the BEPS project.
eBay told CCH Daily that they would not comment ‘until they have seen the full details of the proposals’.
Amazon, Apple and Alphabet/Google have been approached for comment but have not responded as yet.
But in the meantime, the debate will continue to rage – draft legislation will be published on 1 December, while the consultation on wider aspects of the digital economy will carry on into early 2018 – and the digital companies will continue to wonder how they have replaced the global banks as the global economy’s punch bag.
About the author
Philip Smith is contributing editor at Accountancy and editor of ICAEW’s London Accountant