BEPS Heading Towards Tax Chaos In The Near Future?
BEPS, Base Erosion and Profit Shifting, was developed with the intent of determining the negative effect national companies have on national tax bases when tax avoidance strategies are implemented.
The OECD uses BEPS as a project in an attempt to change the way corporate taxation rules have been formed. The goal is to address the perception that these multinational companies don’t pay adequate levels of taxes.
But, recent developments indicate that BEPS is inching toward tax chaos in the future.
Is the OECD Tax Reform Doomed?
The biggest question that accountants have is if BEPS is doomed. BEPS is a two-year project that has been conducted by OECD and several G20 countries. Final package proposals give us insight into what may occur in the future.
Thousands of hours of work have been spent on Base Erosion and Profit Sharing in an attempt to reform a system that is considered “dysfunctional.”
While many believe that this reform is going to be a success, it’s too early to tell which direction the project will actually go in. The major issue is that the final proposal has yet to be revealed, allowing for scrutiny of BEPS.
Again, this is all near conjecture at this point, but a major concern.
Experts are suggesting that the project will result in major improvements in the way that multinational corporations conduct business, but it’s still not a system fit for the 21st century. Understanding why this assumption is made will better help you understand the major flaws behind the project.
Initial Reports from February 2013
Analyzing the initial reports, you’ll notice that the intentions of OECD are honorable. The goal is to do the following:
- Close loopholes
- Tighten rules
- Extend existing roles
But, the report also may note that current fundamental frameworks were to remain in place. This was reaffirmed as BEPS documentation has been revealed to the public. What can be derived from this information is that issues within the current fundamental frameworks will not be rectified. Allowing the same frameworks to exist only leads to further complications in the future.
A Major Concern Due to Contraction
Immediately, there will be the need for further accounting professionals within the corporate world. Government accounting authorities also need to boost their personnel until BEPS is part of everyday life.
The major issue is the following:
- The United States Internal Revenue Service (IRS) already made a statement that they will be operating with fewer personnel.
- Australia reduced the amount of staff at the government’s tax office by 3,000 people.
These are just two examples of countries that are saying that they’re going to be doing “more with less,” essentially. Implementing a new tax system of this magnitude will require diligence and personnel to be implemented in a proper fashion.
International Investor Concerns Among Developing Countries
Developing countries require investment in infrastructure funding. BEPS will inherently make these costs less attractive for investors. According to the United Nations Conference on Trade and Development, the following will be higher:
- Transaction costs
- Taxes on international operations
A major concern is that the removal of these tax advantages will lessen investment levels in areas that need it the most. Investment is grossly needed for growth and development of economies, but removing tax advantages will make it less appealing for investors, resulting in at least an initial reduction in investment activity.
BEPS Involves Many Intricate Economic Parts
If BEPS were introduced in the 1970s, it would look drastically different than it does today. The way the world conducts business is so much different than in the past. Now, you must account for globalization on a wide scale and a digital economy that has changed the way a traditional economy exists.
And lot of emphasis has been put on digital entities, such as:
These companies have strived in the digital world, and many governments don’t know how to tax these entities appropriately. Many governments are suggesting a “digital tax.” OECD has already made note that the digital economy is the new world economy, and that providing barriers to the digital world is not ideal.
An example of this “digital tax” can be witnessed in the United Kingdom. The country requires Google to pay more on profits overseas than other entities. Google’s tax rate is 25% on profits, while the standard rate is 20% in the country.
OECD has already stated that this is a major concern moving forward.
Residence and Source Concerns
“Residence” and “source” concerns are a reality even with BEPS. A major flaw exists in the current framework in respect to the way double taxation on income is assessed for cross-border activity. This is divided into “residents” and “source.”
This system was first initiated by the League of Nations in the 1920s.
The idea is that active income is a right of source countries while passive income is the right of residence countries. By allowing the same framework to exist, there is no basis for which profits earned can be identified clearly. With shareholders and consumers across the world, all of these locations can have claim to the company’s profit.
The continued existence of residence and source will result in a system that can be manipulated and distorted.
Another concern with BEPS is that governments can effectively destabilize BEPS. Governments will engage in competition and attempt to give advantage to their own domestic companies.
We’ve already seen this with a gradual reduction of tax rates on profits in an attempt for a country to gain an advantage by having a business reside within it. This causes a competition of economic activity to occur.
As a result, countries will attempt to leverage tax advantages to keep corporations within their borders. Enhancing a competitive position and giving advantages to domestic companies essentially destabilizes the system while reducing tax rates in the process.
BEPS may lead to tax chaos in the future and may not be the correct tax approach for an international corporate tax system that is built in the digital age in the 21st century. This is a major concern that analysts around the world will be debating as the final package of proposals are released.