Tax in a digitised global economy
For any tax system to be fair, effective and efficient, it has to be flexible. Current international tax rules have created certainty by facilitating the implementation of arm’s length principles and attempting to eliminate double taxation.
However, increased digitalisation of various economic sectors has emphasised that the current international tax rules are not adequately designed to accommodate business models that do not require physical presence in an enterprise’s target markets and where value creation is driven mainly by intangible assets.
In an endeavour to address deficiencies noted in the current international tax rules, the OECD launched the base erosion and profit shifting (“BEPS”) project in 2015, to address the shifting of profits by multinational enterprises (“MNEs”) to low or no tax jurisdictions. So far, the BEPS project has succeeded in ensuring that the double non-taxation of profits is, to a large extent, eliminated.
The next phase of BEPS aims to focus on ensuring that large MNEs pay their fair share of tax, via the implementation of the Two-Pillar Solution. South Africa, although not a member of the OECD, has also joined the Solution.
THE TWO-PILLAR SOLUTION
On 8 October 2021, 36 countries and jurisdictions reached consensus on the implementation of the Two-Pillar Solution to Address the Tax Challenges Arising from the Digitalisation of the Economy.
Pillar One aims to reallocate profits of the largest MNEs from their home countries to the markets where business activities are conducted and profits are earned. Effectively, Pillar One aims to determine taxing rights with reference to the originating cause of profits, irrespective of physical presence in or proximity to an MNEs target markets. It is estimated that profits of more than USD 125 billion will be reallocated through the implementation of Pillar One.
Pillar Two aims to better manage tax competition by enforcing a global minimum corporate income tax rate of 15%. It is expected that the implementation of Pillar Two will empower jurisdictions to better protect their tax bases. It is estimated that Pillar Two will generate additional global revenues of USD 150 billion.
The OECD is of the opinion that the implementation of the Two-Pillar System will curb the shifting of profits to so-called ‘tax havens’.
WHERE TO FROM HERE?
The OECD has promised to provide capacity building support to developing countries, such as South Africa, regarding the implementation and administration of the Two-Pillar Solution.
To facilitate the implementation of Pillar One, model rules for domestic legislation will be developed by early 2022, and the OECD aims to implement a multilateral convention pertaining to taxing rights in respect of the re-allocated profits effective 2023.
With respect to Pillar Two, the OECD aims to develop a model treaty provision to allow for the implementation of the global minimum corporate income tax rate of 15% during 2021. A multi-lateral instrument to facilitate implementation of said model is expected to be released by mid-2022.
WHAT DOES THIS MEAN FOR SOUTH AFRICA?
As South Africa has joined the Two-Pillar Solution, Treasury will be precluded from implementing unilateral measures and will also be required to remove any existing unilateral measures, that attempts to force foreign tax residents to pay their fair share of tax. For example it is likely that legislative provisions pertaining to the imposition of value-added tax on electronic services will have to be reconsidered.
While it is clear that the implementation of the Two-Pillar Solution will require the revision of international treaties, the extent of amendments required to existing tax Acts remain unclear. It is also not clear how the interaction between the different international tax mechanisms, such as transfer pricing, controlled foreign companies, and Country-by Country Reporting will be managed. It is expected that the Two-Pillar Solution may also have an impact on legislative provisions that provide guidance on the determination of the source of income, prescribe tax registration requirements and define when a corporate taxpayer is regarded as having a permanent establishment in another tax jurisdiction.
Another concern is the ever increasing administrative burden that is being imposed on corporate taxpayers. The successful implementation of the Two-Pillar Solution will depend greatly on the availability and accuracy of relevant information. Hopefully, the OECD will endeavour to propose a solution that will harmonise current reporting requirements and measures to prevent confusion and manage corporate taxpayer morale.
Furthermore, as was evident from the implementation of Country-by-Country Reporting, corporate taxpayers that form part of an MNE Group are not always positioned to obtain the required information that should be disclosed to SARS. Hopefully, revenue authorities will collaborate to create a global tax data base to facilitate improved information-sharing between different tax jurisdictions, instead of implementing unattainable reporting requirements that result in duplication of efforts.
It is advisable that corporate taxpayers that form part of an MNE group remain abreast of BEPS Project developments. Furthermore, greater transparency between corporate taxpayers of the same MNE group will assist in alleviating the administrative burden emanating from ever-increasing global tax reporting requirements, and will also highlight global corporate tax risks.
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