Tinker, Tailor, Soldier, Taxman

Sep 25, 2017

Sunday Business Post, 24 September 2017
If you’re looking for a grounding on the tax problems tackled at the meeting of EU Finance Ministers known as ECOFIN last week, you could do a lot worse than reading a John le Carré novel.  Go for one of the earlier ones set in Europe of the 1960s and early 1970s.  I’ve yet to find a writer as good as le Carré at capturing the closed-in and protectionist spirit of the European continent at that time.  The big European powers ruled and the smaller nations were of little consequence.  Moving people and goods from one country to another 50 years ago was as much an exercise in paperwork as an exercise in transport.  Cross-border communication of any type was slow, unreliable and erratic.

That grounding is relevant because the European tax rules were designed for the kind of continent that existed 50 years ago.  It wasn’t envisaged that people would do anything other than buy local, or that importing or exporting would be done by anyone other than a large corporation with extensive offices and resources in every country they traded.  The European authorities have been struggling for the last two decades to come up with tax systems to reflect the borderless “digital economy” which Europe has become.  The latest proposal for an “equalisation levy” which came out of ECOFIN last week is just another step in the effort to modernise.  It is a retrograde step. 

The Digital Economy

The equalisation levy is being proposed as a solution to the taxation of the digital economy.  The digital economy isn’t just about streaming services or downloads via the internet; it’s about the nuts and bolts of placing orders for goods and services online, and fulfilling those orders across national borders.  The digital economy model rides roughshod over old concepts of charging tax in the country where a company is established or managed or operating through a branch. 

Buy a book from your local bookshop, and the bookshop’s profit on the sale is taxed in Ireland.  But if you buy the book online, where does the tax on the profit really arise?  Is it where the online service provider is based, or in the country where the shipping warehouses are located, or where the book is published, or … well, you get the problem.  When you consider that by now almost all businesses of any size are part of the digital economy, then the problem becomes colossal for governments worried about their tax take.

The ECOFIN equalisation levy solution would appear to be to stop agonising over where the company you want to tax might be located. Instead collect corporation tax by putting an additional levy, paid by the customer, on the sale price of its products.  Under an equalisation tax the end consumer would in effect pay a company’s corporation tax bill for them.  That would make it a bit like the Excise duty which applies in this country mainly on alcohol, tobacco and fuel.  

Glaciers

There is no such thing as a new idea in tax and the equalisation levy is no exception.  The OECD toyed with the idea but concluded two years ago that it wasn’t the thing to do.  That’s mainly because of where the tax burden lands – not on the company but on the customer.  The OECD’s belief is that its own prescription, the so-called Base Erosion and Profit Shifting (BEPS) project, will sort out the problem of collecting taxes cross border from companies better than an equalisation tax. 

However, after a promising start in achieving changes to international tax rules, BEPS is beginning to make glaciers look nimble in terms of its current progress.  That’s possibly what is driving some of the EU countries, led by the finance ministers of France, Germany, Italy and Spain, to promote the equalisation levy as a more rapid response.  Six other countries - Romania, Bulgaria, Slovenia, Greece, Portugal and Austria – have also signed up. 

What these countries have in common (with the exception of Portugal) is that they are at the bottom half of the EU table in terms of the amount of corporation tax they extract from their economies.  It makes sense for them to promote an alternative way of compensating for low corporation tax revenues, especially if they can do this under the cover of striving for international tax reform.  

US Lessons

ECOFIN should consider the lessons in recent months from the US, where the Republican Party had mooted the idea of a Border Adjustment Tax which is very similar in concept to the equalisation levy.  The Americans envisaged putting a levy on all imports without charging a similar tax on US products.  Nevertheless, there was such an outcry from the US retail sector against the idea because of the impact on consumer prices that it appears to have been dropped from the US Tax Reform agenda.  Does Europe seriously want to pursue an idea which even US President Donald Trump has described as “too complicated”? 

If this equalisation levy idea does stick, EU countries with smaller markets like Ireland will lose a share of the overall EU tax pie and smaller countries punching above their weight will be penalised.  It’s no coincidence that the countries promoting the idea are among the most populous in the bloc.  The Irish government has voiced its opposition, but it will need to continue to do so.  Once an idea gets entered into the EU system it becomes almost impossible to dislodge.  Adopting the equalisation levy would be a return towards the protectionist and closed-in Europe dominated by the larger powers, which le Carré is so good at describing.

 Brian Keegan is Director of Public Policy and Tax at Chartered Accountants Ireland