March 20, 2018 / 4:18 PM / a month ago

Europe’s data tax war is worthy but hard to win

By Liam Proud

The Google signage is seen at the company's offices in New York January 8, 2013. REUTERS/Andrew Kelly

LONDON (Reuters Breakingviews) - Where should multinational tech companies pay income tax? Changing international rules devised a century ago will be difficult, but Europe is right that asset-light, data-hungry businesses like Google and Facebook (FB.O) merit fresh thinking.

The European Commission will this week propose a tax on digital groups’ revenue of around 3 percent, according to Reuters. The move aims to plug an imbalance that sees international digital companies pay an effective rate of 10 percent on pre-tax profit in the EU, according to the commission, compared with non-digital businesses’ 23 percent.

Imposing a flat levy on sales is clumsy, as it penalises less profitable firms and investment. But it may help force through a better solution: the commission will withdraw its proposal if the Organisation for Economic Co-operation and Development brokers a consensus on new rules.

The current ones could do with updating. Tax treaties and OECD guidelines rest on two principles from the bricks-and-mortar age. First, companies owe tax overseas in countries where they have a physical “permanent establishment”. That became controversial in France after a court ruled that Google parent Alphabet (GOOGL.O) didn’t owe 1.1 billion euros in back taxes because it had no permanent establishment.

Second, the amount due is based on where economic value is created, taking into account local assets, and where risk is assumed. This means tech groups’ taxable profit is often small, since the assets supposedly accounting for much of their value – think algorithms devised in Silicon Valley – are located at home or in low-tax countries.

The commission reckons the best solution is to introduce a “virtual” permanent establishment covering digital operations, and link taxable profit to the value created locally by harvesting citizens’ data. OECD tax lead Pascal Saint-Amans will have to flesh out these fuzzy ideas.

He’ll struggle. Expanding Europe’s slice of the pie will anger America, which wants to bring U.S. earnings home. Forging consensus on how much value is created by users’ data, such as Facebook posts or Google searches, will be fiddly.

Nonetheless there’s a good case for change. Current tax rules essentially ignore data as a source of companies’ taxable profit, despite its centrality to the algorithms and other intangible assets that supposedly create that income. However ambitious or crude its solutions, Europe has sense on its side.

On Twitter twitter.com/liamwardproud

CONTEXT NEWS

- More than 110 countries have agreed to try forging a consensus by 2020 on how to tax multinational digital businesses, the Organisation for Economic Co-operation and Development said on March 16.

- In a report commissioned by the G20 countries, the OECD said the states had agreed to review decades-old pillars of the international tax system.

- Reuters reported on March 15 that large companies with significant digital revenue in the European Union such as Google and Facebook could face a 3 percent tax on their revenue.

- The tax, if backed by EU states and lawmakers, would only apply to large firms with annual worldwide revenue above 750 million euros ($924 million) and annual “taxable” revenue in the EU of more than 50 million euros.

- The move is presented in the draft as a temporary measure that would only be implemented if no deal is found on a more comprehensive, possibly global solution to tax the digital profit of companies in the countries where they are made, rather than where the firms are headquartered as is the case now.

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