US presidential election means OECD Pillar 1 tax agreement unlikely
Digital Service Taxes back on agenda with risk to tariff retaliation
The OECD’s negotiations with around 120 counties on rewriting the rules on taxing cross-border digital services (‘Pillar 1′) is now in peril following the US’ Republican Party successes in Senate and presidential elections.
Both Pillar 1, and Pillar 2, global minimum tax rate, were being progressed to modernise worldwide tax rules to reflect globalisation and new digital revenue models. Even before the elections reinforcing the anti-reform Republican’s control, the US was sceptical of the reforms giving other countries more taxing rights over mostly US-based multinationals. Ratification by US lawmakers of any final deal now seems highly unlikely.
As a result of Pillar 1 talks stalling in recent months on Amount B (see below), many countries are re/imposing unilateral Digital Services Taxes (‘DST’) for which the US has threatened trade tariff retaliative action. See our DST country implementations tracker. A ‘standstill’ agreement between the US and DST countries expired in June.
Agreement stalled; global DST being dusted off
Pillar 1 allows countries to levy income taxes on cross-border digital services provided by non-resident providers. Currently, only the country of residency of the providers may tax the provider. Parts of this were agreed, but progress on arm’s length principle to calculations had stalled this year.
A new Republican-dominated Senate and with President Trump moving to the White House will almost certainly kill off hope of Pillar 1 or 2 agreement.
As a result, many countries are reactivating or increasing their unilateral Digital Services Taxes. This includes France raising its DST and Italy cutting its DST threshold.
The 2016-20 first Trump administration investigated some of those measures and generally concluded that they constituted violations of trade agreements with the United States. The Trump and following Biden administrations both imposed retaliatory tariffs in response, but suspended them pending the pillar 1 negotiations.
The EU Digital Services Tax had been put on hold in 2021.
OECD October 2024 update on Pillar One reforms
Pillar One represents a comprehensive reform of the international tax framework, targeting the taxation of large, highly profitable multinational enterprises (MNEs) and improving transfer pricing for baseline distribution. It comprises two main components: Amount A, establishing new international taxing rights, and Amount B, which simplifies transfer pricing for common distribution activities.
Amount A – jurisdictions’ right to tax
Amount A focuses on taxing rights for digital and other large MNEs, shifting taxing rights based on revenue generation in markets rather than physical presence. This pillar recognizes the need for tax policy to adapt to the digital economy, where MNEs can derive substantial profits without significant physical operations in a market. On October 11, 2023, the Multilateral Convention (MLC) text for implementing Amount A was released, reflecting technical consensus within the Inclusive Framework on BEPS. Following this, a revised timeline was published in December 2023 to continue addressing open issues, particularly the moratorium on new digital services taxes (DSTs).
As of the 16th Inclusive Framework Plenary in May 2024, the MLC for Amount A had reached near-final consensus, with France and Brazil expressing interest in hosting the signing ceremony. The Inclusive Framework reaffirmed its commitment in July 2024 to finalize the MLC. Current negotiations primarily involve political issues, aiming to refine Amount A’s consensus and secure broader adoption among the Inclusive Framework members. The Inclusive Framework seeks to open the MLC for signature by June 2024, marking a shift away from physical presence as a basis for tax allocation—a transformation set in motion by the 2015 BEPS Action 1 report.
Amount B – transfer pricing issues
Amount B simplifies the transfer pricing rules for baseline marketing and distribution activities, crucial for low-capacity jurisdictions where data limitations and disputes in these areas are common. By establishing a streamlined, elective approach for baseline transfer pricing, Amount B aims to enhance tax certainty and reduce compliance burdens for jurisdictions with limited resources. On February 19, 2024, the Inclusive Framework released an initial report integrating Amount B into OECD Transfer Pricing Guidelines as an elective measure. Subsequently, design aspects were clarified in June 2024, and, most recently, a Model Competent Authority Agreement (MCAA) was published in September 2024, aiding implementation for jurisdictions with limited data availability.
This integrated approach under Pillar One targets the foundational challenges of the digital and globalized economy, aligning international tax policies with modern economic realities. The Inclusive Framework continues to work toward binding agreements and refining the elective approach in Amount B to establish a consensus-based global tax system, enhancing both certainty and efficiency in the global tax landscape.
Dec 2023: OECD extends moratorium on DST’s as Pillar 1 digital services taxes talks make slow progress
The OECD is to be extended, with the deadline for agreement shifting from the end of March to the end of June 2024. Differences remain around the so-called Amount A of Pillar One, a complex formula for reallocating taxing right on Multinational Enterprises’s sales.
Many countries have put their alternative, unilateral Digital Services Taxes on hold in the hope that these negotiations reach agreement soon. Failure to do so, and triggering these DST’s could spark a major trade war.
Oct 2023: OECD issues new Pillar 1 draft
11 Oct 2023 – the new draft text published today reflects the current consensus achieved among members of the Inclusive Framework. Amount A of Pillar One co-ordinates a reallocation of taxing rights to market jurisdictions with respect to a share of the profits of the largest and most profitable multinational enterprises (MNEs) operating in their markets, regardless of their physical presence.
If agreed by enough countries, the agreement reforms the global right to tax global digital companies in countries where they are selling without a traditional presence. The OECD estimates this could shift taxing obligations for between $17 billion and $32 billion per annum.
In July this year (see below), countries agreed to pause new local Digital Services Taxes (DST’s) which unilaterally tax offshore digital services income. This moritorium is in place until 2025, giving the OECD and countries time to complete the Pillar 1 discussions.
However, it is unclear if the necessary consensus to implement the proposal next year can be reached. In particular, India, Brazil and Colombia remain outliers on consensus.
July 2023 – 138 countries agree to continue the suspension of Digital Services Taxes for a further year as OECD Pillar negotiations proceed
138 countries on 11 July 2023 committed to a further 12 months to negotiate a global settlement on where around 100 digital services multinationals will be liable to taxes. The initiate, being coordinated by the OECD, is known as Pillar 1. It would enable local taxation of an estimated $2oo billion of international revenues made by the targeted digital service providers.
Doubts remain about the US being willing in Congress to approve the final agreement since it will raise foreign on many of their digital provider companies, a compromise allowing other countries to proceed is emerging. A final text of the agreement will be due in the next few months for ratification to begin by year end.
Five of the 140+ members of the OECD/G20 Inclusive Framework on Base Erosion and Profit Shifting (BEPS) declined to sign the extension, including Canada, Belarus, Pakistan, Russia and Sri Lanka. Canada’s DST is due to come into effect from 1 January 2024.
The DST’s already implemented (e.g. UK, France and Italy) are in operation but tax payers will be entitled to offset any taxes paid against future Pillar 1 taxes. Others not implemented, e.g. Belgium, are on hold waiting for Pillar 1 agreement.
Following the freeze, further work on Amount B of Pillar 1 – will start before the end of July with a public consultation, until 1 September – is slated for completion by year-end.
Jan 2023 – OECD launches consultation on ‘Pillar 1’ proposal that aims to end proliferation of controversial Digital Services Tax – details and US opposition doubts remain for 2024 implementation
In December, the OECD issued a discussion document (draft Multilateral Convention) aiming to get back on track its proposed global settlement – Pillar 1 – on taxing the foreign digital revenues of multinationals. It had been hoped in 2021 when 137 countries signed-up to the draft proposals (Inclusive Framework on BEPS) that the new Pillar 1 regime could be in place by January 2023 to replace Digital Services Taxes (DST’s). These taxes, launched by the likes of the UK, France, Italy, India, Canada and more, had been met by trade tariff retaliations by the US which saw them are indiscriminate revenue raisers on their domestic digital giants – Amazon, Apple, Meta, Google etc.
The consultation, focused on ‘Amount A’ of Pillar 1, lasts until 20 January 2023. There will be a mid-2023 Multilateral Convention final document. This will provide the framework for the withdrawal of DST’s, including full definitions of measure countries will abide with.
The new target implementation if January 2024. However, aside from the OECD work, the other main risk remains likely US opposition to the proposals. Discussions on Amount B are more complex with a final deliverable target of Autumn 2023.
OECD consultations on Amount A still may not hold all the answers
The new discussion document from the OECD is attempting to move forward the definition Amount A, which determines how countries may take locally generated digital earnings of companies tax resident abroad. This would therefore remove the need for DST’s. The principles it applies include:
- A tax on foreign companies’s income
- Like VAT, the place of taxation is the home country of the consumer/business customer
- It is not a tax on income under domestic law and so outside of Double Taxation Agreements.
What the documents did not include is a list of what constitutes a DST or “relevant similar measures.”. This leaves open considerable scrutiny and scope to retain DST’s by some countries.
US doubts on ratifying OECD Pillar 1 agreement for 2023 means unilateral DST’s to make a comeback?
The ambitious October 2021 OECD inclusive framework on base erosion and profit shifting (BEPS) agreement by 137 countries on global tax reforms is proving hard work to implement. The attention has been on a 15% global minimum corporate income tax, Pillar 2. But Pillar 1, reallocating rights to countries to tax digital revenues of non-resident companies selling in their countries, looks stuck too with arguments around its own ‘Amount B’ calculation.
The US is unlikely to ratify Pillar 1 soon as most of the companies in scope are American and many questions on tax calculations – Amounts A and B used to estimate taxable income – remain outstanding. The target implementation date of 2023 has now effectively missed. This means that unilateral Digital Services Tax regimes already threatened or implemented will likely make a come-back as a December 2023 moratorium nears. The UK, France, Italy, Turkey, India (Equalisation Levy) and more have already enacted DST’s.
This would retrigger potential retaliatory measures from the US, and potentially China – also a major home to global digital companies. Meanwhile, almost 100 countries have now implemented VAT on foreign digital services.
Pillar 1 – taxing revenues on large, foreign digital services corporates
There has been little progress since October 2021 on the components of Pillar 1 because of the resistance in the US Congress. Pillar 1 is only intended to allow the taxation by foreign jurisdictions of around 100 global digital companies using the following criteria under Amount A:
- Global revenue of €20 billion, with at least €1 billion allocated to the tax jurisdictions looking to raise an assessment (€250m for smaller countries).
- Profit margin of at least 10%.
There is ongoing work on Amount A at the OECD, including a public consultation.
However, there is a second element, Amount B, to Pillar 1. This is centred around transfer pricing simplifications and baseline marketing and distribution calculations for foreign entities . This has largely been neglected since the October 2021 agreement. There is still debate about:
- what should be included in marketing and distribution
- Clarifying routine vs non-routine activities – what is the baseline
Digital Service Taxes comeback as December 2023 moratorium nears
DST’s are a new type of tax developed by countries frustrated by the lack of global tax reform. Many were put on hold at the time of the October 2021 settlement. Others, such as the UK, have come into force, but any revenues will be credited against the eventual Pillar 1 reforms. The signatories to the OECD had agreed to suspend new DST’s until December 2023. In return, the US has committed to not impose punitive trade actions.
Countries such as Canada, Nepal, Paraguay, Kenya and Nigeria have already imposed new DST’s since the October 2021 agreement.
