OECD BEPS (In)Action 1: Factor Presence as a Solution to Tax Issues of the Digital Economy

Abstract

The Organisation for Economic Cooperation and Development (OECD) launched its project to address base erosion and profit shifting (BEPS) in 2013 with an Action Plan of 15 Actions. Action 1 encompasses identifying difficulties the digital economy poses for applying existing international tax rules and developing options to address them. Under current international tax rules, an enterprise generally is not taxed in a country in which it does not have a physical presence. With the economy having evolved so that business can be conducted over the internet with no physical presence in a country, companies have been able to avoid taxation in many jurisdictions from which they generate significant income. The OECD issued a final report on Action 1 in 2015 and a subsequent report in 2018, yet has failed to recommend a solution to address the physical presence issue. In effect, Action 1 has become Inaction 1. Countries and the European Union have grown impatient with the OECD and have taken matters into their own hands, with countries and the European Commission (EC) proposing or enacting legislation to address head on the issue of nontaxation of multinational digital companies, tax authorities assessing tax against multinational companies under the existing rules, and the EC bringing actions against countries for illegal state aid.

This Article proposes that a factor presence standard be used instead of a physical presence standard for nexus based on a model used by states in the United States. Taxable presence for income tax purposes would be determined based on the factors of sales, employees, or property in a jurisdiction. The main objection to such a proposal is that it is too radical an approach to take at this time, even if it would solve the tax problems resulting from the evolution of the economy. The OECD has promised that it will reach a consensus solution by 2020 on how to address tax issues of the digital economy. As the OECD works toward a solution, it should seriously consider a factor presence approach that would offer certainty and fairness to multinational companies and their tax administrations.

Keywords: BEPS, Digital Economy, Factor Presence, Wayfair, Digitalized Economy

JEL Classification: K34, M49