OECD Corporate Tax Compromise Savaged By Multinationals in Public Meetings

November 26, 2019

By Jeff Ferry, CPA Chief Economist

For the past year, tempers and words have been heating up in an international war over corporate taxation. France raised the heat in the battle last year, when it announced it would levy a tax on the corporate profits of a small number of Internet companies to a value of 3 percent of their sales in France. US officials, including President Trump, reacted angrily, charging on Twitter and elsewhere that the tax was unfairly aimed at US Internet giants like Google and Facebook.

The OECD, a Paris-based organization of economists and experts that includes most of the world’s larger economies as members, jumped into the fray. It’s been trying to find a new method for levying corporate taxes, because the OECD, like CPA and others, have said for years that the current system has become obsolete and grossly distorted by the ability of multinational corporations to shift profit into tax havens like Ireland or the Cayman Islands, and pay close to zero tax on huge percentages of their profit.

Well, last week, the OECD held a public consultation to get public response to a series of proposals for an overhaul of corporate tax it published in October. The discussions in this two-day consultation prove pretty clearly that the OECD proposals will never see the light of day, because multinationals don’t like them. For us at CPA , it proves once again that the best solution is to replace the current corporate tax system based in the technical jargon, on the “arms length principle” with a new system where a company’s corporate tax bill in each country is linked to its worldwide profitability and how much a company sells in each national market.

The solution advocated by CPA, and many professors of finance, law, and economics is known as sales factor apportionment or SFA. In this system a company’s global profits would be taxed in each nation based on its share of that company’s global sales. If France or the UK accounted for 10 percent of a multinational’s sales, each would levy tax on 10 percent of that company’s pretax profits. For the US, which typically accounts for around half of a multinational’s sales, Washington would tax that half of the company’s profits. This would generate far more corporate tax revenue than under today’s system. In a previous article, we argued that such a system would produce 34 percent more revenue than the current system—that’s in addition to being much fairer as between companies and industries, an equally important benefit.

However, the OECD declined to endorse such a big change in corporate taxation. Its  staff of international economists has a keen understanding of the problem and many privately support the SFA solution of linking tax to sales. But as a globalist organization, it tries to find solutions that are acceptable to the multinational corporations that dominate this breed of international organization. The OECD’s October proposals, collected under the heading “Unified Approach” are complex, technocratic, but do make some tiny steps towards linking taxation to national sales. These proposals included three separate additions to current principles of corporate taxation, named Amount A, Amount B, and Amount C. Even those cryptic names reflect the OECD’s fear of offending the multinationals. For greater transparency, Amount A could have been called Tax on Non-Routine Profits, while Amount B is a proposal for Tax on Distribution Profits in A National Market. Amount C is a Tax Decided Upon by a Dispute-Resolution Body.

CPA attended last week’s public consultation and, after watching the entire grisly affair, our judgment is that all three proposals were savaged and rejected by the audience and will never see the light of day.

The OECD received over 300 written public comments from the public (mainly multinationals and their trade associations) in response to the Unified Approach. Last week, over 200 individuals gathered to make further comments to the officials on the OECD tax committee. The multinationals’ spokespeople attacked the Unified Approach for being too broad, too vague, and not well thought through. Amount A aims to tax only non-routine profits (whatever that is) and the OECD has not spelled out how to define either “routine” or “non-routine” profits. For example, last year, Google had an operating profit margin of 22 percent on its $136 billion of global revenue, a huge margin on a huge revenue base. But Google could argue that is routine—the company’s search engine has consistently delivered huge profit margins almost from the day it emerged from the founders’ garage.

At Thursday’s session, corporate representatives tore the concepts of routine and non-routine profits to shreds. The critics went on to raise other objections, or in some cases just water down the Amount A proposal, such as with a suggestion that company losses from loss years should count to reduce non-routine profits in a profit year, exactly as is done in most countries for normal corporate profit tax (known as tax loss carryforwards). Some attacked the idea of limiting the new taxes to consumer-facing businesses. “It is not possible to ring-fence the digital economy now,” said Giammarco Cottini, the eloquent representative of Netflix. He has a point, since traditional corporations like Proctor & Gamble, Walmart, or Brooks Brothers also sell products over the Internet nowadays. On the other hand, dozens of corporate representatives stood up to warmly welcome the idea of targeting only consumer-facing businesses. These representatives, from corporations including cement companies, natural gas companies, and pharmaceutical companies argued they do not sell direct to consumers and therefore should be exempt from Amount A.

But all the corporate representatives agreed on one thing: Amount A represents the sin of “double taxation,” and as such violates an important and historic principle. According to these speakers, all corporate income is already taxed and therefore a tax like Amount A, which attempts to identify and tax additional profit linked to sales in any particular country, is taxing profit a second time.

This is the Catch-22 at the heart of what the OECD is trying to do. Consider Amazon. Amazon is one of the largest, fastest-growing, and most influential corporations in the world. Last year, Amazon booked revenue of $233 billion, up 31 percent from the 2017 level. Amazon reported pretax profit of $11.3 billion. Yet last year, Amazon accounts show tax expenses of just $1.2 billion, a tax rate of 10.6 percent, half that of the official US corporate tax rate of 21 percent. Digging into the detail in its financial accounts, in terms of actual 2018 payments, the checks Amazon actually wrote for taxes last year, it paid zero to the federal government. Instead it was able to claim a tax credit of $129 million from Washington. It did pay small sums to US state governments, and a total of $563 million in taxes to foreign governments.

All those figures are ridiculously small percentages of the billions it makes each year. Yet Amazon can claim, correctly, that it has complied with all the tax laws in all the countries in which it operates. The “arms length principle,” which has governed corporate tax for decades, allows Amazon to shift billions of dollars of profit to tax havens like Ireland, Bermuda, or the Cayman Islands, and pay little or no tax on that profit. The phrase “arms length” means that its revenue-generating subsidiaries in major nations pay large fees to the subsidiaries in the tax havens at rates established as if the subsidiaries were all separate companies, supposedly operating at “arms length.” This system has become a complete fiction, because the fees bear no relation whatsoever to the value produced in the tax havens. Yet the system allows Amazon to claim that under the law, all of its profit is currently taxed.

When the OECD meeting moved onto Amount B, the proposed tax that would be linked to the distribution activities in national markets, the discussion became more open-minded. Two US-headquartered consumer products companies, Proctor & Gamble and Johnson & Johnson, proposed formulas that effectively linked a company’s distribution profit to the cost of its activities in a national market. This seems to make sense. In other words, if a Proctor division, say Gillette, has 300 sales and marketing staff in France, spends $10 million a year on advertising in the French market, and further spending on sales promotions and in-store displays, one could find a way to calculate a “deemed” profit rate on those expenses and charge a tax on it.

It’s not a bad idea. As a cynic, I immediately conjectured that Proctor probably already is paying substantial tax to the governments of France, the UK, and the other countries squealing about US multinationals minimizing their tax. Nevertheless, it makes some sense. The big problem with the Proctor proposal is that it fails to address the problem of the Internet companies, which are the biggest tax avoiders. They have minimal distribution expenses because they sell in many countries with minimal presence. So a national tax based on actual local expenses would leave companies like Google, eBay, or Facebook almost unscathed.

This led to the Shakespearean climax of the two-day consultation. As the group discussed the details of the new accounts and reports that would be required from thousands of companies if Amount B were ever adopted, Jean Battin, from a Belgian business federation, stood up to speak. Battin grew angrier as he went on:

“Yesterday,” he began, “I said I might be naïve. Today I say I might be stupid. Because I thought we were all here to address the problem of digitalization. Digitalization is the problem of a small number of Internet companies. But I have not heard that this morning. Instead I have heard proposals that are far bigger, broader, and more dangerous than that. This sounds like a major reform of international corporate taxation for all businesses. Is that what this is?”

Throughout the two days, the soft-spoken OECD official chairing the event, Gael Perraud, had been polite and impassive, taking the brickbats and attacks with a slight, supercilious smile, hiding his true feelings. For most of the conference, Perraud had behaved like the mischievous student at a French boarding school who was getting a caning from the headmaster, expected it, and wanted to take it with a smile. But at Battin’s question, Perraud’s restraint broke. The Frenchman grinned and replied honestly: “Indeed it is, Monsieur Battin. Indeed it is.”

The CPA View: The Real Problem and The Real Solution

The OECD is engaged in what it likes best, grand schemes for economic reform. They will go nowhere. The real problem is that the arms length principle is completely obsolete. Widespread shifting of profits to tax havens has made a mockery of any fairness the principle may have once held. And the problem will only get worse, as the Internet makes it easier to shift intangible assets to tax havens, and as more corporations follow the leading-edge examples of innovative tax avoidance set by companies like Google, Amazon, and Apple.

On Thursday morning at the Paris conference, I stood up and spoke in favor of SFA. I was supported by three professors from universities in the UK and Germany, as well as an official from Africa who argued that African nations would get more corporate tax revenue if taxes were based on sales to the people in their national markets instead of the current arms length principle. But most of the hundreds of attendees were virulently opposed to this idea. One even commented that the professionals gathered there were all “terrified of destination-based tax.”  The reason for their fear is it empowers individual countries to levy tax at a rate they choose, instead of always being three steps behind the tax “innovation” (i.e. avoidance) of the leading edge companies.

OECD economists have some good ideas, but when they try to forge international consensus, they fall into the trap of globalists everywhere. The search for international consensus limits the sovereignty of each nation to levy taxes as it sees fit, and attempts to force a “one size fits all” solution on disparate countries. Even worse, when a globalist organization like the OECD asks for “public” consultation, the “public” that responds and applies pressure is the “public” of multinationals, the organizations that have enough millions at stake to invest the time and money in sending representatives to meetings that for some strange reason are always held in the world’s most expensive cities (and usually in the most expensive neighborhoods within those cities.)

In Silicon Valley, for a company to pay the actual US headline rate of 21 percent makes it a figure of derision in tax and accounting circles. Meanwhile thousands of manufacturing companies, retailers, utilities, and other US firms are paying tax at rates close to the headline rate. Many are struggling to turn a profit and keep the lights on in highly competitive markets. In contrast, most of the Silicon Valley giants benefit from some degree of monopolistic domination of their market, with huge profit margins. The huge profits finance the hiring of dozens of tax accountants and lawyers to constantly develop new schemes (known in the Valley as “tax structures”) to minimize the tax bill.

Tax reform needs to happen because corporate tax is becoming a mockery. It will be good if France persists with its digital services tax on 30 Internet companies (the names are yet to be revealed), and if other countries follow suit. And then the US should set the world an example by replacing its current system of corporate tax with sales factor apportionment, so all companies pay a fair and equitable 21 percent on their genuine profits.



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  • James Crawford
    Tax and financial policy ideas are a core strength of macroeconomics and it shows here in the clarity and simplicity of the SFA concept. Macroeconomics, however, also has inherent weaknesses, as the new book, “The Economists Hour” makes abundantly clear.