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2020 was a year of challenges and change for businesses and for governments, and the pandemic responses from both were naturally intertwined. When the global crisis first began to take hold, there was a sense that it would be a temporary disruption. But a year on, dealing with disruption is now a critical part of doing business, and the impact of the recent disruption looks set to remain.
In many ways, 2020 was a catalyst for changes that were already slowly taking place in societies and economies, and the challenge for governments remains how to appropriately respond to these changes. The big questions for tax policy makers to address relate to the role of company tax, the digitalisation of the economy, and an evolving definition of ‘value’, and how is it reflected in a company’s business activities and structures. Each of these issues also present challenges for our clients, and how RSM as an organisation can support them.
Balancing company tax
Company tax is generally regarded as one of government’s key sources of income (along with personal income tax, value added tax and other transaction taxes). It is – usually – easy to collect, it is reliable, and it is easy for businesses to understand and plan for (the calculation process may be complex, but government has effectively, via the self-assessment tax system, delegated this responsibility to business and its advisers). Despite its consistent presence in the relationship between governments and businesses, the role of this staple tax been changing in recent decades.
Since 2000, the OECD has tracked, internationally, the move towards a seemingly unspoken agreement between nations to set the rate at between 10% and 30%, with a mean of 20.7%. Some countries did of course choose to set the rate much lower, and some much higher, depending on their economic strategies, but there was a clear trend for falling rates as a means to encourage economic activity. However, the pandemic has prompted a discussion about whether that trend should be bucked, and rates should instead increase.
The discussion is understandable. Governments around the world took action to support businesses big and small and to protect their economies. However, there is a sense that businesses will, in the years to come, have to pay back that support, and possibly at a time when tax receipts are likely to be falling as a result of the economic shock from the pandemic.
What should governments do next?
While it will be tempting for governments around the world to raise company taxes, doing so would ignore a huge opportunity. Yes, raising rates (banking on a global economic recovery and assuming company tax receipts will rise in tandem) makes sense, but it would not recognise the scale of the changes that 2020 brought to the business landscape.
One major opportunity, for both business and governments, is to structurally reform the company tax landscape and recognise the reality of where ‘value’ in our economies now lies and will continue to lie long into the future. As early as 2017, a study by the World Intellectual Property Organisation (WIPO), WIPO Report 2017: Intangible capital in global value chains, found that across almost every sector, intangible assets were worth as much as a third of the value of the end product purchased by consumers. These assets are difficult to identify, and include unregistered trademarks, copyright, design rights and data rights, and represent a huge potential source of economic value.
However, when restructuring tax infrastructure to ‘capture’ this value, it will not simply be a case of adding them to a company’s overall value and applying a flat rate. To truly reform company tax, governments need to view it as a way to shape the decisions of business leaders, and encourage investment by businesses in the activities they want to see more of – and crucially, the ones they believe will lead to economic growth. There is already a consensus that governments are willing to offer tax breaks if they lead to long-term value, and it is that thinking I believe will drive a global economic recovery.
Foregoing tax rises may be viewed as a gamble, giving up income now for longer term rewards, but in reality it is about creating a global tax system which supports economic growth and reflects the reality of what citizens expect their governments to be able to deliver.
Taxing the digital economy
The issue of taxing digital multinational companies is complex. One of the major challenges for governments, and a question they grappled with even before the pandemic began, was the need for governments to think of their domestic tax policies in an international context. Through 2020, the need became more apparent as our use of digital services, and as a result their revenues, skyrocketed at a time when other economic activity was dampened.
The OECD had originally intended to reach an internationally agreed solution by the end of last year, but that timeline was, even before the pandemic, ambitious. As many of the businesses that would be targeted by these new taxes are US multinationals, the White House has understandably been eager to delay and has on numerous occasions used tariffs to dissuade European governments from implementing their own unilateral solutions.
However, even the threat of tariffs has not been enough to hold them back forever. There is a real danger now that more and more countries, across Europe and the world, will introduce their own interpretation of a digital services tax and it is middle market companies who will be hurt most. Currently these new taxes are generally a flat percentage of revenue, which has already been directly passed on to smaller suppliers and consumers, reducing economic activity and defeating the original purpose of the tax. Worse, unilateral digital services taxes will discourage a new wave of tech disruptors from emerging out of the crisis onto the global stage.
Finding a consensus on how to tax these global digital companies is going to be a defining moment for our industry in 2021, but it is crucial that governments consider the wider impacts. As 2020 showed us, digital technology allows for global solutions and for business to restructure and transact across borders even with lockdowns and travel restrictions. A country-by-country tax solution therefore looks even more out of line with the business approaches and structures that will develop in 2021 and beyond.
The year ahead
For businesses the world over, 2021 will be another challenging year of change, but from a tax perspective, one where we see exciting opportunities. Digital will continue to be a core part of our lives, both in how we work and in the way we operate, and beyond that, our understanding of the true value of digital activity will continue to evolve and grow. We are undoubtedly on the brink of more disruption (and more uncertainty), and so more than ever, business leaders will require a strong adviser, such as RSM, to ensure they can make informed decisions, and to take advantage of new opportunities rapidly.
Rob Mander
RSM International Tax Services