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International tax reform: what will the future be?

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Over the past six years, the international tax landscape has changed significantly, yet further changes lie ahead. The current political drivers, including fears surrounding globalisation, will be a continuing influence on tax policy for some time to come. BEPS, to some extent, grew out of the changed political climate created by the financial crisis and will continue to be an influence on the future of tax policy. The ongoing changes in the balance of the world economy, and the digitalisation of business, will also influence the future of the international tax rules. The changes to the international tax system over the next 10 to 20 years will be dramatic and to some extent unknowable.

What will the future be? I wonder… (with apologies to Rodgers & Hammerstein, The Sound of Music).

Change, BEPS and me

BEPS and I could be said to have grown up together. I was appointed the BIAC Tax Committee chair in November 2012, the same month that the then UK, French and German finance ministers called on the OECD to start what would become the BEPS process. Over the past six years, the international tax landscape has changed more than (almost) anyone, me included, could have ever imagined. At the same time, I think we are on the verge of even greater changes.
As I will try to explain, BEPS will be one cause of those changes; politics will be another. Changes in world economic balance will also contribute. But possibly, most dramatic of all, will be the changes that the digitalisation of business is already starting to bring, which as they accelerate will turn upside down many of the notions upon which tax systems have been based.

Influence on the future I: politics

Let me talk about the politics first, because this is important. I am increasingly convinced that the financial crisis of 2007/08 will be seen to have been the most important geopolitical event of 2000 to 2020 (and possibly longer). It dealt massive blows to many countries’ public finances (with consequent budget cuts); caused considerable stagnation in growth (and jobs and wages); and revealed – very publicly – some corporate ineptitude and, in certain cases, misbehaviour. These have combined to radically affect – it now seems for the long term – people’s trust in large institutions, including both government (for the first two of the three reasons above) and business (for the last of those reasons). The financial crisis also shattered people’s confidence in experts; and it clouded their optimism about the future.
Separately, but very definitely cumulatively, there is also fearfulness and uncertainty about the continuing effects of globalisation and the increasingly disruptive effects of digitalisation. Needless to say, the combination of a lack of trust, feeling worse off, worrying about jobs, and uncertainty about what the future holds is a toxic mix. On a political level, this often leads to a search for someone to blame (rightly or wrongly) and to a call for justice (or punishment).
This anger and frustration has had an enormous impact on politics in many countries – and it would be totally naïve to assume that it wouldn’t also impact tax. To argue that it shouldn’t is a slightly different point, but one that tax policy experts need to be careful about. A senior UK Treasury official has been telling me since BEPS began – until I eventually started to listen – that tax policy is by definition political because it’s about money and about how a government funds everything it has been elected to do. In that sense, it is the most political of issues, and to ignore politics when we try to design tax policy would be insensitive at best and undemocratic at worst. (Of course, we should still, obviously, take into account economic theory, best practices, etc.)
Absent significant economic growth, evidence of huge numbers of jobs being created by digitalisation, and other improvements, I don’t see the politics changing much. That means the current political drivers will be a continuing influence on tax policy for some time to come.

Influence on the future II: BEPS

BEPS is an example of this new political environment, as well as an influence on future tax policy. Let me try to explain – but first let me reiterate what I have said many, many times since 2012: the BEPS project was necessary. Because of the huge increase in cross-border business flows, uncoordinated tax systems, and tax competition between countries, some planning had become a little outré; legal to be sure, but in some cases the economics of some transactions and their taxation were drifting further apart. And in other areas, especially in relation to IP, the international tax rules simply hadn’t kept pace with globalisation and needed substantial updating. So BEPS was necessary. It likely wouldn’t have happened prior to the financial crisis, because of a lack of public concern; indeed, newspaper articles in 2006/07 reported that the UK government was driving businesses to leave the UK by not addressing what many then viewed as burdensome rules. However, there was more fertile soil for a corporate tax anti-avoidance narrative after the crisis. From that soil, the BEPS project grew and flourished.
So BEPS, to some extent, grew out of the changed political climate created by the financial crisis. But, I believe, BEPS will also be an influence on the future of tax policy, rather than just being a creation, or reflection, of current politics. I think that will occur in two ways.
First, obviously, the BEPS project has made considerable changes in a number of areas of international tax law, the implications of which we are only beginning to understand. To take two examples, first, the multilateral instrument and, particularly, its principal purpose test (a GAAR by another name), will likely have a significant effect on cross-border tax planning (in the most benign sense of that term, i.e. trying to work out what the consequences of a cross-border transaction are). It will take years – and many national court decisions on bilateral tax treaties – for the full, varied impact to become apparent, but it will have a substantial effect.
A second area is the changes made to some of the rules around transfer pricing (especially, but not exclusively, those for IP). Some of these are tweaks and clarifications, but others – e.g. the pricing of capital, and the pricing of risk – are still in their infancy and will have huge effects as those rules deepen and solidify. But, again, we’re just in the early stages of that process.
The second way the BEPS project might impact the future is related to politics, my first point. Because of the success of the BEPS project, the anti-avoidance narrative has become the driving force of almost all tax policy discussions. Other traditional considerations – how to use the tax system to work with the grain of business, rather than against it, to help promote genuine economic growth, for example – have become subordinated to anti-avoidance. Just one example of this is in the current digital taxation debate (which I’ll come back to in the fourth section). While my earlier BEPS points about the rules needing to catch up with reality and matching economic substance to taxation also apply in the digital space, the issues raised by digitalisation are much, much larger than anti-avoidance. But if that is our only frame of reference, we will be designing a tax framework for the past, not the future. All that said, the anti-avoidance narrative will continue to have an effect into the foreseeable future.

Influence on the future III: changes in world economic balance

The third factor influencing the future of the international tax rules are the ongoing changes in the balance of the world economy. This was something that preceded the financial crisis by a decade or more, but which the financial crisis, in some respects, both accelerated and made much clearer. The BEPS process, sponsored as it was by the G20 (itself largely a creation of the financial crisis), brought China, India and others for the first time centrally into international tax policy making. And it brought what had previously been an oppositional ‘source vs. residence’ (and perhaps OECD vs. UN) argument into a place where the proponents of both arguments sat around the same table with more equal bargaining positions than before.
In fact, ‘source vs. residence’ may no longer be the correct paradigm, but the growing importance of market economies in the international tax policy debate will almost certainly mean that traditional ‘residence’ value creation factors are reweighted. Put slightly differently, factors such as the provision of capital, management of risk, and even the intellectual endeavour that creates innovative products will likely have less profit attributed to them, while source/market-based factors will have more attributed. (At the same time, however, I doubt there will be a full-scale move in that direction; for example, China is on the verge of becoming a capital exporter...)
What is not clear, unfortunately, is that this last trend will necessarily be to the advantage of less developed countries. Attributing more profits to a market (and, potentially away from a place of production) could have the effect of benefiting developed markets with more purchasing power over places of production.
One of the practical effects of the BEPS project has already been to lay bare the tax competition between developed and developing countries over, for example, stewardship fees (low value-adding services under BEPS Action 10) and this competition will likely continue.
The OECD’s inclusive framework is a new development, but if the good work that the World Bank and other international organisations are doing around the medium term revenue strategy (MTRS) under the sustainable development goals (SDGs) to help strengthen developing countries is to succeed, these issues will truly need to be brought into the mainstream of the international tax debate and addressed.

Influence on the future IV: digitalisation of business

So far – to use Donald Rumsfeld’s classification – we have been talking about ‘known knowns’ and ‘known unknowns’, but the effects of digitalisation straddle ‘known unknowns’ and ‘unknown unknowns’. Said differently, there are some effects of digitalisation that we suspect may occur, though if, how and when we don’t know. There are also other effects we simply cannot imagine at the moment, but which will have an effect on everything, including tax.
To try to discern the influences on the future a little more clearly, let me break this down into three categories: effects of digitalisation that are occurring now, and that will accelerate in the future; effects of digitalisation that have not yet occurred, but are, perhaps, foreseeable in the next ten years; and those effects of digitalisation which are, for now, the smallest of specks on (or just below) the horizon.
In the first category are relatively well-known issues, many identified by the OECD and EC in the various documents issued in March 2018. To take just three, these are the increasing ability to deliver services without any physical presence, the monetisation of data collected digitally, and the increasing value of the intellectual property driving the digital expansion, relative to the value of tangible property.
Some of this impacts governments’ revenue collections, others impact certain types of businesses (‘bricks and mortar’) versus others (‘digital’). Some early responses to this are beginning to take shape: proposals for turnover taxes; new value creation theories around, for example, ‘active user participation’; proposals for digital PEs and new profit attribution rules; and, new taxes to equalise the treatment of physical and virtual businesses.
As noted above, much of this discussion has been wrapped into the anti-avoidance narrative, and we can expect to see more of that. (As a side note, we should also be realistic about the increased pressure this puts on traditional transfer pricing, and the international edifice erected over the past almost 25 years. In the current reactions to existing digitalisation, there seems to be a trend towards more formulary/formulaic approaches and, again, I would expect that trend to grow.)
In the second category are things that are imaginable but where we don’t know the ‘if/how/when’. One example of this I often use is autonomous (driverless) vehicles. We don’t know exactly how quickly they will develop, and what exactly they will be able to do, but it is not inconceivable that in ten years’ time such vehicles could encompass long distance trucks, delivery trucks, buses, taxis, ride sharing, etc. In the United States alone, people employed/engaged in those occupations number over three million. If all of those were to lose their jobs (to digitally controlled vehicles) not just the corporate income tax effects (who owns the IP, and where, for example), but the personal income tax and social security tax implications would be staggering.
Governments need to raise revenue, and this issue will need to be dealt with. But approaching it through an anti-avoidance lens will not work. The job of the tax system will be, yes, to raise revenue, but also to help encourage growth (e.g. by well-targeted tax incentives to correct for market failure) and replacement jobs (e.g. by reducing tax burdens, including the so-called ‘tax wedge’ on employment) for those who have lost theirs.
We will need to broaden our focus back out – but we also need to be very aware (going back to the first influence: politics) that as people lose their jobs, as their status changes, and as their faith in the future takes another blow, the pressure to blame (and tax) the disrupters will be enormous. To avoid backlashes will require hard thinking and hard work.
Finally, those ‘unknown unknowns’ – the specks on or below the horizon.
One example of this may be artificial intelligence. We have the vaguest of ideas what changes AI may bring: it is currently truly only a speck on the horizon. Certainly, further disruption is relatively foreseeable, but how far AI will spread and what it will be able to achieve is unknowable. And beyond that (below the horizon), there are digital products and processes that we can’t even imagine, but whose effect will also be dramatic and disruptive. I’m not going to take a turn into Jules Verne or H.G. Wells, but there is one thing about the future that is very clear to me (and AI hints at it), and it’s this: not just our current tax rules, but also our whole tax language will be inadequate for what’s coming a decade or two from now.
Take AI, which ‘learns’ from big data. Where does that occur? Does it make sense to talk about location (for example, a PE) as data flows around the world? What do concepts like significant people functions mean when there are no people? What do source and residence mean when there is neither? How would you apply apportionment factors when the location and relevance of those factors are not clear? Is there even a ‘sale’ or transaction to be taxed? The OECD and others (outside of tax) have begun to talk about this, but we also need to prepare in the tax world for still bigger changes, and even a new language upon which to base a new tax system.


The changes to the international tax system over the next ten to 20 years will be dramatic and to some extent unknowable. The next five to ten years will likely be dominated by an ongoing anti-avoidance narrative and efforts to fit the growing effects of digitalisation into the current framework, but at some point that will no longer work. What then will the future be? I wonder… 
The views expressed in this article are personal and not necessarily representative of those of either BIAC or PwC (but see