Posted by Christie Malry on May 27, 2015 at 4:47 pm
There’s a renewed buzz around the European Common Consolidated Corporate Tax Base (CCCTB). A new Commission seems to have dusted off the mothballed plans for CCCTB and is actively considering how they might be put into practice in the EU as a solution to perceived widespread corporate tax avoidance.
Our current approach to taxation is to allow each country to set its own rules for what gets taxed in their borders. A system of bilateral treaties aims to get countries to ‘play nicely’ together. Via these agreements we end up such principles as transfer pricing, which seeks to ensure that group companies transfer goods and services to each other at something approximating to a market price, had those goods/services been sold by a third party. The system doesn’t work perfectly, for sure, but it keeps most of the countries happy most of the time.
But not enough countries happy enough, so CCCTB is back on the table. CCCTB would, in the EU at least, sweep aside this approach to tax and its bilateral treaties. In its place, we would get agreement that a tax base for a multinational company operating in a group of countries would be agreed between them based on common principles and each country’s portion of this tax base shared out according to a formula. The idea is that multinational companies would no longer be able to transfer profits from high tax countries to low tax countries using artificial service contracts that fly under the radar of thinly-resourced national tax authorities.
However, there’s a fundamental problem with CCCTB: It Won’t Work.
It won’t work for three reasons. However, it’s my belief that any one of these reasons would, on their own, be enough to sink CCCTB. Taken together, it’s testament to the political amnesia that a new Commission can bring that the EC is even considering this at all.
For a common tax base to work, it has to be global. But CCCTB is only a local tax base
With CCCTB being a tax base for Europe only, it will require multinational companies to prepare a subconsolidated tax base for Europe. Countries outside this tax base will continue to be taxed as currently. CCCTB may ‘solve’ perceived profit shifting within Europe but does nothing to prevent the same tricks being used to shift profits between Europe and non-Europe. Arguably, this is even worse, because employment that is currently ungainfully employed in Luxembourg and the like might end up in non-European tax havens.
CCCTB as currently devised would be an expensive add-on for companies and would only incentivise naughty companies to take their naughtiness elsewhere.
For a common tax base to work, it has to be mandatory. But CCCTB is optional
As an optional method of taxing multinational companies, CCCTB will only be picked by those with something to gain from it, or at least with nothing to lose. This will leave European countries having to each fund two systems of taxing multinational companies, with the company getting to pick the one that works best for it. Meanwhile, smaller businesses will have no choice but to stick with their current method of taxation.
It’s hard to imagine how this could be fairer than our current approach where all companies are taxed on the same basis. CCCTB will allow multinational companies to opt for a different way to be taxed if it suits them. This dual approach can only fuel the sense of injustice.
The formula can never hope to encapsulate public views of fairness
It’s apparent that the public feels that the current approach to taxing multinational companies is unfair. This sense of unfairness is heightened by cases where a company reports high profits in its accounts but pays small amounts of tax, even where there are good reasons for this.
The current approach to taxing multinational companies is to tax each subsidiary separately in the countries in which it has a ‘permanent establishment’. Although some subsidiaries’ profits are eliminated upon consolidation, there is a loose link between the accounting results of the consolidated group and the taxable results of the subsidiaries. Financial reporting standards require companies to account for the difference between accounting book values and tax book values by charging or crediting a notional tax item called ‘deferred tax’. In addition, companies must explain why the total tax charge (current tax plus deferred tax) as a percentage of reported pre-tax profits differs from the statutory tax rate(s) faced by the company. These disclosures aren’t always done well and they’re not well understood even when they are. But they are part and parcel of the reporting requirements of multinational companies.
CCCTB would change this. Instead of calculating the tax base from the local accounting numbers, adjusted for tax reasons, the tax base will be a portion of the European tax base, according to some formula. The current proposal is that the formula will be based upon external revenues, assets, employee numbers and employee salaries.Clearly, the formula will produce different results than the current approach. It’s supposed to, after all. What’s less clear is whether the formula can reflect public perceptions of (a) what the ‘true’ economic performance in each country is, and (b) what is fair.
As Andrew Jackson has shown, there are concerns about how the proposed CCCTB formula will operate. Using external revenues may discriminate against shared service divisions. Using assets may discriminate against countries with older subsidiaries with fully depreciated assets. Using employee numbers may discriminate against countries with contracted labour. Using employee salaries may discriminate against countries with low unit labour costs. Unless these factors can be finessed by tweaking the formula, it’s unlikely CCCTB can hope to address the lack of public confidence in the tax system. However, the complexity of the formula is in itself likely to undermine public confidence in the tax system.
These issues are a direct consequence of the design of CCCTB. They cannot simply be magicked away by a clever formula. The greater the number of links in the chain between local performance and local taxation, the greater the opportunity for public angst about tax.
As an aside, be very sceptical of anyone arguing in favour of unitary taxation who doesn’t tell you which formula they intend to use. They are not solving the problem of multinational company tax; they are merely redefining the problem in terms of another problem. And this latter problem is - I argue - insoluble.
It is my belief that each of these problems would be enough to sink CCCTB. Taken together, it’s not difficult to see why CCCTB faced significant opposition during its earlier development.
None of these problems has been addressed. CCCTB has been brought back to life, but the problems which killed it off still course through its veins. They will, once more, kill it off.