EU’s Hassle with Taxation of the Digital Economy

March 4, 2019



Google, Amazon, Facebook, Apple (GAFA) and the other US technology giants should be paying more taxes on their profits. No other economic policy requirement is currently met with such undivided approval in Europe. The stories of how IT companies shuffle their profits until they pay taxes in the EU have rightly caused outrage. GAFA’s effective tax rate stands at 9.5% against an average of 23.2% in the traditional European business sectors, according to the figures from the European Commission. These tax evasions are the result of a much bigger problem. Over the past few years the corporate world has split: on the one hand, medium-sized, nationally operating companies that have no alternative to paying their taxes domestically; on the other hand, multinational corporations that use transnational structures to aggressively optimize taxes. The problem is not only that the multinationals contribute little to the common good. They also distort competition: firms that are not global in scale and do not employ legions of tax accountants bear the burden.


Forcing GAFA and their industry peers to pay higher taxes is one of the EU’s main agendas. As these companies usually have no permanent establishment in individual countries, revenue is often recorded in low-tax countries. Therefore, the EU Commission proposed to collect respective taxes at the place where the consumer sits. The tax should account for three percent of sales and bring almost five billion Euros across the EU. Albeit this consensus on the fundamental issue, a German-French proposal for the timeframe of a so-called digital tax could not provide unanimity at the EU Council of Finance Ministers on the 4th of December and received rather heavy criticism. In the debate at the meeting several countries - i.a. Ireland, Hungary, Luxembourg, Lithuania or the Czech Republic - called for a global solution at OECD level and an even broader scope. While the toughest resistance, on the other hand, came from Denmark, Sweden and Ireland.


According to Rasmus Corlin Christensen of the Copenhagen Business School, the center-right government in Denmark and large sections of the business community are sharing common ground: a digital tax would be detrimental to the country. Denmark is strongly export-oriented, with Maersk, the world's largest container shipping company, based in the country, and high involvement in the pharmaceutical and biotech industries. Currently, the international tax system requires companies to have a business center or a permanent establishment in a certain country in order to be taxed there. Strongly export-oriented countries such as Denmark use this system: Danish multinationals earn their profits, which they obtain by selling goods and services abroad, to a considerable extent in the home country and therefore pay taxes there. "The fear is that a digital tax will result in a long-term shift to another system," Christensen says, "taxing where goods and services are consumed." The digital tax proposal actually includes a step towards this direction: the EU Commission wants to use the levy to ensure that GAFA and others are taxable in countries where they do not have a physical presence. If other jurisdictions follow this example, and generally tax where consumers are seated, Denmark's exporters would face increased charges outside the country, says Christensen.


In Sweden, business associations are making similar arguments: they warn that the large IT sector in the country would be harmed by the digital tax. Pressure comes from another side: the founder of the Swedish music streaming provider Spotify, Daniel Ek, wrote in March to the Swedish Prime Minister Stefan Löfven and warned him to agree to the digital tax. Internet service providers that only give customers access to music and films from other providers would be exempted from EU’s digital tax. Spotify, with an annual turnover of more than four billion euros, would not be affected at all. But company founder Ek sees the digital tax as a first step towards higher levies on IT service providers and fears to bear the burden in the end.


Ireland serves almost all major US corporations as a control center for their worldwide operations outside the United States. The list of companies using Ireland as a hub ranges from Facebook to Airbnb to Apple. Ireland attracted these companies into the country with a low tax rate of 12.5 percent and other favorable tax regulations. In return, IT companies have made at least a small contribution to Irish tax revenue and created local jobs. By introducing a digital tax, the Irish government sees this model in danger. The Ministry of Finance estimates that Ireland would lose 80 to 120 million euros a year through the new tax, while many other countries such as Austria, France and Spain count on additional revenues. In the Irish Parliament, the rejection of the digital tax is great, with the supporters being only the small Labor Party. However, in recent months, a number of countries (i.a. Italy, United Kingdom and Austria) have announced or implemented unilateral taxation of IT services, including online advertising. If there is no agreement in the EU, more states will follow.

Again, this situation is problematic for Ireland, says James Stewart of Trinity College, Dublin, because the solo effort also undermines the Irish tax base. Therefore, until recently it was not completely precluded that Ireland would agree to a coordinated solution in the EU, provided that it can be shaped according to one's own wishes.


The debate for Germany has developed into a rather unpleasant situation. French President Emmanuel Macron, under pressure in polls, has made the introduction of the digital tax a central point of his presidency. The French have built on strong support from Germany. The joint compromise proposal could have been groundbreaking. In the German Ministry of Finance, under Olaf Scholz (SPD), the tax was perceived rather skeptical. Why? The country is currently receiving more than it spends, so there is no dependence on additional sources of revenue for the moment, says tax expert Johannes Becker from the University of Münster. In addition, Berlin (similar to Copenhagen) fears that a digital tax will introduce a systematic change in global tax law.


This division into winners and losers must be overcome. In the short term, it might be reasonable to use unilateral designs that charge GAFA and their peers in countries where they are hardly physically present and only sell advertising. But in the medium term, the tax system will be turned upside down. Ultimately, being global alone should not bring tax benefits. Currently, corporate taxes are payable where goods and services are produced. Shifting to the place where sales are generated is only one possible alternative. In the case of Google, this would be where the consumer receives the advertisement. Thus, creating new winners and losers.


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