Article 18 – The Tax Challenges of the Digital Economy

Tackling BEPS in the digital economy In our 18th article in a series of articles on the tax challenges of the digital economy, we shall be providing you hereunder with a brief overview on measures that will address BEPS issues in the jurisdiction of the ultimate parent. The work on designing effective CFC rules may also […]

Written By Stephen Balzan

On April 25, 2016
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Tackling BEPS in the digital economy

In our 18th article in a series of articles on the tax challenges of the digital economy, we shall be providing you hereunder with a brief overview on measures that will address BEPS issues in the jurisdiction of the ultimate parent.

The work on designing effective CFC rules may also contribute to restore taxation in the jurisdiction of the ultimate parent company.  One source of BEPS concern is the possibility of routing income of resident companies through non-resident affiliates.  These could potentially include the use of offshore deferral structures that indefinitely defer foreign income from taxation in the residence jurisdiction.

Although a number of jurisdictions have not yet introduced CFC rules, those that do have them, do not always address BEPS in a comprehensive manner.  The report on Action 3, provides a number of recommendations which are designed to ensure that jurisdictions that choose to implement them will have effective CFC rules.

To address BEPS in the digital economy, CFC rules must effectively address the taxation of mobile income typically earned in the digital economy. Income from digital goods and services provided remotely is frequently not subject to taxation under CFC rules.  An MNE in a digital business can earn income in a CFC or low tax jurisdiction, without performing significant activities, by locating key intangibles there and by using those intangibles to sell digital goods and services without the income being taxed.  As a result no or low tax is paid in the CFC country, while also avoiding tax in the source country and the country of the ultimate residence.

To address this situation, consideration was given to a number of approaches that could target income typically earned in the digital economy, such as IP income and income earned from the remote sale of digital goods and services.  Countries can implement these approaches so that income which is typically earned by entities engaged in the digital economy will be taxed in the jurisdiction of the ultimate parent company.

For instances countries could define CFC income to include types of revenue typically generated in the digital economy such as license fees and other profits attributable to IP related assets.  This approach could potentially limit the use of offshore deferral structures popular with MNEs in the digital economy that indefinitely defer foreign income from taxation in the residence jurisdiction.

This may be combined with a substance analysis aimed at verifying whether the CFC is engaged in substantial activities in order to accurately identify and quantify shifted income.

In our next article, we shall be focusing our attention on measures that will address BEPS issues in the area of consumption taxes.

How can we help?  

For further information, please contact one of the firm’s tax partners, Stephen Balzan on [email protected] or Elaine Camilleri [email protected]. ACT can help you understand the changes to the tax rules and how these can impact your business.  

Apart from its offices in St. Julian’s Malta, ACT operates from a second office in Gozo, which is situated in the capital city of Victoria.  For an appointment in our Gozo office, please call on 00356 21378672 or send us an email on [email protected]. 

Disclaimer: This article contains general information only and is not intended to address the circumstances of any particular individual or entity. ACT, by means of this article is not rendering any accounting, business, financial, investment, legal, tax, or other professional advice or service. This article is not a substitute for such professional advice, nor should it be used as a basis for any decision or action that may affect your finances or your business. Although we endeavour to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. Before making any decisions or before taking any action that may affect your finances or your business, you should consult a qualified professional adviser. ACT shall not be responsible for any loss whatsoever sustained by any person who relies on this article.