BEPS: the shifting international tax landscape and what companies should be doing now.

• Author: Plowgian, Michael
• Position: Base erosion and profit shifting

Over the past two years, international tax issues have garnered unprecedented attention in the mainstream media, with particular focus on the issue of base erosion and profit shifting ("BEPS"). Politically, the increased focus on international tax issues has been even more striking. The September 2013 G20 Leaders' Declaration, which is agreed to by the U.S. President and the heads of government of the next 18 biggest national economies plus the EU, contained three paragraphs on international taxation. (3) Given all the other issues facing the global economy, such a focus on international tax is truly remarkable. The Public Accounts Committee of the UK Parliament has held numerous hearings over the past year on the issue of multinational corporations avoiding tax on cross-border income. (4) Countries such as Australia, France, Ireland, and Mexico have enacted or proposed legislative reforms to prevent BEPS, and the Organisation for Economic Co-operation and Development ("OECD"), together with the G20 countries, is in the midst of a project to undertake the most ambitious update to the international tax standards in decades.

International tax practitioners, who up until now have practiced their craft in relative peace, are wondering--why and how did this happen?

1. National-Level Economic and Political Developments

   Economic Slowdown and Fiscal Crises. The increased focus on and changes to the international tax landscape stem from a confluence of developments at the national and international levels, with the most important drivers having their roots in the global financial crisis of 2008-2009. The global financial crisis and the ensuing global economic slowdown have put tremendous pressure on the fiscal situations of governments around the world, with gross government debt of OECD countries as a percentage of GDP soaring from 74 percent in 2007 to 112 percent in 2013. (5)

   In response, governments have been forced to raise taxes and cut services to the middle class and poor. From 2006 to 2012, 26 of 34 OECD countries raised consumption tax rates and/or the top personal income tax rates. (6) These are the taxes that impact voters the most, and these tax increases have obviously been very unpopular and increased the pressure and focus on the tax system more generally.

   Increased Media Coverage of Tax Matters. At the same time as these increases in the tax burden on individuals, there was an increase in focus by the media and non-governmental organizations on tax matters more generally, which fed a growing perception that corporations and some wealthy individuals were not playing by the same rules. First, there were the stories about offshore tax evasion, (7) which led to popular outcry and the enactment in the United States of the tax reporting and withholding provisions commonly known as FATCA. (8) Similar scandals in other countries led the G20 Leaders to declare the era of bank secrecy to be over, threatening sanctions against countries that failed to adhere to the international standard for exchange of tax information. (9)

   Subsequently, the media in many countries began to focus on tax planning techniques and structures used by corporations to avoid paying tax on income from their cross-border investments. While tax evasion and corporate tax planning are very different issues that require different policy responses, they are politically linked because they both feed on and reinforce the perception that not everyone is playing by the same rules--specifically, that some individuals circumvent the rules to avoid paying their "fair share" of tax, while multinational corporations are able to use the existing rules to achieve very low tax rates that are not available to individuals or domestically focused businesses. (10)

   The issue of corporate tax avoidance has been more politically explosive outside the United States, particularly in the United Kingdom. The issue has recently gained traction in the United States, however, with the Senate Permanent Subcommittee on Investigations holding hearings on several U.S. corporations' tax planning strategies, (11) and domestic businesses increasingly lobbying for tax reform that lowers the rate for all U.S. corporations by "closing offshore tax loopholes" that incentivize shifting profits overseas. (12) Thankfully, many in Congress recognize that BEPS is "the consequence of bad laws, not bad companies." (13) Unlike in many other countries, the issue has not been one of morality, or "naming and shaming," but has added urgency to engage in business tax reform in the United States.

   In response, a growing number of countries have proposed or enacted legislative changes to address the issue of BEPS. Moreover, businesses are finding an increasingly difficult enforcement environment. Tax authorities are taking a closer look at tax planning structures and transfer pricing arrangements, and are often taking increasingly aggressive positions, leading to potential double taxation of cross-border income.

2. International Cooperation

   The Role of the OECD. Driven by these developments at the national level, the OECD and G20 have taken an increasingly active role in addressing BEPS, culminating in the establishment of the OECD/G20 BEPS Project. In the short term, this seems to have increased taxpayers' concerns over the uncertain international tax landscape, because the OECD/G20 BEPS Project may lead to modifications to the long-standing international tax standards established by the OECD. In the longer term, however, international cooperation through the OECD/G20 BEPS Project provides the best hope of ensuring the survival of the international standards (even if in modified form) to prevent double taxation of cross-border income and to provide the certainty businesses need to invest. This proposition is not intuitive to many, and requires further explanation of the role of the OECD and the G20 in establishing and maintaining international tax standards.

   The OECD grew out of efforts after World War II to rebuild Europe by promoting economic and policy cooperation among the developed Western countries. (14) A key goal of the OECD has been to promote cross-border investment by reducing barriers, including tax barriers. Thus, the core work of the OECD in tax policy has been and continues to be to reduce tax barriers to cross-border investment, and specifically by preventing double taxation of cross-border income.

   The key instruments in the effort to prevent double taxation are the OECD Model Income Tax Convention and the OECD Transfer Pricing Guidelines. These instruments have been developed over decades, and in general have been subject to incremental evolution, due to the consensus-driven process of the OECD. That is, the OECD can only adopt an instrument or recommendation on the basis of the consensus of its member countries; if any member country objects, no action is taken. This process point should be kept in mind, because it will be significant in determining what can be accomplished in the context of the OECD/G20 BEPS Project.

   The tax work of the OECD has not been solely about preventing double taxation, however; the OECD provides a forum for tax policy makers from member countries to discuss the broader policy issues they face and to try to find common solutions. In an attempt to prevent a "race to the bottom" with respect to the taxation of mobile sources of income, in 1998 the OECD published a report on harmful tax practices, (15) and subsequent work has led to the modification or elimination of member country regimes identified as harmful. The OECD has also done significant work addressing the transfer pricing...