For some time now, mitigating tax avoidance and evasion has been the focus of tax debates at both national and international levels as well as within corporate circles. This has resulted in the inclusion of a number of anti-tax avoidance measures in most jurisdictions,, typically tailored to national requirements. Currently, anti-tax avoidance legislation is aimed to counter transactions where the tax motivation for a transaction exceeds the ordinary business motivation.
With the advancement of globalisation, far more sophisticated and specific anti-tax-avoidance measures have been introduced. These include measures that prevent activities like sophisticated funding structures providing deductions for tax in one jurisdiction and exemptions in another, income diversion structures, transfer pricing and others.
Big business has revolutionised rapidly in recent times; consequently, the tone of governments to the debate on taxes has become much more challenging. The concern that has emerged from big business in this new era is that it is no longer the ground-level operations that represent the main source of a company’s income. The digital age has superseded the industrial age, and tax concepts that previously dictated what might represent the source or residence of an entity are no longer as effective in dictating the residence or source of a company’s profits. In this new digital world, authorities are grappling with the problem of tax escaping the tax net of national boundaries.
The whole shift in economic activities is accompanied by the emergence of a new kind of trade that is “a-locational”. In other words, only the internet itself, not a physical presence, dictates a business presence in a country. This, in many instances, makes it extremely difficult to successfully attribute a taxable source or residence test to the associated income. The result is that, for income tax purposes, companies may be supplying goods in jurisdictions that under current rules have no means of taxing such profits. In this digital age there is no doubt that the risk exists that income tax can be avoided or reduced by establishing a head office that is resident in a low-tax jurisdiction or possibly even in a no-tax jurisdiction. With the significant shift in the character of economic activity due to the digital age, a major dilemma arises in attaching jurisdictional rights to income. Taxing income arising in different jurisdictions is difficult because it may be difficult to attribute it on a source basis. Moreover, a corporation cannot be effectively managed in many places, so inevitably income becomes somewhat stateless.
There has been a rise in the value and extent of intangible assets such as trademarks, patents and copyrights. In many cases, these assets can represent the single most valuable asset a corporation owns.
With the rise in the value of these assets, there is a growing prospect of locating these assets in friendly tax jurisdictions and consequent transfer pricing. The more valuable these assets become, the more troublesome it is for authorities throughout the world to retain revenue inflows when higher royalties are being paid for intangibles located offshore in low-tax, or no-tax, jurisdictions. It might, however, at this point be somewhat easier for jurisdictions to manage the matter of royalties than other passive flows, for example, interest, because it is common to associate royalty income with the business to which it relates by using controlled foreign companies rules, hence attributing the income back to the business for tax purposes.
Inevitably a state cannot function without taxes. If tax revenues keep escaping unchecked, something will have to be done, as the erosion of the tax base could ultimately lead to undermining a state’s ability to provide these essential services. This could be counteracted by changing tax laws and by increasing societal awareness recognised by the corporate fraternity.
It is no coincidence that society has joined with the government in certain jurisdictions and expressed concern where unfairly low taxes seem to be paid by companies, or corporate practices appear inequitable. The debate is moving from the courtrooms to the streets.
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