As tax policy has come under increased scrutiny by the European public, the European Commission is concerned about diminishing corporate tax revenues in the EU member states and proposes – amongst other measures – an EU-wide corporate tax on revenue from digital activities (European Commission, 2018a). An attempt to coordinate the work on and implementation of this digital services tax (DST) recently failed because several member states voted against it.
Critical voices attribute this failure to the unanimity rule governing the EU decision-making process on tax policy. Indeed, projects like the Common Consolidated Corporate Tax Base (CCCTB) and the implementation of the DST are blocked due to the veto of single member states. To overcome this situation, a qualified majority voting is supposed to replace the unanimity rule. This means that either at least 55 percent of the member states or member states representing at least 65 percent of the EU population must approve a proposal.
The discussion about the voting system, however, distracts from substantive arguments. The intended DST is supposed to be applied to companies’ revenue stemming from digital services. This tax design raises questions of discrimination against digital business models in comparison to traditional business models. Furthermore, the focus on turnover instead of profits may threaten the economic viability of companies because tax liabilities arise even in the event of losses. This contradicts the principle in international taxation of taxing profits, and thus ultimately represents a risk for jobs and investments.
To avoid any increasing tax burden on small and medium size companies (SME), the proposal of the European Commission only addresses companies with an annual worldwide turnover of more than € 750 million and revenue in the EU of a minimum of € 50 million (European Commission, 2018a). In fact, these thresholds imply that the tax will be mainly applied to large US digital corporations like Google, Amazon, Facebook and Apple (GAFA). Therefore, the idea of the DST might provoke an analogous response by the US administration.
The main argument of the proponents of such a tax is that multinational digital companies can shift profits to tax havens more easily than traditional businesses. There is empirical evidence for this hypothesis as digital firms often lack physical establishments in a country although generating a significant share of their revenue there. While multinational enterprises (MNE) with a digital business model pay an effective tax rate of around 8 to 9 percent on average, the rate for traditional MNE amounts to 22 percent (ZEW/Universität Mannheim/PwC, 2018). However, this difference can at least partly be explained by the existence of patent boxes and depreciation rules primarily applicable to the digital industry.
Still, there is a real challenge for the tax authorities to determine where the added value was created and to tax the profits accordingly, especially when an MNE has no physical presence in a jurisdiction. Thus, a clear definition of a “significant digital presence” is necessary in order to allocate profits more appropriately (European Commission, 2018b).