On 21 March 2018, the European Commission proposed new rules to ensure that digital business activities are taxed in a fair and growth-friendly way in the EU.
While digital businesses have evolved rapidly in the recent past, the current tax rules do not fully fit the modern, increasingly digital economy, resulting often in a misalignment between the place where the profits are taxed and the place where value is created. In order to address the tax challenges from the digital economy the EU Commission presented its so-called “Digital Tax Package”, which mainly consists of two draft Directives and one Recommendation to the EU Member States. This package supports the Commission’s key priority of completing the Digital Single Market, which also takes into account the global dimension: the OECD has committed to bring forward a report on the next steps internationally by 2020.
Legislative proposals in a nutshell
Draft Directive on the corporate taxation of a significant digital presence:
- To reform corporate tax rules so that profits are allocated and taxed where businesses have significant interaction with users through digital channels (assumption of a taxable digital presence or a virtual permanent establishment);
- This is the EU Commission’s preferred long-term solution.
With respect to non-EU countries, not captured by this Directive, the EU Commission issued a Recommendation to the Member States for adaption of such rule via the double tax treaty (see also below).
Draft Directive on Digital Services Tax (DST):
- To introduce a DST of 3% on certain revenues from digital activities;
- The introduction of a DST is considered as an interim solution until the above long term solution is in place.
As a next step, both legislative proposals will be submitted to the European Council for adoption and to the European Parliament for consultation. If adopted by unanimous vote, the expected effective date would be 1 January 2020.
Legislative proposals in detail
Draft Directive on the corporate taxation of a significant digital presence (long-term, comprehensive solution)
A digital platform shall constitute a significant taxable digital presence in an EU Member State if it fulfils one or more of the following criteria:
- Total annual revenues from digital services to users in that Member State in a taxable year exceed a threshold of EUR 7 million, and/or
- Users of digital services in that Member State in a taxable year exceed 100’000, and/or
- Business contracts for digital services in that Member State in a taxable year exceed 3’000.
The new rules would also change how profits are allocated to Member States in a way which better reflects how companies can create value online: for example, depending on where the user is based at the time of consumption or where the value is generated through user participation.
Such directive would apply to all companies that are resident in an EU member state. It would also apply to companies in non-EU member states rendering digital business to EU based users and customers unless there is a double tax treaty in place which does not provide for similar rules on significant digital presence and profits attribution (this is for the time being the case, since currently existing double tax treaties do typically not allow for such digital taxation). Hence the below recommendation to the EU member states to re-negotiate double tax treaties to include such digital business taxation rules.
Draft Directive on Digital Services Tax (short term, interim solution)
Unlike the common EU reform of the underlying tax rules, the interim DST would apply to revenues created from certain digital activities which under the current tax rules would not be taxed in the countries where the value is generated. This DST would only remain in force as an interim measure, until the comprehensive solution is in place. However, it would apply to any company rendering digital services in the EU irrespective whether an EU member state based company or not and irrespective of existing double tax treaties.
The tax would apply to revenues created from activities where users play a major role in value creation and which are the hardest to capture with current tax rules, such as those revenues:
- created from selling online advertising space;
- created from digital intermediary activities which allow users to interact with other users and which can facilitate the sale of goods and services between them;
- created from the sale of data generated from user-provided information.
The DST would only apply to companies with total annual worldwide revenues of EUR 750 million and taxable revenues of EUR 50 million in the EU. This would help to ensure that smaller start-ups and scale-up businesses remain unburdened.
Recommendation relating to the corporate taxation of a significant digital presence
In connection with the long term Draft Directive on the corporate taxation of a significant digital presence, the EU Commission also issued an accompanying Recommendation to the EU Member States for cases where the proposed Directive would not apply, i.e. when Member States have tax treaties in place with non-EU countries (which would also be the case for Switzerland).
In particular the EU Commission recommends to Member States to amend their tax treaties with non-EU countries by a) changing the definition of permanent establishment to take into account significant digital presence and b) including rules for respective profit attribution.
For further details regarding the EU Digital Tax Package please refer to the detailed newsletter of the PwC Network EUDTG.
Implications of proposed rules for Switzerland
Although the above legislative proposals are EU Directives, the directives still impact companies operating out of Switzerland or other non-EU states, if finally adopted.
Draft directive on Digital Services Tax:
The DST would affect Swiss groups performing digital services in the EU as the tax becomes due if the user / customer is in the EU, provided they meet the thresholds mentioned above.
Draft directive on the corporate taxation of a significant digital presence:
These rules shall not apply if an entity is resident for tax purposes in a non-EU jurisdiction (e.g. Switzerland) that has a double tax convention (DTC) in force with the relevant Member State, and if the DTC does not provide for a taxable digital presence (which is currently the case for all Swiss DTCs). Hence, groups operating out of Switzerland are expected to be affected by this potential measure only in the longer term, i.e. when DTCs are renegotiated (as proposed in the EU Commission’s Recommendation) to include the taxable digital presence, subject also to any further OECD developments.
For further details on the progress of the OECD work in this respect as well as for a summarised overview of the different approaches between the OECD and the EU, please find here OECD’s Interim Report 2018 respectively our PwC Tax Policy Bulletin.
Overall, the attractiveness of Switzerland as a location for digital businesses is not negatively impacted compared to the EU as a result of these directive proposals.
Related VAT Aspects
Even if the digital taxation proposals implicate significant changes in the corporate tax landscape, from an indirect tax (VAT) point of view the taxation of turnovers for digitally provided services at the place of the consumer (B2C) is already in force in the EU since 2015. However, the question remains whether the digital presence will also affect the definition of fixed establishments for VAT purposes and such change would have a major impact on how digitally provided services would be taxed in a B2B context.
Current position of Switzerland regarding taxation of digital economy
The State Secretariat for International Finance (SIF) recently has performed an analysis regarding the taxation of the digitalised economy and is generally committed to tax rules that allow for and promote fair competition. However, there have not been any concrete measures yet. In any case Switzerland holds the opinion that measures outside the scope of DTCs are to be avoided and interim measures (e.g. DST) should be limited in scope and time. Read SIF’s position on taxing the digitalised economy here.
Call for action
At this stage it is not clear yet whether respectively how the proposed directives will be adopted by the EU (formal adoption still pending and subject to unanimity among the EU Member States). Further, also the developments on the OECD BEPS project should be taken into consideration and monitored.
Nevertheless, it is recommendable for groups operating out of Switzerland to:
- identify the digital services rendered in each of the EU Member States;
- start performing impact assessments of (i) the DST and (ii) a taxable digital presence in the EU Member States, and
- continue monitoring the EU legislative process and potential unilateral country measures (such as the unilateral measures in Italy, introducing a new tax on digital transactions effective January 1, 2019).
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Anna-Maria Widrig Giallouraki
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