Bloomberg Tax
Oct. 22, 2019, 7:00 AM

INSIGHT: OECD Blueprint to Shake Up the International Tax Rules

Ross  Robertson
Ross Robertson
BDO United Kingdom
Arjun  Bhatia
Arjun Bhatia
BDO United Kingdom

Many argue that advancements in technology mean the current international tax framework is no longer fit for purpose. The issue, it is said, is that the current framework is predominantly built upon the premise of “taxation by physical presence.” However, a business can now sell its products or services internationally with no or limited presence in a country, often via digital means. The tax system today does not enable the consumer jurisdiction to tax much of the profits derived through remote activities, and that creates tension.

Following years of debate, on October 9, 2019, the Organisation for Economic Co-operation and Development (OECD) Secretariat published its blueprint for a proposed new “unified approach” to address the perceived weaknesses in the current framework.

The proposals of the unified approach stem from the work undertaken under the Programme of Work to Develop a Consensus Solution to the Tax Challenges Arising from the Digitalisation of the Economy (in particular, the Pillar One proposals). They are a key part of the OECD’s ongoing work on addressing the tax challenges of the digital economy.

As transactions are increasingly executed digitally/remotely, the OECD Work Programme has the potential to drive the most significant change to the international tax system in the 100 years since its first inception, so the proposals warrant a closer look.

Unified Approach—General Concept

The OECD’s proposal is designed to grant new taxing rights to market jurisdictions.

The unified approach seeks to pull together the common features of the three proposals previously advanced under Pillar One, being the “user participation,” “marketing intangibles” and “significant economic presence” proposals.

Broadly, the unified approach seeks to achieve the following for in scope businesses:

  • introduce a new nexus rule irrespective of a business’s physical presence in the market or user jurisdiction;
  • go beyond the arm’s length principle to allow greater taxing rights to market jurisdictions through a formulaic allocation of certain residual profits;
  • keep the rules simple to apply, reducing the administrative burden for businesses and tax authorities and ensuring robust dispute prevention and resolution mechanisms.

While the proposal for a “unified approach” does not yet represent a consensus view, it is intended to facilitate further discussions towards achieving consensus in early 2020. There is acknowledgment that further work is required to finalize a number of the finer details prior to implementation.

Defining the Scope

For the first time, the OECD suggests a limit in the rules to “consumer-facing” businesses. Further work is needed, including:

  • setting out how “consumer-facing” business will be defined;
  • how to deal with the supply of goods and services through intermediaries;
  • how to deal with the supply of component products; and
  • how the use of franchise arrangements will be treated.

There is a suggestion that some sectors (for example, extractive industries and commodities) would be explicitly outside the scope of the rules. The OECD states that discussion should also take place to consider whether other sectors (e.g. financial services) should be excluded.

The potential restriction of scope is interesting as the OECD has previously stated it is not possible to ring-fence the digital economy. The design concept seems to be based around a premise that the issue with the current framework relates to under-taxation of marketing intangibles for remote sellers and, therefore, the new rules should be targeted at businesses which have significant marketing intangibles or are more likely to engage in remote selling activities.

Of course, the issue with any definition of scope is that it creates boundary issues; both for those businesses that may sit on the boundary of being in scope today as well as the as yet unknown business models that may emerge in the coming years.

The proposal also notes need to consider a size-based exclusion. What any sized-based thresholds would be is subject to further discussion, though there is suggestion that using the existing threshold of 750 million euros ($834 million) global turnover (currently used for the transfer pricing Country-by-Country Reporting (CbCR) rules) may be appropriate. However, there is already mounting pressure that this CbCR threshold may be too high, which will likely translate to this debate.

Any size-based limitation will, ultimately, be arbitrary. Whether such limitation is appropriate is likely to be a function of how complex the final solution is, and the ability of businesses with potentially limited resources to comply with the new framework. A complex system that burdens small and medium-sized businesses is likely not in the best interests of the global economy. Equally, one could argue that the OECD should ensure that any proposed solution balances accuracy with ease of administration so that it does not create complex practical issues for businesses regardless of size.

A New Nexus Rule

The new nexus rules seeks to bridge the gap between the current international tax rules (based around physical presence/permanent establishment concepts) and the highly digitized business models that enable businesses to sell remotely without creating a taxable presence in the market jurisdiction (under current rules).

The new nexus would ensure that businesses that have a sustained and significant involvement in a market jurisdiction (i.e. through sales) are taxable there, even if a business does not create a physical taxable presence in that jurisdiction.

For nexus to arise, the proposals suggest some form of a revenue threshold for sales in the territory, adjusted to take into account the size of the market jurisdiction. Further work will be undertaken to define what revenues are to be taken into account for a threshold test.

It is intended that the new nexus rule would be a standalone tax treaty provision, operating in addition to the existing permanent establishment article. Details of how this rule will be drafted and included in the treaties is not yet known but it is assumed that a multilateral instrument would be required to ensure simultaneous adoption for all participating countries.

New and Revised Profit Allocation Rules

Once the right to tax is confirmed in a market jurisdiction under the new nexus rules, the next question is how much profit should be taxed in that jurisdiction.

To be effective, the new profit allocation rules would need to go beyond the arm’s length principle and beyond the limitations on taxing rights determined by reference to a physical presence, two principles generally accepted as cornerstones of the current international tax rules.

The new rules, taken together with existing transfer pricing rules, will need to deliver a fair share of tax to market jurisdictions and do so in a way that avoids double taxation and improves tax certainty.

Three-tiered Mechanism for Profit Allocation under the Unified Approach

Building on prior proposals the OECD has suggested a composite profit allocation solution.

Amount A

This represents a formulaic allocation of part of the deemed residual profit of a multinational enterprise to the territories in which the new taxable nexus exists. The deemed residual profit is the excess of what remains after allocating a deemed routine profit on activities to the countries where the activities are performed.

The starting point for determining the profit share of each market jurisdiction is expected to be group consolidated accounts prepared in accordance with Generally Accepted Accounting Principles (GAAP) or International Financial Reporting Standards (IFRS).

The proposal explicitly states that the new profit allocation rules would apply to both profit and losses—and indicates that specific rules may need to be considered for the treatment of losses (e.g. claw-back or earn-out mechanism).

Amount B

The rules will define baseline sales and marketing activities to which a fixed return can be ascribed by reference to current nexus concepts (i.e. permanent establishment and tax residence). The quantum of the fixed return could be determined in a variety of ways: it could be (1) a single fixed percentage; (2) a fixed percentage that varied by industry and/or region; or (3) some other agreed method.

Amount C

This would apply where the business activities in a country are deemed greater than “routine” and those that have already been compensated by Amount B. The market jurisdiction could seek to assert additional taxing rights (over and above the fixed percentage in Amount B) on these additional sums based on traditional transfer pricing rules.

The proposals identify the risk that profits could potentially be double counted (i.e. under Amount A and again under Amount C) depending on the business’s functional profile. Further work is required to define the interaction between Amounts A and C, complemented by a binding and effective dispute prevention and resolution mechanism.


There are a number of noteworthy features of the OECD proposals:

  • Ambitious: the unified approach re-writes a number of well-established principles of international taxation, and is exerting pressure on sovereign states to work at swift speed to achieve political consensus.
  • Winners and losers: this is a zero sum game—any reallocation of profits of global enterprises will result in winners and losers. It is anticipated that countries whose economies are built on being business hubs (typical HQ locations such as Ireland) are likely to see their tax bases eroded once the new rules are agreed and implemented. On the other hand, those economies with a larger consumer base (such as India) are likely to see a windfall under the proposed new rules. Economies that are net exporters are more likely to lose out under the new rules and those that are net importers are more likely to increase their tax collections, all things remaining equal.
  • Not the end of the arm’s length principle: the proposals do not dispense with the arm’s length principle. Rather they go beyond it in certain respects with a larger pool of global profit being attributed to the market jurisdiction in a potentially more formulaic manner. However, some will fear this could be the beginning of a slippery slope towards the end of the arm’s length principle.
  • New v. old: Amount A applies to cases where there is a “new taxing right” whereas Amounts B and C would only apply to cases where there is already an established presence in the market jurisdiction under existing international tax rules. There is, therefore, an interesting blend of established and new concepts, which will require careful coordination in practice.
  • Scope definition: The proposed rules go beyond digital businesses and digital business models. However, the restriction of scope by reference to business type and business size both have the potential to be contentious as it could create a two-tier tax system and lead to accusations of a lack of a level playing field. While some will welcome a scope restriction from an administrative perspective, the tighter the restriction the shorter the shelf-life of the new rules is likely to be, given the continuing evolution in the global economy. A careful balance will have to be found and there is likely to be substantial lobbying from various sectors.
  • No consensus yet: The proposals do not represent a consensus view. Key elements require further work at both policy level and detail level (e.g. defining “consumer facing,” “routine returns,” the thresholds and the minimum standard for effective “dispute resolution”).
  • Timing is key: Rapid progress is key to prevent the proliferation of unilateral measures already being adopted to tax digital businesses in a number of countries. There is a lot of ground still to be covered to achieve consensus in line with the OECD’s timeline, but there is strong political will to find a solution and the OECD is well resourced.
  • Enforceability and collection: Where tax liabilities (under Amount A) get assigned to entities that are not tax resident in the market jurisdiction, further work would need to be undertaken to agree enforcement and collection of the taxes due. A simple and straightforward withholding tax mechanism could be a potential solution. However, withholding taxes are themselves far from perfect and many would hope for a simplification, not expansion, of the current withholding tax web.
  • Disputes: There is an increased likelihood for disputes unless there is specific, standard and implementable guidance prescribed by OECD that is agreed between interested parties and ultimately adhered to.
  • Next steps: The OECD has invited comments from the public by November 12, 2019 in advance of the public consultation meeting in Paris to be held on November 21 and 22, 2019.

Planning Points

Businesses are encouraged to closely monitor progress of the discussions and factor the anticipated changes into their future business operating models. Businesses should critically review their tax and transfer pricing policies to assess the impact of the new proposals, and feed identified challenges into the public consultation process.

Of particular importance are the scope discussions—both in terms of out-of-scope sectors and any size thresholds.

Those businesses likely to fall under these rules should consider updating their systems to allow them to track and collect the information necessary to comply properly with new rules.

In the meantime, unilateral digital tax measures continue to be implemented on a global scale—businesses will need to continue to monitor local developments to ensure they maintain compliant and reflect the impact of local law change in their international strategy.

Ross Robertson is an International Tax Partner and Arjun Bhatia is an International Tax Director at BDO LLP.

They may be contacted at and

This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.