This is a challenging time for tax administrations, as well, of course, as the taxpayers whom they serve and from whom they collect. On the one hand, there is the need to provide support, through the tax system, to boost a struggling economy; on the other, the imperative to find additional sources of funding to support such measures along with (in many cases) a whole host of other governmental aid.
Fiscal measures—at both the individual and business level—can play a significant role in easing the financial pressure on taxpayers in situations such as the present Covid-19 crisis.
There are multiple sources of pressure on government finances, both in terms of cash flow (arising from extending deadlines to pay tax that has fallen due) and in terms of absolute costs, such as where new measures involve permanently forgoing tax that would otherwise have been payable.
This is not to mention other new forms of expenditure being incurred by governments, for example the cost of building new healthcare facilities to accommodate the anticipated influx of Covid-19 patients.
And all this in the context of steeply dropping tax receipts in the light of significantly reduced economic output (close to zero in those sectors hardest hit by lockdowns).
This article will look at some of the measures being taken by tax authorities to ease the tax burden on taxpayers during the crisis, and will then consider the particular significance of the U.K.’s new digital services tax in this context.
Easing the Burden
There may be said to be two main types of fiscal incentive available to governments when aiming to provide immediate financial relief to taxpayers.
Most obvious is the relatively straightforward approach of adjusting existing tax provisions, normally intended to last only for the duration of the crisis at hand—such as extending deadlines for the payment of taxes, or granting temporary exemptions from tax.
The Organization for Economic Co-operation and Development (OECD) has made a number of recommendations in this regard, such as increasing the flexibility of use of tax losses by means of more generous carry-back provisions and/or one-off cash payments equating to the value of a loss.
Then there may be steps that constitute more than mere temporary adjustments to the tax code, which are either longer lasting or indeed structural. An example of this would be the digital services taxes being introduced in jurisdictions such as the U.K.
Approach of U.K. and U.S.
The following is a brief overview of some of the key measures being implemented in the U.S. and the U.K. to ease pressure on taxpayers.
So far as the U.K. is concerned, the government has announced the following:
- it will bear 80% of the cost of salaries paid to furloughed employees, up to a maximum of 2,500 pounds ($3,070) per month, initially for a three-month period. Similar measures have been announced for the benefit of the self-employed;
- the ability for businesses to defer payments of value-added tax, and for individuals to postpone payments of income tax;
- measures which facilitate the grant of loan funding to businesses, by means of offering loan guarantees to smaller companies and the purchase of short-term debt instruments from larger businesses; and
- the introduction of a full exemption for one year from “business rates”—a form of property taxation—which will be available to the retail, hospitality and leisure sectors. This is not a deferral of taxation but rather a complete exemption for the 2020–2021 tax year.
Some of the main features of the fiscal support measures in the U.S. are:
- an employee retention tax credit equal to up to 50% of up to $10,000 in qualified wages per employee during the Covid-19 crisis paid by eligible employers (broadly those whose operations are either wholly or partially suspended, or who suffer a 50% or greater drop in revenue in comparison with the same quarter in 2019);
- more generous rules around the use of net operating losses (NOL): whereas recent changes (as a result of the 2017 Tax Cuts and Jobs Act) meant that net operating losses became subject to an 80% taxable income limitation, and could not be carried back to reduce prior year income, this provision allows an NOL generated in 2018, 2019, or 2020 to be carried back to the preceding five tax years. It also temporarily removes the taxable income limitation to allow an NOL to offset income in full;
- more generous limitation on interest deductions—businesses will be able to deduct an increased amount of interest expense from their taxable income for 2019 and 2020 (the limit will be increased from 30% to 50%); and
- deferral of the payment of the employer share of Federal Social Security tax in respect of wages paid up to December 31, 2020 (with the deferred tax being paid in two equal installments over the following two years).
U.K.’s Digital Services Tax—an Unexpected Gift
How to offset the cost of measures such as these? Wholly new sources of tax revenue might be thought of as unrealistic in the current climate.
But not all business sectors are struggling: witness the increased use of social networking sites in the era of social distancing; the demand for online marketplaces when movement is restricted; and the generally increased amount of screen time engaged in by vast numbers of people spending more time at home than ever before—with the inevitable increase in use of internet search engines and exposure to online advertising.
Enter the U.K.’s new Digital Services Tax (DST).
The DST is a 2% tax on the revenues of providers of social media platforms, search engines and online marketplaces to the extent those revenues are attributable to U.K. users. The DST applies only where global digital services revenues exceed 500 million pounds, and U.K. digital services revenues (being the proportion attributable to U.K. users) exceed 25 million pounds.
Devised long before Covid-19, the new tax will thus target sectors whose revenues can be expected to remain robust.
What is more, it was previously anticipated that “local” digital taxes such as this would be relatively short-lived—on the basis they would fall by the wayside once international consensus was reached, under the auspices of the OECD, as regards a global solution to taxation of digital services.
Now, however, the prospect of a global consensus being reached in the short term is surely significantly reduced, notwithstanding the OECD’s insistence that the December 31, 2020 deadline remains intact, as the attention of tax administrations worldwide is diverted to dealing with the economic consequences of the COVID-19 pandemic.
Indeed some industry bodies, including the U.S. Council for International Business and the Federation of German Industries, are calling for a temporary halt to OECD discussions in view of the pandemic.
It is in this context that the coming into force of the U.K. DST on April 1, 2020 is particularly interesting.
There had been speculation that the DST would not be introduced at all, in view of the opposition to such jurisdiction-specific digital taxes that has been voiced by the U.S. (which, because of their nature, regards them as unfairly targeting U.S. businesses), and because the OECD has urged governments to focus on agreeing a global solution.
Instead, in the midst of the Covid-19 crisis, and wholly unexpectedly, the DST provides the U.K. government with a welcome source of revenue.
The DST has been at the design stage for many months, and it is fortuitous from the U.K. government’s perspective that is now ready for implementation. Indeed, the timing could not have been better. Current government estimates are of a 280 million-pound boost to tax revenue in 2020–2021, rising steadily in subsequent years.
France may be wishing it had not agreed to postpone collection of revenue from its new digital services tax until the end of 2020.
Further, it seems reasonable to assume that public support for the DST at the present time will be (and will remain) high, since its focus is precisely those businesses which, unlike many others, continue to prosper in the Covid-19 crisis.
The Post-Crisis Fiscal Landscape: Some Thoughts
It will be interesting to observe public sentiment post-crisis, as businesses which have benefited from fiscal incentives during the crisis return to profitability. Will some sort of quid pro quo be expected from these businesses, in terms of increased tax contributions, greater adherence to the spirit of tax law and/or a heightened level of tax compliance generally?
And what may the longer term impact on tax policy be?
It is instructive in this context to consider the comments made by the U.K. Chancellor of the Exchequer on March 26, 2020, upon announcing financial support for the self-employed, intended to mirror that being granted in respect of furloughed employees:
“It is now much harder to justify the inconsistent contributions between people of different employment statuses. If we all want to benefit equally from state support, we must all pay in equally in future.”
This was a thinly veiled reference to the fact that the self-employed in the U.K. currently pay social security contributions at a lower rate than employees. The intention behind the words was clear: if the self-employed wish to benefit from support equivalent to that being offered to employees, then they will have to accept being treated like employees in terms of tax contributions, too.
The bigger question is whether this principle may be extended further, and could encourage governments more generally, once the crisis is over, to “turn the tables” on businesses and individuals that have benefited from the sort of fiscal stimuli discussed above and demand greater tax contributions from them than in the pre-crisis period.
For now, however, the priority is to provide fiscal support to ensure economies survive the crisis intact.
The extent to which governments will insist on recouping some of the huge costs they are currently agreeing to bear will be a (very interesting) next stage.
David Klass is a Partner with Hunton Andrews Kurth.
The author may be contacted at: email@example.com
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.