Tax campaigners need to do their homework
‘Tax avoidance’ has been hitting the headlines for over two years now. This week the chair of the Public Accounts Committee called the practices of some major multinationals an ‘insult’. UK Uncut and the Greens have been yelling from the side lines about the injustice of it all, and, yet, still, there is confusion over what it is these companies are actually doing. Still campaigners band about figures without any real understanding of where they’ve come from. Still nobody seems to have approached putting together a coherent alternative to the current tax code. In this article I don’t aim to do that. However, I do hope to go a little bit beyond the normally facile reporting on the matter. I don’t claim to understand it all, but I’ll give an explanation a shot.
The central problem here is how to divide the global profits of multinationals between different jurisdictions for tax purposes. In other words how to judge business activity. Apple is an example of this problem. Someone in silicon valley comes up with an idea , designs a computer, whose different components are then made in China, while the final product might be put together in Germany, and sold in Canada, with adverts designed in London. Where does that profit come from?
The system designed to solve this problem is called ‘transfer pricing’. It’s a tad complicated, but basically, profits are distributed as if each national component of a multination were a separate company. So, with our Apple example, some accountant has to work out how much Canadian apple would have had to pay for that computer, or that advertising, or even the management provided by Apple’s head-office.
‘Transfer pricing’ provides quite a lot of room for creative tax planning. UK Starbucks, for example, is able to reduce their tax bill in the UK by basing some of their intellectual property in the Netherlands. For tax purposes, then, UK Starbucks has to ‘pay’ for the right to use the Starbuck’s logo.
Clearly, common sense would dictate that Starbucks, the green leviathan, should pay some tax in this country. If they’re telling their shareholders they’re making a load of money in the UK, but telling HMRC something different, something is wrong.
Furthermore, this system encourages countries to compete in making their tax systems most attractive to multinationals. The aim being to encourage companies to base their intellectual property, or headquarters in that country, so as to provide a boost in revenue. This has resulted in a ‘race to the bottom’ in corporate tax rates.
But, what is the alternative? If we move to a system where profits are judged on number of units sold, for example, then a coffee-producing country in the third world is potentially deprived of revenue. Equally, if we exclude intellectual property—an area that provides room for abuse—from discussions over where profit is generated, would the result be fair? For example, is it not right to say that quite a lot of Apple’s profit can be attributed to their innovative band of engineers and designers in the United State of America?
But finding an alternative is not the only problem. Any new system would have to be implemented on a global scale, with global agreement, to avoid ‘double taxing’ profits. The UK cannot just go out on a whim and decide to start taxing companies in a wildly different way.
Furthermore, we have to remember transfer pricing works both ways, and one suspects people in the treasury are conscious of this. Yes it’s true we lose out when Starbucks or Google pay little tax, but then we benefit when companies like HSBC headquarter their operations in London and pay more tax here than they might otherwise have done.
Nonetheless something has to be done. Part of the solution is moving towards a European-wide corporate tax rate. If the rate of corporate tax were to be the same in Luxembourg or Ireland as it is in Britain, this would reduce the incentive for companies like Amazon to base themselves in these tax heavens.
But that’s not going to solve the major problem. What’s the answer? I have no idea. I do know, however, that we’re not going to come up with an answer if the debate continues to be characterised by intellectual lethargy, statistical muddling, and confusion. Needless to say Jackie Ashley’s recent piece in the Guardian, ‘Firms must pay their fair share of tax—this is war’, failed to mention transfer pricing once. If this is a ‘war’, it’s one the left looks set to lose, unless, that is, it can go beyond sweeping condemnations of ‘different jurisdictions and complex accounting rules’, whatever that means. So, campaigners, including politicians from the Green or Labour parties, have a responsibility not only to make noise, but also do their homework.