Michael Devereux


Oxford University Centre for Business Taxation




Corporate Taxation

By Michael Devereux

The Digital Services “Sutton” Tax

The American bank robber Willie Sutton is best remembered for an answer (which he claimed never to have given) to the question “why do you rob banks?”. The answer was “that’s where the money is”. I’d like to suggest that proposals – from HM Treasury, the EU, and others – for a digital services tax (DST) levied on the revenues of large digital businesses should be named in Sutton’s honour. Because, whatever the claims made on behalf of the tax, the real reason for these proposals seems to be the lure of easy tax revenue from taxpayers that can afford to pay.
Actually, that may not be a bad reason for introducing such a tax. But the problem with the DST, and other proposals for taxing digital businesses, is that their proponents claim that the tax has different purposes. That matters greatly, because the tax will be crafted to meet its perceived purposes. So it seems likely that the design of any DST will reflect the obfuscation offered by its advocates as to why it should be introduced.

I believe that we are in the midst of a shifting of the tectonic plates of international taxation of profit. After nearly a century of what has been broadly the same approach, the international consensus is beginning to break down for a variety of reasons, and some governments increasingly see advantages to taxing profit on sales or users within their own jurisdiction due to their immobility. Unfortunately, few governments are willing to admit as much. So to justify their radically new plans they pretend that those plans are consistent with – or just a tweak away from – the existing system.

Let’s consider four major arguments that have been put forward for a DST to be levied on revenues arising in the country of the customer, or user, of digital services.
First, it is argued that this is just another measure to address profit shifting issues left behind after the BEPS project. If this were true, then there should be a clear rationale under existing principles as to why tax should be levied in the market country. But this is simply not the case. If the definition of a permanent establishment was intended to give rights to the market country per se, then it does a remarkably bad job.

Second, it is argued – especially by HM Treasury – that a DST is required to tax the value created by users of digital services. This argument has been set out at length by the UK and deserves its own blog. It starts by claiming that value creation is, and should be, the basis of the allocation of profit between countries. But, there are many elements of the existing system which seem to have absolutely nothing to do with any notion of value creation. Given the very broad range of things (including financial market volatility, natural disasters, etc) that can in some way or other lay claim to “creating value”, it is also unclear how taxing by reference to the place of value creation can be justified by notions of fairness and economic efficiency, let alone the traditional anchor points for the design of good tax systems, such as ability to pay or the benefit principle.

And while the notion of value creation is so vague that it could conceivably include contributions made by users of digital services, consistency would require that approach to be used in other settings. Suppose a British carpenter sourced timber from a Canadian supplier at below world prices. Would we allocate taxing rights on the carpenter’s additional profits to Canada? Not under the existing system, or any proposed system. Yet this seems a good analogy for the contribution made by users to the profits of digital companies.

Third, it is argued that there are valuable intangible assets associated with the market. For example, a marketing campaign in a country may increase demand there, or suppliers may benefit from the fact that consumers already own a version of their product – printers are sold cheaply, but the ink is expensive. Such intangible assets exist, can certainly be valuable, and are currently taxed – in principle, at least – where they are owned or created (although identifying profit due to such market intangibles separately from other intangibles is extremely hard conceptually, let alone in practice). In any case, it is hard to see how this justifies a separate tax on digital companies.

Fourth, it is argued – most recently by the Chancellor – that a tax on digital companies would equalise the tax liabilities on non-digital companies with whom they compete. Tax differences may well distort competition. But that stems from the fundamental allocation of taxing rights in the existing system. The British carpenter may compete with an Italian carpenter, both selling tables in London. If the UK and Italian taxes are different, then one may gain a competitive advantage over the other. Relative to direct digital sales, business rates also add to the costs of non-digital businesses. But it is hard to see that an arbitrary tax on digital services, in the vain hope that treatment may be “equalised”, is an adequate solution to this much more fundamental problem.
There is a good reason for taxing profit generally in the location of the consumer or user: the consumer (or user) is relatively immobile and is unlikely to move to another country to reduce the tax on businesses from whom she purchases goods and services. That means that governments can – within limits – tax the profit generated without fear of the businesses going elsewhere. It also means that businesses competing with each other in the same market face the same rate of tax. This is the basis of proposals that I have put forward with colleagues.

So reforming our current tax system to allocate taxing rights to the country with relatively immobile consumers and users has great merits. Unfortunately, if the DST is simply added to the existing system and designed around the spurious reasons given so far, then the potential benefits from moving to taxing in the location of immobile consumers and users may not be realised. Instead we are likely to develop ever more complex systems, including no end of very deep compliance rabbit holes (beginning with the definition of what is meant by “digital”). It is time to abandon the pretence and clarify, rather than obfuscate, what we are trying to achieve.

Recent relevant CBT research:
• Michael Devereux and John Vella, Implications of Digitalization for International Corporation Tax Reform, Oxford University Centre for Business Taxation Working Paper 17/07, and in Sanjeev Gupta, Michael Keen, Alpa Shah and Genevieve Verdier eds. Digital Revolutions in Public Finance, IMF.
• Alan Auerbach, Michael Devereux, Michael Keen and John Vella, “Destination-based cash flow taxation”, Oxford University Centre for Business Taxation Working Paper 17/01.
• Michael P. Devereux and John Vella, ‘Are we heading towards a corporate tax system fit for the 21st century?’ Fiscal Studies, 2014, vol 35.4, 449.
• Michael Devereux and John Vella (2018) “Taxing the digitalised economy: targeted or system-wide reform”, British Tax Review 4, 301;
• Michael Devereux and John Vella (2018) “Value creation as the fundamental principle of the international corporate tax system”, European Tax Policy Forum Policy paper

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