A ground breaking decision by the European Commission has highlighted massive tax evasion by large multinational firms that depletes government revenue to invest in essential services such as health and education. The loss falls most heavily on disadvantaged families who get reduced access to quality health services and education opportunities for their children.
The Federal Government claims that funding the $7 billion for the last two years of the Gonski school funding plan is not sustainable given the state of the federal budget. However, tax evasion by large multinational companies is a major drain on government revenue and it needs to be stopped to provide decent health and education for disadvantaged families and children.
Last week the European Commission ordered the hi-tech multinational, Apple, to pay €13 billion (A$19.5 billion) in back taxes to the Irish Government. The EU Competition Commissioner, Margrethe Vestager, said:
The Commission’s investigation concluded that Ireland granted illegal tax benefits to Apple, which enabled it to pay substantially less tax than other businesses over many years. In fact, this selective treatment allowed Apple to pay an effective corporate tax rate of 1 per cent on its European profits in 2003 down to 0.005 per cent in 2014.
Following an in-depth state aid investigation launched in June 2014, the European Commission concluded that two tax rulings issued by Ireland to Apple have substantially and artificially lowered the tax paid by Apple in Ireland since 1991. The rulings endorsed a way to establish the taxable profits for two Irish incorporated companies of the Apple group (Apple Sales International and Apple Operations Europe), which did not correspond to economic reality: almost all sales profits recorded by the two companies were internally attributed to a “head office”. Apple channels all of its worldwide income outside of the US and China to Apple Sales International in Ireland.
The Commission’s assessment showed that these “head offices” exist only on paper and could not have generated such profits. These profits allocated to the “head offices” were not subject to tax in any country under specific provisions of the Irish tax law, which are no longer in force. As a result of the allocation method endorsed in the tax rulings, Apple only paid an effective corporate tax rate that declined from 1% in 2003 to 0.005% in 2014 on the profits of Apple Sales International.
Apple also pays little tax in Australia by shifting profits on sales in Australia to Ireland. Last year, it paid only $85 million in Australian income tax, despite making almost $8 billion in local revenue. An investigation by the Australian Financial Review found that Apple shifted an estimated $8.9 billion in untaxed profits from its Australian operations to its tax haven structure in Ireland in the last decade.
But Apple is not alone in shifting profits off-shore to reduce tax payments. A report by Oxfam in June this year estimated that nearly $20 billion was “shifted” out of Australia and into tax havens in 2014. The estimated loss to tax revenue was $5-6 billion; this is $5-6 billion that could otherwise have been spent on schools, hospitals, and other essential public services.
Apple was among the first hi-tech companies to designate overseas salespeople in higher tax countries in a manner that allowed them to sell on behalf of low-tax subsidiaries in other continents as a way of sidestepping income taxes. Apple was a pioneer of an accounting technique known as the “Double Irish with a Dutch Sandwich,” which reduces taxes by routing profits through Irish subsidiaries and the Netherlands. It is a tactic now used by hundreds of other corporations.
The European Commission’s decision has widespread implications. Other countries, including Australia, are now in a position to challenge the legal fiction whereby sales in these other countries were routed through Irish entities.
After years of favourable tax rulings for Apple and other multinationals, the Australian Tax Office (ATO) has adopted a tougher approach to profit-shifting. Last year, it removed Advanced Pricing Agreements (APAs) with the company which detailed future taxes it was expected to pay and on what terms. Apple and other hi-tech giants have used such agreements with governments all over the world for decades to legally shift profits to lower tax jurisdictions and avoid paying tax locally. l
The new Multinational Anti-Avoidance Act, which came into effect last December, seeks to counter the erosion of the Australian tax base by multinational entities using artificial or contrived arrangements to avoid the attribution of business profits to Australia. It allows the ATO to force them to pay tax in Australia on profits from economic activities undertaken here. It applies to multinationals operating in Australia with worldwide revenues of over $1 billion. The Act also introduces country-by-country reporting which requires large multinationals to report to the ATO their income and tax paid in every country in which they operate. Last month, the Tax Office issued warning letters to 175 companies that potentially fall within scope of the Act.
The Government has also announced its intention to introduce a Diverted Profits Tax from July 2017 aimed at multinationals that artificially divert profits from Australia. The DPT will impose a penalty tax rate of 40% on profits transferred to tax havens that reduce the tax paid on the profits generated in Australia by more than 20%. The DPT will apply to multinationals with global revenue of $1 billion or more. It will not apply to multinationals with Australian turnover of less than $25 million unless they are artificially booking their revenue offshore.
Australia has become a lead country in clamping down on multinational tax avoidance. But despite the tougher approach, more needs to be done in Australia and internationally. The Oxfam report detailed several inadequacies of the new reforms. A major limitation is that the country-by-country reporting is secret and available only to the ATO. The public cannot access this information. Full transparency of the tax affairs of these large companies is needed to monitor their tax evasion strategies.
Another limitation is that new legislation excludes a number of large multinationals operating in Australia because it applies only to companies whose global revenue exceeds $1 billion. In addition, the DPT is only activated if an Australian-based multinational corporation reduces its tax liability in Australia by 20%. This means that corporations can continue to divert profits up to this threshold in order to avoid the penalty. A major loophole not addressed by the Federal Government is the ability of multinational firms to load debt on Australian subsidiaries and use large deductions of interest payments on the debt to reduce profits made in Australia.
A more comprehensive international approach is also needed to stop profit-shifting by multinationals and protect the revenue base of governments so that they can raise sufficient taxes to fund essential public services. As a director of the Tax Justice Network, John Christensen, said following the decision of the European Commission:
The sheer trickery of their tax arrangements renders their claims to corporate social responsibility risible, and the economic harm caused by these arrangements is also enormous. Despite their sitting on record levels of unspent cash reserves, Apple directors and their tax advisers have been cheating taxpayers around the world of billions of tax dollars. The world urgently needs a new framework for international cooperation to block countries like Ireland and Luxembourg from engaging in tax wars which harm democracy and cause untold damage to the quality of economic development.