Business taxation may need radical change – think tank

Radical changes to business taxation may be necessary to reduce large multinationals’ ability to avoid levies, a respected economic think tank has indicated.

In the wake of the row over Google’s deal with HM Revenue and Customs, the Institute for Fiscal Studies (IFS) suggested a shake-up of the corporation tax system may be the only way to tackle problems caused by firms operating in a range of countries.

The IFS paper suggested moving to a system where a firm’s income was taxed where the final purchaser of a good or service lives, rather than the current corporation tax regime.

The current rules are not designed to tax the revenue or profits from sales in the UK, but instead target the part of a firm’s profit arising from value created in the UK – which can be hard to establish in a multinational firm.

“There is often no single ‘correct’ answer to how much profit should be taxed in the UK,” the IFS’s Helen Miller and Thomas Pope wrote.

London Mayor Boris Johnson has criticised the “quite derisory sums” paid by US tech giants in the UK, although he stressed that it was “absurd” to blame companies for not paying more tax than they had to.

The IFS researchers said: ” If the outcomes produced by the current tax rules are deemed ‘derisory’ t hen there are at least two options that are more helpful than complaining that firms are behaving badly.”

Those were improving the current rules, including through the OECD’s international Base Erosion and Profit Shifting (BEPS) project, but that will “not offer a silver bullet that ‘solves’ the problem of tax avoidance”.

The researchers accepted that modifications to the current system of taxation was the only “politically feasible” option, but put forward two proposals to fundamentally change the way corporations were taxed.

One option would be to look at the whole of a multinational’s activities then try to allocate taxing rights to individual jurisdictions it operates in, similar to how profits are allocated across individual states in the US.

The other “more radical” option would be to tax income where a sale was made, with costs deducted where they are incurred.

The researchers said: “Companies’ activities have become more global, digital and intangible. A system that allocates profits as if they were earned by separate companies will always create tensions.

“We could decide to live with those tensions as best we can, or we could go back to the drawing board and design a tax system based on how the world currently looks.

“For example, we could tax companies based on where their sales occur rather than where their profits are deemed to have arisen. We may not be ready for such radical change yet, but depending on how well the newly patched up international corporate tax system works over the next few years we may find it is worth considering whether a new set of tensions would produce a more agreeable outcome.”