Skip to main content


Taxing the digitalised economy – is 2021 the year for major global tax reform?

In recent times, no other tax policy issue has been as broadly and intensely discussed, and has so many stakeholders and variables, as the OECD’s project to address the global tax challenges arising from digitalisation of the economy.

The original aim was to reach a consensus agreement on its proposed “two pillar” approach (discussed in further detail below) by the end of 2020. This deadline had to be postponed as 2020 did not go the way anyone had planned; jurisdictions participating in the project have understandably prioritised dealing with domestic issues relating to the COVID-19 pandemic.

Now the new goal for reaching agreement is mid-2021 and as the United States’ approach to this project has significantly changed under the Biden administration, it seems more likely than ever that some level of consensus agreement will be reached. We provide below a reminder of progress on this project to date and the anticipated next developments.

What has happened: at OECD level

The OECD’s Pillar One and Two project can be traced back to the OECD’s BEPS project which culminated in a series of reports published in October 2015. The 2015 Action 1 Report identified a number of broader tax challenges raised by digitalisation, including the question of how taxing rights on income generated from cross-border activities in the digital age should be allocated among countries. Some options to address these concerns were discussed, however, no consensus emerged and the conclusion at that time was: “further work is required”.

That further work intensified in 2018 when unilateral digital services tax (DST) proposals started to emerge. In 2019, the two pillar approach was proposed as the foundation for a consensus based solution to tax challenges posed by the digitalised and globalised economy and remaining BEPS concerns. Further work on this approach continued in 2019 (for further details, see here). The project gained momentum and in January 2020 the participating jurisdictions adopted an outline of a unified approach on Pillar One and published a progress note on Pillar Two (for further details, see here and here). At that time, it seemed that everything was on track for a solution by end of 2020.

But then the COVID-19 pandemic hit and the project faced a further hurdle when in summer 2020 the US pulled out of the negotiations. In an attempt to get the project back on track, in October 2020 the OECD published blueprints on Pillar One and Pillar Two, accompanied by an Economic Impact Assessment of the proposals and a public consultation (discussed further below).

What has happened: at domestic levels

An unwelcome consequence of the postponed deadline has come in the form of trade tensions with the US as a result of various jurisdictions introducing unilateral DSTs. The US has looked unfavourably on the introduction of unilateral DSTs, seeing them as targeting the profits of US tech giants. It is envisaged that such unilateral DSTs will be withdrawn as part of the Pillar One proposals, but in the meantime the US has instigated “section 301 investigations” into several unilateral DSTs. This is an investigation by the US trade representative (USTR) to determine whether an unreasonable or discriminatory action has been taken by a non-US country which restricts US commerce. In such circumstances, the US can initiate retaliatory trade actions.

The French DST introduced in 2019 was the first to come under scrutiny via a section 301 investigation in summer 2019. Since then the US has launched section 301 investigations into a longer list of jurisdictions for introducing (or merely contemplating) unilateral DSTs. This list includes Austria, Italy, Spain, the UK and (interestingly) the EU as a whole (seemingly as a result of a failed attempt to introduce an EU DST in 2018), as well as non-EU jurisdictions such as India and Indonesia. On most of these DSTs a “verdict” was reached by the USTR at the beginning of 2021, finding that the investigated DSTs discriminate against US companies and thereby restrict US commerce. Interestingly, retaliatory US measures have not yet been announced and the published investigation reports include statements reaffirming the commitment of the US to the current ongoing negotiations at OECD level – this approach is thought to be explained by fact these section 301 investigations span the recent change in US political leadership.

At around the same time, the US state of Maryland introduced a tax on gross receipts derived from digital advertising. It is anticipated to raise approximately USD250m in its first year and the revenue is earmarked for spending on education. It is reported that other US states are set to follow suit, either by introducing similar state level digital taxes or, for example, by seeking to include digital advertising in existing sales tax bases. However, it is not clear how far these proposals will proceed as federal lawsuits challenging the introduction of the Maryland digital levy have already been filed.

Nonetheless, currently it is not only non-US unilateral DSTs but also national US levies that could target US tech giants. Against this backdrop it might not come as a surprise but rather as a welcome change that the Biden administration has signalled a clear change of tack on this issue, with the US Treasury Secretary Yellen recently confirming that the US is “committed to the multilateral discussions on both pillars within the OECD/G20 Inclusive Framework, overcoming existing disagreements, and finding workable solutions in a fair and judicious manner” (US Treasury Letter 25 February 2021).

OECD’s Pillar 1 and Pillar 2 project: work in progress

Pillar One focuses on reforming the international tax system and adapting it to the digitalised and globalised economy. The suggested method for doing this involves overhauling two long-standing principles of international taxation, physical presence and (to some extent) the arm’s length principle. It intends to create a new taxing right via new nexus rules for market jurisdictions which – in the existing traditional tax system – often do not get a slice of the tax base pie. In further detail:

  • Such nexus under the new rules is created by way of a sustained and significant participation in a market jurisdiction – determined by revenue thresholds, sales and, in more limited circumstances, by physical presence.
  • Amount of profit to be allocated – agreement on the new taxing right and more specifically the amounts to be allocated to a market jurisdiction (Amount A) and on remunerating baseline marketing and distribution activities (Amount B) has not yet been reached. (Amounts A and B are discussed in more detail in our previous blog post here, and it should be noted that in the meantime the Amount C proposal has been dropped.)

The concept of market jurisdiction is not explicitly defined in the proposals. Rather it is determined by looking at revenue sourcing. This means looking at specific factual indicators to determine the specific location (jurisdiction) where the revenue from in-scope activities is generated.

These rules will only apply to in-scope multinational enterprises (MNE), with certain limited carve-out areas. In order to be in-scope:

  • First an MNE needs to exceed a certain revenue threshold and a de minimis in-scope revenue (i.e. revenue generated by in-scope activities). Currently a staged approach is being discussed, meaning that the thresholds would be higher at the outset and reduced over time.
  • Second, an MNE needs to provide in-scope services: these may either be automated digital services (e.g. online advertising, online search engines, social media platforms) or consumer-facing business selling goods or services. To date, political agreement has not been reached on these categories.

There is general agreement on the need for effective dispute prevention and resolution methods in respect of determining Amount A.

Pillar Two – aka Global Anti-Base Erosion Proposal or “BEPS2.0” – aims for internationally operating businesses to pay a minimum level of tax worldwide. Its scope is extremely broad as it is intended to apply to all internationally operating MNEs (and not only those operating in the “digital economy”) with a consolidated revenue threshold of over EUR 750m. Certain exclusions are being proposed, for example, for investment funds, pension funds, government entities, certain transparent entities, as well as a substance based carve-out.

The architecture of Pillar Two comprises a set of four inter-related rules as set out below:

  • Income inclusion rule (the IIR) will require an MNE to pay a “top-up” tax on parts of its income if such income is taxed at an effective rate below a minimum rate (determined at a jurisdictional level, so-called “jurisdictional blending”);
  • The IIR will be complemented by a switch-over rule (the SOR) in tax treaties to permit residence jurisdictions to switch from exemption to credit method if the residence state implements and applies the IIR;
  • Undertaxed payments rule (the UTPR) will allocate a top-up tax amount within an MNE group in relation to payments made directly to a related party in the hands of which such payment is not taxed at or above a minimum rate (the IIR and the UTPR are together referred to as the “GloBE rules”); and
  • Subject to tax rule (the STTR) will also be in tax treaties and will operate to subject certain in-scope payments to withholding taxes at source to achieve the top-up amount. Currently qualifying as in-scope payments are interest, royalties and other high-risk service fees (e.g. brokerage, guarantee and financing fees, rent).

By themselves, these are not new rules or concepts in the global tax sphere, but the wider and more inter-dependent application of these rules make the Pillar Two proposals unique.

Economic Impact Assessment (EIA) – the EIA published alongside the Pillars One and Two blueprints is noteworthy as this was the first time that figures, in terms of the impact of the proposals on global tax revenue, were attached to this project. The EIA sets out that Pillars One and Two combined could increase global corporate income tax revenues by US$50-80bn per year, depending on the final design and scope of the Pillars. The Pillar Two proposals would result in the biggest part of this increase. These numbers do not include US MNEs within the scope of the US GILTI regime. Taking into account the combined effect of these reforms and the US GILTI regime (on the yet-to-be-agreed basis that the US GILTI regime will sit alongside the Pillar Two proposals), the total effect could represent US$60-100bn per year.

It is worth noting that the EIA conclusions are based on data primarily from 2016-17 and therefore pre-date some significant global tax developments such as the 2017 US tax reforms and also the implementation of various recommendations from the original OECD BEPS project (such as anti-hybrid mismatch and corporate interest barrier rules). They also do not factor in the impact of COVID-19 on MNEs’ profits.

The EIA also shows that around US$100 billion could be redistributed to market jurisdictions (as discussed above) through the Pillar One plans. However, no jurisdiction specific information is provided on the basis there was no consensus on whether such information should be made public (presumably because this is quite sensitive information, particularly when most jurisdictions are thinking about how to shore up domestic tax revenues to pay for COVID-19 support measures).

Public consultation

The OECD received in the region of 200 responses to each blueprint document and over 3,000 people attended the (virtual) public consultation meetings held in January 2021, demonstrating both the high level of interest in this project and also the diverging views that exist in relation to the proposals.

In relation to Pillar One, the responses showed there is continued strong support for an international consensus-based solution combined with the removal of unilateral measures. However, a clear message is that the complexity of these proposals would present significant difficulties for businesses, particularly in relation to having the relevant data to be able to identify which activities would be in scope. This would consequently result in increased compliance costs. Diverging views persist on the overall scope of the Pillar One proposals – clearly this is a fundamental issue that needs to be addressed in order to be able to move forward with these proposals. Finally, the responses demonstrated that there is strong support for mandatory binding dispute prevention and resolution for Amount A in order to increase tax certainty.

Interestingly, since the public consultation took place the US has confirmed that it has dropped its demand for the Pillar One proposals to apply on a safe-harbour basis. This has been welcomed by the OECD and members of the Inclusive Framework and is seen as a significant step towards consensus agreement being achievable by mid-2021.

In relation to Pillar Two, calls for simplification of the proposals was again a key feature of the responses with businesses raising concerns about the complexity and administrative burden associated with Pillar Two calculations, particularly the detail of the IIR, the UTPR and the STTR, although there was widespread consensus on the use of consolidated financial statements as the starting point for the identification of the tax base. The responses also showed that there was general agreement that the US GILTI regime could sit alongside the Pillar Two proposals.

What’s next?

With renewed support from the US, the G20 Finance Ministers and the feedback from public consultation, the OECD has recognised that further work is still required. But the aim is clear: having a proposal ready for implementation by the beginning of July 2021.

At the same time, also the EU is getting ready to step into this area of tax policy. As part of its plans to develop new own resources, the EU Commission is again discussing the implementation of an EU digital levy and has opened a public consultation until mid-April 2021 to gauge the public’s position on the state of taxation of the digitalised economy at an EU level. In this context, the Commission notes that while work is continuing at G20/OECD level, any agreement on Pillar One might as a first step be limited in scope (and for example may focus on large MNE groups and a limited number of pre-defined activities linked to digitalisation). Therefore, the EU Commission’s new initiative intends to further address the issue of fair taxation related to the digitalisation of the economy without interfering with the ongoing work at G20/OECD level.

The details of how this EU digital levy will be structured are not yet available. The public consultation questionnaire and roadmap hints at the following options: a corporate income tax top-up to be applied to all companies conducting certain digital activities in the EU, a tax on revenues created by certain digital activities conducted in the EU and a tax on digital transactions conducted business-to-business in the EU. It remains to be seen – and will depend on the outcome of the work at OECD level – whether such EU digital levy will complement or substitute Pillar One.

These developments do not yet call for immediate action by MNEs and other taxpayers. But as it currently stands, it is clear there will be further, potentially very significant, developments in this area during the second half of 2021. Taxpayers, particularly MNEs, should keep monitoring these closely in order to be able to take swift action as the project progresses on to implementation stage (whether at a global or EU level). We will provide further updates as this project continues to evolve.

For our latest thinking and previous blog posts on this topic, see our digital blog and filter for “taxation” practice.