The United Nation's response to the digitalisation of the economy: The introduction of Article 12B into the UN model tax convention

Abstract

It is no longer disputable that the digitalisation and globalisation of the economy raises challenges for the current international tax framework. One of these tax challenges is that multinationals no longer require physical presence in a country to earn revenues, while physical presence is precisely what the current rules regarding the allocation of taxing powers are based on (i.e., the permanent establishment (PE) threshold as established in Article 5 of [model] tax treaties). The allocation of taxing powers between countries with respect to profits earned by companies providing services in a cross-border context, is regulated via the provisions of a double tax treaty. These bilateral tax treaties aim to avoid double taxation and are generally based on model tax conventions. The two most widely used model tax conventions are those drafted by the Organisation for Economic Co-Operation and Development (OECD) and the United Nations (UN). Both conventions have great similarity but also diverge from one another as both organisations (i.e., the OECD and the UN) act with different interests. The OECD Model Tax Convention (MTC) tends to favour developed countries, whilst the UN MTC aims to protect developing countries. One example is the broader PE concept in the UN MTC compared to the PE treaty provision in the OECD MTC. By broadening the PE scope, more taxing rights are allocated to source states (which are often developing countries). In any case, the treaty provisions of both MTCs that define a permanent establishment, are based on the same basic principle that taxing rights are allocated to the country where companies physically operate. This fundamental rule is based on the characteristics of the economy at that time. Today, many businesses no longer require physical presence to generate income. Therefore, OECD countries expressed their dissatisfaction with the current allocation rules as they claim that such rules do not allow them to collect a ‘fair share’ of tax on the profits earned by (highly) digitalised businesses. As a response, the OECD/G20 launched the Pillar One proposal which includes the potential to achieve a fairer and more efficient allocation of taxing rights. However, whether a system with a ‘fairer allocation of taxing rights’ will truly be achieved for all stakeholders is questionable. Scholars have indeed been arguing that the concerns of developing countries have not (sufficiently) been taken into account. This is in line with the view of the UN Tax Committee of Experts on International Cooperation in Tax Matters (UN Tax Committee). For this purpose, the UN Tax Committee founded the so-called ‘Subcommittee on Tax Challenges Related to the Digitalization of the Economy’ at its 15th assembly, to capture the tax challenges arising from the digitalisation of the economy, and with special attention for the interests of developing countries. At its 20th assembly, the UN Tax Committee decided to establish a ‘Drafting Group’ to draft a new treaty provision to tackle the tax challenges of a digitalised economy. Their proposal eventually led to the inclusion of Article 12B into the UN MTC, entitled ‘Income from Automated Digital Services’. The introduction of Article 12B in the UN MTC was heavily critised, one scholar even questioned the raison d’être of the new treaty provision. In this article, we will briefly touch upon the Two-Pillar solution (in particular Pillar One) and the criticism of the UN that eventually led to the introduction of Article 12B into the UN MTC. Afterwards, we will discuss Article 12B UN MTC in more detail and compare the OECD’s and UN’s approaches, and finally we will discuss whether and how both approaches could be aligned.