What is it about? OECD proposals to tax the digital economy which will significantly impact all large tech companies that are consumer oriented.

What will the impact be? Businesses will pay more tax. Impact on cash-flow, earnings per share and valuations. There will also be lots of complexity to ensure compliance.

What should businesses be doing now? Watching for what comes out of the OECD, including on 9 Dec on the second round of proposals.  Working with advisors to assess the potential impact.

Late last week OECD held a public meeting in Paris to hear from advisors, industry groups and multinationals on the first half of its proposals for taxing the digital economy. Delegates from Member States plus the 135 country-strong Inclusive Framework on Base Erosion and Profit Shifting will now meet behind closed doors over the coming weeks and months to agree on final details. Final agreement is expected within 12 months.

So what can companies in the technology sector expect?

First, the changes will apply to all large technology companies that are consumer-oriented. That means platforms, media, communications, and possibly even fintech. How large is still an open question, but a revenue threshold of $750m or €750m is being bandied around. If so, it won’t be just the giants, but plenty of other companies.

Second, businesses will pay more in tax. How much remains to be seen, but it will hit cash-flow, earnings per share, and valuations. And that’s before the OECD gets to its proposals for an international version of President Trump’s Tax Cuts and Jobs Act. Those are being discussed in Paris on December 9.

Third, and despite all the noises to the contrary, it’s going to be complex. And involve a lot of work. That’s because once the rules are finalised and implemented, companies will be subject to tax on three separate amounts.

• Amount A – a share of the profits earnt by a group in excess of a deemed basic return, this being allocated to the jurisdiction where consumers are, and calculated using a pre-determined formula;
• Amount B – a fixed level of remuneration for baseline marketing and distribution functions that take place in a country; and
• Amount C – an additional profit accruing where in-country functions exceed the baseline activity compensated for by Amount B.

Critically, tax will be payable on Amount A even in countries where a multinational group has no physical presence, but does have sales. This is a new taxing right, and tears-up the rulebook on international tax that prevailed almost since international tax time began.

Similarly, tax will likely be paid on Amount B wherever a company has a physical presence in a country and performs at least some sales and marketing functions. The fact that consumers enter into the final sales contract with a legal entity located elsewhere will not matter. What are being called “simplifying conventions” will be used to make determination of what is payable easier. That means a fixed percentage of sales for the market, possibly varying by sector or geography, and possibly with a sliding scale depending on factors such as group profitability.

Even if A and B are kept simple (which seems a forlorn hope), multinationals will still have to work out for Amount C how far their activities in each country go beyond “baseline marketing and distribution functions”, and then put a price on that. This will be just as hard as what multinationals need to do today to work-out how much of their profits they should book in each country (i.e. what their “transfer pricing” looks like). It may even be harder, but at least will follow the arm’ length principle and current transfer pricing rules.

Based on what the Hogan Lovells team has learnt from numerous transfer pricing and tax audits around the globe, careful thought and analysis will be required to persuade tax authorities that you have got Amount C right. Fortunately, implementing effective dispute resolution mechanisms is also part of the proposals.

So, one way or another, there’ll be lots to do. Working out Amounts A and B will involve detailed calculations. We don’t know the rules yet, and there are still lots of questions to answer. Some tricky legal thinking may also be required. And that’s before you get to Amount C.

It’s not all bad news though. This is potentially a tiny step on a path towards clarity. It might be a long path, but at least there is one. And there is time for multinationals to assess, plan, and sketch-out what the impact might be. It’s also good news that a lot of countries – from China to Greenland, and the US to Nigeria, to name but a few – appear to be onboard. It’s also good news that dispute resolution is being taken seriously.

Next stop? December 9 and the second round of proposals.

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