Digital tax talks may result in trade war even if Democrats win

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A brewing fight about which country has the right to tax some of the world’s most profitable companies, including Facebook Inc. and Alphabet Inc.’s Google, could devolve into a multi-front trade war, regardless of whether President Donald Trump is still in the White House.

Even if a Democrat wins the presidency in November, it could be tempting to continue the Trump administration’s policy of using trade sanctions to retaliate against new taxes on U.S. tech companies.

A tit-for-tat trade war is already building with France, which passed a 3 percent tax on large tech companies that went into effect at the start of 2019. The U.S. responded with the threat of tariffs on $2.4 billion worth of French cheese, sparkling wine and makeup, prompting the European Union to consider tariffs on U.S. goods.

2020 presidential candidates Michael Bloomberg, founder of Bloomberg LP, from left, Pete Buttigieg, former mayor of South Bend, Senator Elizabeth Warren, a Democrat from Massachusetts, Senator Bernie Sanders, an Independent from Vermont, former Vice President Joe Biden, and Senator Amy Klobuchar, a Democrat from Minnesota, and Tom Steyer, cofounder of NextGen Climate Action Committee arrive on stage during the Democratic presidential candidate debate in Charleston, South Carolina.
2020 presidential candidates Michael Bloomberg, founder of Bloomberg LP, from left, Pete Buttigieg, former mayor of South Bend, Senator Elizabeth Warren, a Democrat from Massachusetts, Senator Bernie Sanders, an Independent from Vermont, former Vice President Joe Biden, and Senator Amy Klobuchar, a Democrat from Minnesota, and Tom Steyer, cofounder of NextGen Climate Action Committee arrive on stage during the Democratic presidential candidate debate in Charleston, South Carolina.

All sides have agreed to a tax cease-fire until the end of the year to see if a broader global agreement can be worked out at the Organization for Economic Cooperation and Development.

“Democrats have been as opposed to the digital services taxes as Republicans,” Brian Jenn, a former Treasury official during the Obama and Trump administrations, said. “While very few Democrats are a fan of tariffs, it looks like the tariff approach at least bought a temporary victory in the case of France.”

The U.S., along with more than 130 countries, is currently negotiating at the OECD about a new international tax system that would redefine which countries can tax which corporate profits. A revamped global tax code could apply not just to tech companies, but also to other multinational firms that have customers in countries where they don’t currently record profits.

Worst case scenario

Negotiators need to reach an agreement this year before several countries — including France, Canada and Italy — plan to move forward with their own taxes on tech giants.

A retaliatory tariff fight with the U.K could begin even sooner. That country’s version of the tax is set to go into effect in April, and U.S. officials have suggested responding with tariffs on car exports.

That could be the worst case scenario for companies such as Amazon.com Inc. that could end up paying taxes to several countries on the same income. And they have reason to worry — it’s far from certain that there will be a deal this year.

“I’m very skeptical that the U.S. will agree to this proposal by the end of this year — or ever,” said Gary Hufbauer, a senior fellow at the Peterson Institute for International Economics. “It’ll be a long period of friction until we get a true settlement.”

One of the main challenges of the ongoing talks is to reach a consensus by December that is sufficiently robust to halt the proliferation and imposition of digital services taxes, said Manal Corwin, the principal in charge of international tax policy at accounting firm KPMG.

Without enough of a deal to keep the parties at the negotiating table, U.S. companies could face taxes from the approximately dozen countries that have proposed the idea, causing either a Republican or a Democratic administration to fend off levies on income that the U.S. views as within its right to tax.

“There aren’t a lot of other tools in the toolbox to address unilateral taxes in a meaningful way,” said Jenn, who has also served as a U.S. delegate to the OECD and is now a partner at law firm McDermott Will & Emery.

Seeking consensus

A progressive candidate, such as Senator Bernie Sanders, with a history of opposing free trade measures, could be inclined to use trade sanctions as a way to fight back, said Jeff VanderWolk, a former OECD official who is now a partner at law firm Squire Patton Boggs. Former Vice President Joe Biden, who has traditionally supported trade agreements, may be less inclined to take that approach, he said.

The negotiations are centered around two main points: establishing a global minimum tax so companies can’t avoid taxes entirely, as well as reallocating taxing rights, meaning some countries with many customers or users of a digital service could tax some of the profits even if the company doesn’t have business operations there.

U.S. Treasury Secretary Steven Mnuchin said after a G-20 Finance Ministers meeting in Saudi Arabia that there’s “pretty much consensus” about the minimum tax. The point of contention is reallocating taxing rights, which the U.S. wants to be optional for companies.

The OECD estimates that its approach -- revamping taxing rights and a minimum levy — would result in countries collecting $100 billion more a year in tax revenue.

Such an agreement could end up hampering the proposals from some Democratic presidential candidates to raise taxes on corporations. If other countries have the right to tax some of Google and Facebook’s profits, that means the U.S. won’t get a cut of that money. That could mean they’d need to find revenue from other sources to fund their policy priorities.

‘Reliable system’

The OECD plan “is structured so that those companies would pay more tax abroad, regardless of U.S. tax policy,” Daniel Bunn, vice president of global projects at the Tax Foundation, said. “The potential U.S. tax take from highly profitable companies based in the U.S. would shrink whether we have a policy of higher taxes on businesses or not.”

It’s still not clear how the U.S. would fare under the global approach. The U.S. would lose the right to tax some profits from highly profitable technology and pharmaceutical companies, but could gain some of that back from foreign companies that have lots of U.S. customers, including French luxury brand conglomerate LVMH Moet Hennessy Louis Vuitton SE or German carmaker Mercedes-Benz AG.

Facebook Chief Executive Officer Mark Zuckerberg said this month he approves of the OECD efforts, even though it would increase his company’s overall tax bill, because it would create a “stable and reliable system going forward.”

The OECD digital tax talks have created strange bedfellows. In Congress, the response has been unusually bipartisan with key Republicans and Democrats both supporting the administration’s efforts to come up with a global deal. And the Trump administration is coming to the defense of Amazon and Facebook, two companies the president frequently criticizes.

There’s skepticism, however, that Congress would actually be able to pass the legislation required to implement any deal reached at the OECD. Lawmakers have been publicly supportive of participating in the negotiations, but they might not ultimately like the outcome, said Sam Maruca, a former IRS official who has represented the U.S. at the OECD.

“The U.S. is paying lip service to the process. Treasury is convinced that they’re not going to be able to get it through Congress,” Maruca, now a partner at law firm Covington & Burling, said. “When push comes to shove there’s likely to be a lot of gnashing of teeth.”

Bloomberg News