Base erosion and profit shifting

Definition

Base erosion and profit shifting (BEPS) refers to strategies used by multinational companies to shift profits from high-tax jurisdictions to low or no-tax locations, thereby reducing their overall tax liabilities. This practice undermines the tax base of countries, creating an imbalance and leading to significant revenue losses for governments worldwide. Understanding BEPS is crucial in assessing the differences between worldwide and territorial tax systems, as well as the implications for due diligence and tax structuring.

5 Must Know Facts For Your Next Test

1. BEPS strategies often exploit gaps in international tax rules, resulting in significant revenue losses for governments, particularly in developing countries.
2. The OECD developed the BEPS Action Plan, which includes 15 key actions aimed at addressing the challenges posed by BEPS and improving transparency in international taxation.
3. One common BEPS strategy is the use of intangible assets, such as trademarks or patents, allowing companies to shift profits to low-tax jurisdictions where these assets are held.
4. Countries are increasingly adopting measures to combat BEPS, including stricter transfer pricing rules and requirements for country-by-country reporting.
5. The impact of BEPS can lead to a competitive disadvantage for domestic companies that do not engage in aggressive tax planning, affecting market fairness.

Review Questions

• How do base erosion and profit shifting strategies affect a country's tax base?
  • Base erosion and profit shifting strategies significantly impact a country's tax base by allowing multinational corporations to relocate profits to low or no-tax jurisdictions. This results in reduced tax revenues for governments, which can hinder their ability to fund public services and infrastructure. As companies use loopholes and complex financial arrangements to minimize their taxable income in higher-tax countries, the overall fairness and integrity of the tax system are undermined.
• Discuss the relationship between BEPS and the differences between worldwide and territorial tax systems.
  • The relationship between BEPS and the differences between worldwide and territorial tax systems lies in how each system treats foreign income. Under a worldwide system, residents are taxed on their global income, making it more difficult for companies to avoid taxes through profit shifting. In contrast, territorial systems typically only tax income earned within their borders, making them more susceptible to BEPS practices. This highlights the importance of coherent international tax policies that address the risks posed by BEPS while considering the implications of different taxation systems.
• Evaluate the effectiveness of current measures against BEPS, such as the OECD's Action Plan, in creating a fairer global tax environment.
  • Evaluating the effectiveness of current measures against BEPS reveals mixed results. The OECD's Action Plan aims to address loopholes and improve transparency, but its success largely depends on individual countries' willingness to implement recommendations and cooperate internationally. While some countries have adopted stricter regulations and reporting requirements, others continue to utilize aggressive tax planning strategies. The challenge remains in creating a truly equitable global tax environment, as variations in implementation and compliance can perpetuate inequities among nations.

Related terms

Transfer pricing: Transfer pricing involves setting prices for transactions between related entities within a multinational corporation, often used to allocate income and expenses across different tax jurisdictions.

Tax havens: Tax havens are jurisdictions that offer low or zero tax rates, allowing individuals and businesses to reduce their tax liabilities through various legal methods.

Double taxation: Double taxation occurs when the same income is taxed in more than one jurisdiction, often leading to disputes over tax rights between countries.