Taxing tech giants can’t wait any longer

Companies like Facebook and Google have grown o dominate the tech landscape. Picture: AAP

Prime Minister Scott Morrison is now fully aware that Australia, like the rest of the developed world, has a deep corporate tax problem. The growth areas of the economy in digital industries are not paying full company tax.

As I will explain below, about $20bn in taxation revenue is leaving Australia annually and the amount is growing rapidly. Recent corporate taxation revenue was around $100bn but that’s set to fall in the wake of COVID-19.

And whereas Australia was in surplus, it is now in deep deficit. We simply cannot afford so much of our taxable revenue in high growth industries not paying tax.

Moreover if it continues, then confidence in the entire Australian taxation system, already eroded by the bad small business tax practices of the Australian Tax Office, will fall to dangerously low levels.

Encouraged by treasurer Josh Frydenberg and Finance Minister Mathias Cormann the ATO has worked very hard to stop the tax leakage but, like their counterparts overseas, they have failed. In this instance I have no criticism of the ATO commissioner Chris Jordan. He did his best and his overseas counterparts did no better.

As readers will remember under the headings “Cash flow is a fairer way to tax business” and “Cash flow taxation best way to stop big-tech’s tax drain” I set out a solution – cash flow taxation.

But the total cash flow scheme is best introduced in a time of prosperity and also needs further study. Given COVID-19 I don’t think now is the right time to undertake such a revolution in our taxation collection system. But what we can do is select elements to curb the current practices.

Household names

We all know the culprits because they are household names. With great skill most (but not all) ship their profits offshore, often to tax havens. The usual method is to charge for overseas technology. None are doing anything illegal and, using the law of the land, they are maximising returns to their US shareholders. Among the companies (in alphabetical order) are Amazon, Apple, Facebook, Google, Netflix, and Microsoft. There are many more.

Cash flow taxation was advocated by none other than US Republican and former house speaker Paul Ryan. For a time it was endorsed by Donald Trump. President Trump then abandoned the idea, perhaps because if the system took off around the world the US giants would have less money to send back home.

Three basic elements

In essence there are three basic elements and, with amendments, I think we should adopt two.

• No deduction is allowed for imported services, unless the transaction is at arm’s length and relates to current costs of goods and services directly applied to producing the service for which a deduction is claimed.

This would deny a deduction for payments for imported intellectual property unless required for direct expenditure on goods and services for Australia. Foreign owners of intellectual property can earn rent through Australian sales.

• Capital expenditure and research becomes tax deductible.

• Interest and other financing costs are non-deductible, except for finance organisations like banks.

While cash flow taxation is more complex than this, clearly the third basic element, the non-deduction of interest, would not raise as much money as it would when rates were higher. And full deduction of capital expenditure could become very expensive with a few major projects.

The Calderon plan

Australia needs a combination of non-deductibility of the money transfer mechanism and a version the “Calderon Plan” set out by the Orica chief executive Alberto Calderon to the Melbourne Mining Club in February 2018.

At the time the government’s favourite measure was to reduce company tax and it was backed by the Business Council. Calderon explained that increasing investment allowances and research deduction was a far better way to go. He was right.

The case for action is compelling. In 2015 the capital value of Australia’s overseas investments roughly equated with the capital value of the overseas investment in Australia and the returns we received from our overseas investments roughly matched what we were paying out - in line with previous years.

But in the next three years, suddenly the money going out of Australia’s backdoor to overseas destinations skyrocketed, even though the amount of overseas investment did not greatly change.

The net outflow (netting inflow and outflow) has risen from less than $10bn to more than $30bn in a few short years and is accelerating at a dramatic pace.

If we assume the non-taxed cash leaving the country a few years ago was about $30bn (half the gross outflow) then we were losing around $10bn in tax. It would now be $20bn and is set to double again as the decade proceeds. That’s unsustainable.

We can all be grateful for the work of University of Melbourne’s Ross Garnaut, former ALP trade minister Craig Emerson, the London School of Economics’ Reuben Finighan, and Industry Super Australia’s Stephen Anthony for documenting the problem and putting forward cash flow taxation.

They don’t come from the Coalition support base but given our deficit this problem is so serious that our major parties must come together.