Future of indirect tax proposition 8

In Proposition 7, we discussed a myriad of practical indirect tax compliance challenges being experienced by digital economy participants. This raises a more fundamental question — should country-based indirect tax compliance reporting obligations be imposed on digital economy participants at all? Let’s explore further.

In December 2020, the OECD released its Tax Administration 3.0 report, 123 which sets out a vision for the digital transformation of how tax authorities may carry out their work in the future. In our view, the report is one of the most forward-thinking and insightful tax policy reports in recent times.

The central thesis of Tax Administration 3.0 is that tax compliance processes can be built into the “natural systems” that taxpayers use to run their businesses, subject to appropriate assurances, such that tax becomes a “seamless” and “frictionless” event. Tax Administration 3.0 tracks how a hypothetical individual, small business, and multinational group engage with the tax authorities through the life cycle of their transactions and life events. The report uses the following example to explain how changing business models require new responses from a tax administration perspective:

“As the global economy becomes increasingly interconnected and digitalized, some businesses are able to generate profits through participation in a significant and sustained way in the economic life of a jurisdiction without a local physical presence. This trend is expected to increase as the digitalization of the economy accelerates. The OECD/G20 Inclusive Framework on BEPS and its 137 member jurisdictions are currently working on a two-pillar solution to address the tax challenges arising from the digitalization of the economy, with a view to reaching a global and consensus-based solution by mid-2021. Policy changes resulting from the current international discussions will need to be implemented by tax administrations, potentially requiring access to highly complex, large, and geographically dispersed information sets. With multiple jurisdictions potentially looking at multinational businesses with complex supply chains, financial arrangements and dispersed data storage, the optimal system might be an increased reliance on the building-in of tax rules into the different business accounting systems used by different businesses. Those systems could then be verified by the involved tax administrations as necessary either through certification processes in advance or through interrogation and verification increasingly carried out by algorithms and remote processes.” 123

The report contains several examples of how businesses will manage their VAT compliance. In so doing, it essentially reinforces the view that VAT compliance can be accomplished through existing business systems (including testing the robustness of those systems), supplemented by measures such as e-invoicing.

In short, all of this begs the question as to why digital economy participants, especially platforms, really need to be subjected to ever-increasing data collection requirements and country-specific indirect tax compliance reporting obligations (even if in a simplified form). In this regard, we note the following:

  1. The very nature of business models in the digital economy is that they leave a digital footprint at every step of the customer journey. Those same business systems which are used for commercial purposes can be leveraged in providing a reliable (and verifiable) audit trail. This is the “natural systems” of which the OECD report speaks;
  2. Tax authorities wishing to carry out audit activity are invariably faced with the difficulty that, in many cases, they have limited enforcement powers against non-residents, and on-site visits to a company’s headquarters (located in another country) to test their systems may not be all that practical;
  3. Even when tax authorities wish to conduct audits, they are also substantially handicapped in their approach. Many large digital platforms maintain global ERP instances, and the first step in responding to any audit request is to identify those transactions relevant to the jurisdiction requesting the information. It is at this point that, frankly speaking, tax authorities are asked to apply blind faith in accepting the transactions proffered. (This is not to suggest any wrongdoing — it is merely to acknowledge that the tax authorities have no real control over this step.); and
  4. Many large digital platforms maintain complex tax engines which are designed to automate, as far as possible, tax determination processes and assigning tax codes to trigger collection obligations applicable to each country. Short of testing the logic and outputs from those tax engines, it is not especially easy for tax authorities to carry out meaningful audits for any single country.

To put this another way, tax authorities operating on a single country basis will encounter challenges in carrying out effective tax audits. By contrast, a “global” audit could achieve testing of the logic and robustness of the systems and the allocation methods they adopt on a system-wide basis.

This is all relevant because it raises the practical question as to whether we should move away from individual country indirect tax compliance reporting. Instead, adopting global reporting obligations with country-based allocation schedules, as much as we already see with country-by-country reporting for corporate income taxes, and as we may see in the future with Global Anti-Base Erosion (GloBE) information returns. This achieves the following:

  • There is a single reporting globally of their liabilities, which may be allocated centrally;
  • Compliance costs for the digital economy participant will be substantially reduced; and
  • There is the opportunity to carry out audits and test the controls, systems and allocation methods at a global level, which is both meaningful and achievable.

Having said that, the experience so far with Pillar 1 of BEPS 2.0 suggests that there may be some nervousness on the part of digital providers in reporting their global revenues, because it potentially leaves them open to “ambit” claims.

It remains to be seen if simplification in this area is merely a pipedream or a concept that can be brought to reality.


Phase 1 of the OECD's digital economy measures focused on ensuring that VAT would be collected on digital services supplied in cross-border B2C transactions. Phase 2 expanded these measures to include low-value goods, and in the process of doing so, shifted many of the collection obligations on to digital platforms as well. Phase 3 is seeing an expansion of those platform collection and reporting obligations, together with an expanded mandate to tax all “remote services”.

The next phases of evolution of digital economy measures will be immeasurably more difficult to manage. We are witnessing perhaps the greatest era of digitization in our history. Traditional businesses are seeking to digitalize to compete. New products and services are emerging, both in the “real” world and in the virtual world, while yet undiscovered unicorns will continue to challenge the status quo of the digital economy. Meanwhile, the new consensus-driven world of international tax is, at the time of writing, showing signs that it is under attack. We are about to emerge from the eye of the storm, and there are clearly troubled seas ahead.



Connect with us

Key Contact

Lachlan Wolfers

Head of Global Indirect Tax Services KPMG International

Key Contact

Philippe Stephanny

Senior Manager, Global Indirect Tax Services, KPMG in the US

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123 OECD (2020), Tax Administration 3.0: The Digital Transformation of Tax Administration, OECD, Paris.