OECD releases Pillar 1 treaty agreement as Canada pursues DST

OECD released a draft of a multilateral tax treaty for implementing Pillar 1 on Oct. 11, but the initiative faces many hurdles and countries such as Canada are still pursuing their own digital services taxes (DSTs).

Pillar 1 is part of the framework from the Organization for Economic Co-operation and Development (OECD) for addressing base erosion and profit shifting. It would allow countries to tax a share of profits from digital goods and services consumed in a jurisdiction even when the taxpayer has no physical presence there. It would generally apply multinationals with 20 billion euros in global revenue and pre-tax profit margin of more than 10%.

Implementation would be accomplished through ratification of a multilateral tax treaty, and the new draft treaty provides important insight into how the rules would operate.

Republicans in Congress have long opposed the effort and criticized Treasury for failing to provide a comprehensive revenue estimate of how it would affect U.S. companies.

The response from Treasury to the draft treaty was itself somewhat muted. Treasury immediately requested comments and acknowledged that, due to the breadth and complexity of the issues, it needed to “hear whether the proposed framework would be workable for U.S. taxpayers and other stakeholders.” Treasury Secretary Janet Yellen said in public comments that while “there was substantial progress in negotiating this treat,” there were “matters important to the United States that remain unresolved.”

The effort is intended to put an end to the patchwork of unilateral DSTs, and participating countries recently agreed to extend a moratorium on DSTs through the end of 2024 if at least 30 jurisdictions accounting for at least 60% of the parent companies of affected taxpayers sign the multilateral convention before the end of 2023. Treasury had been expected to sign the treaty before the end of the year to support this moratorium, but Yellen said there are “open issues that still must be resolved before the treaty can be signed” and the “processes will take into next year.” Even if it is signed, ratification in the U.S. would be very difficult. Treaties generally require two-thirds support in the Senate, a near nonstarter given Republican opposition. Treasury is also reportedly exploring whether the administration can use any unilateral mechanisms to achieve implementation.

Meanwhile, not all countries are honoring the moratorium on DSTs. Canada’s 3% digital services tax is scheduled to take effect as early as 2024 and would apply retroactively to 2022. It would be imposed on multinationals with global revenue of 750 million euros or more and digital services revenue in Canada of more than $20 million in Canadian dollars. Digital services would include:

• Online marketplace services
• Online targeted advertising services
• Social media services
• The sale or licensing of data gathered from users of an online marketplace, a social media platform, or an online search engine

U.S. lawmakers are pushing back against Canada as part of a bipartisan and bicameral effort. The chairs and ranking members of the both the Senate Finance Committee and House Ways and Means Committee signed a joint letter threatening to retaliate against the Canadian DST. Canada itself in considering retaliatory measures for domestic content requirements for tax credits in the Inflation Reduction Act. The competing rhetoric could foreshadow trade sanctions in the coming months.