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UBER: a Test Case Analysis of Nexus in Digital Economy Thesis

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UBER: a Test Case Analysis of Nexus in Digital Economy Thesis UBER: A Test Case Analysis of Nexus in Digital Economy Thesis University of Amsterdam – IBFD Submitted by Lakshmi Narayanan Date of Submission: 27 July 2018 Supervised by Dr.Joanna C. Wheeler Dr. Dhruv Sanghavi (Co-supervisor) 1 Abstract Digitalization of economy creates possibilities for borderless business operations without any physical presence in a jurisdiction. This has created policy challenges in lot of areas including that of international taxation. Especially the principle that profits of MNE should be taxed at the place of value creation is under attack. The direct tax policy challenges associated with digital economy are outlined by OECD under BEPS Action Plan 1. In the above context, the nexus required for source taxation of cross-border profits of MNE has been found to be weakened. This vulnerability is owing to the nature of source rule codified in tax treaty rules. The tax treaty rules such as PE under article 5 and consequent allocation of taxing rights based on proportionate corporate profits to be taxed at source jurisdiction under article 7 of Model conventions are found nonoperational. This thesis explores the scope of current tax treaty rules to accommodate digital business model and in case of inadequacy, the alternate options by way of modification of existing tax treaty rules to address the source taxation of such business are examined. To conduct a scientific inquiry, it is found necessary to work within a specific business model. UBER is taken as a test party to undertake such scientific inquiry. To test the treaty rules for source taxation, the paper discussed the nature of UBER business model by drawing a brief intra firm legal and economic-operational relationship of UBER MNE to create context for discussion. Followed by that, the paper demonstrates that user data and user participation is one of the key value driver for UBER cross-border profits. Subsequently, the inability of tax treaty rules, especially PE under article 5 of the Model convention to address the source taxation of corporate profits derived by UBER is demonstrated. Further, an attempt has been made to restore the international tax system by remodifying source rule under article 5 based on deemed digital PE adopting user as a criterion for tax connection with source jurisdiction. 2 The key findings are that current treaty rules based on PE rules such as fixed place PE; dependent agent PE or services PE fail to create nexus for digital business in source jurisdiction and in spite of the fact that such profits are sourced from such jurisdiction. Further attempts at recodification of source rule based on deemed digital PE is not adaptable to an allocation of taxing rights through the use of transfer pricing or other principles as laid down under article 7. It has been concluded that there is a compelling need to look for solutions for source taxation of digital business model outside the scope of PE as laid under article 5 of model convention and reject the idea of transfer pricing laid under article 7. Further the paper also highlights possible options like withholding taxes under Article 12A of the UN model convention, 2017 to address the source taxation of cross border profits of UBER and the connected challenges. Simultaneously, it also lays emphasis on the need for additional research in this direction by highlighting areas of challenges in such a solution. 3 List of abbreviations BEPS Base Erosion and Profit Shifting. CV Commonditaire Vennootschap (Dutch Limited Partnership) MNE Multi National Enterprise OECD Organization for Economic Co-operation and Development PE Permanent Establishment UN United Nations 4 Table of Contents 1. Introduction ............................................................................................................ 7 1.1 UBER as a Test Case for Digital Economy ......................................................... 8 1.2 Structure of Thesis ............................................................................................... 9 2. UBER Business Model-Introductory Remarks. ....................................................... 11 2.1 UBER- Business Model Analysis ...................................................................... 11 2.1.1 UBER Business Model-Operational Overview ........................................... 12 2.1.2 Operational Role of UBER .......................................................................... 12 2.1.3 Salient Operational Features of UBER. ....................................................... 13 2.1.4 Interim Conclusions ..................................................................................... 15 2.2.1 UBER Business Model- Legal Overview .................................................... 15 2.2.2 UBER Business Model- Intra Firm Legal Analysis .................................... 17 2.2.3 Salient Intra-Firm Features of UBER .......................................................... 19 2.2.4 Interim Conclusions ..................................................................................... 21 3. The key Value Driver of UBER and its role in UBER ............................................ 22 3.1 A Debate on Value Driver- User Data and Participation Vs IP ......................... 22 3.2 USER Data vs. IP in UBER ............................................................................... 22 3.3 Interim Conclusions ........................................................................................... 24 3.4 Role of User Data in UBER ............................................................................... 25 3.5 Spectrum of User Activity in UBER .................................................................. 26 3.6 Concluding Remarks. ......................................................................................... 28 4. Tensions in International Tax Law caused by UBER .............................................. 28 4.1 Source Concept and UBER ................................................................................ 29 4.2 Source Rule and UBER ...................................................................................... 30 4.3 Fixed PE Rule and UBER .................................................................................. 31 4.4 Dependent Agent PE and UBER ........................................................................ 33 4.5 Service PE Rule and UBER ............................................................................... 34 4.6 Interim Conclusions ........................................................................................... 36 4.7 Connected PE concepts for the purpose of Attribution of Profits ...................... 36 4.7.1 Separate Independent Entity Concept and UBER ....................................... 36 4.7.2 Separate Independent Entity Rule and UBER ............................................. 37 4.8 Concluding Remarks .......................................................................................... 39 5. Modified Source Rule and its Scope for Allocation of Taxing Rights .................... 40 5.1 Reinventing Source Rule .................................................................................... 41 5.2 Is Mere Creation of Market an Indicator of Income Production Function? ....... 41 5.3 Customer in a Traditional Business ................................................................... 42 5.4 User in an UBER ................................................................................................ 42 5.5 Source Threshold for UBER .............................................................................. 45 5.5.1 Website or Server as new PE Threshold for UBER .................................... 45 5.5.2 Users as new PE Threshold for UBER ........................................................ 47 5.5.3 Compatibility of User PE in UBER with other elements of PE .................. 47 5 5.6 Interim Conclusions ........................................................................................... 49 5.7 Application of Deemed User based PE for Allocation of Taxing Rights .......... 49 5.7.1 Application of Separate Entity Principle to Deemed User based PE .......... 50 5.7.2 Application of the Arm’s Length Principle to Deemed User based PE ...... 53 5.8 Conclusions ........................................................................................................ 54 6. Conclusions .............................................................................................................. 55 6.1 Need for Locating Solutions outside the PE Concept ........................................ 56 6.2 Characterization of Payments and Consequent Challenges ............................... 56 6.3 Conclusion .......................................................................................................... 57 Bibliography ................................................................................................................ 58 6 1. Introduction Digitalization has become an omnipresent phenomenon touching all spheres of collective and individual life including the way economy functions. Digitalization of economy creates possibilities for borderless business having wider reach without physical presence [1]. These new businesses utilize digital technologies to render individualized services and products creating new streams of revenue through the innovative business model. Further digital businesses do not rely on tangible assets such as real estate; cars; inventory which are considered to be
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