It is seriously odd being out of the country when seminal events occur.

On that Friday I was in London. Waking at 4.30 am and checking Facebook. Just coz.

My Christchurch based SIL posted that she was relieved now she had picked up her kids from school. Sorry what? Thinking there might have been another earthquake I checked the Herald app.

Oh right.

In the swirl of issues has come the suggestion Facebook and Google should be taxed into compliance. Of course a boycott could be equally effective. Except if users of Facebook are anything like your correspondent and there is inelastic demand. Possibly not at insulin levels but until demand changes I am not sure taxation would be that effective.

But the whole issue of tax and Facebook, Google and Apple has been a running sore for many years now and so I thought I’d take a bit of time to go through the background of it all. [Really keen readers though could search Cross border taxation on the panel on the right for more detail]. Future posts will look at what is being proposed as a solution in New Zealand and by the OECD.

Background to the background

The international tax framework since like forever aka League of Nations – before even I was born – has been that the country that the taxpayer lives in or is based in – residence country – can tax all the income of that taxpayer. Home and abroad – all in.

Where it gets tricky is the abroad part. As the foreign country, quite reasonably, will want to tax any income earned in its country – source country.

So the deal cut all those years ago – and is the basis of our double tax treaties – was:

For business income the source country gets first dibs if the income was earned through the foreign taxpayer physically being in their country – office, factory etc. Rights to tax were pretty open ended and the residence country of the taxpayer would give a credit for that tax or it would exempt the income.

So far so good.

Except if there were no physical presence then there was no taxing rights. But in League of Nations times – or even relatively recently like when I first went to work – the ability to earn business income in a country without an office or factory was pretty limited. So as constraints go – it kind of went.

For passive income like interest, dividends, and royalties the source country could tax but the rate of tax was limited. 10-15% was standard. And again the residence country gave a tax credit for that tax or exempted the income.

Presenting problem

Looking now at our friends Apple, Google and Facebook. Apple provides consumer goods and Google and Facebook provide advertising services.

When your correspondent started work, foreign consumer goods arrived in a ship, were unloaded into a warehouse and then onsold around the country. Such an operation would have required a New Zealand company complete with a head office, chief executive and a management team. All before you got to getting the goods to shops to sell.

Such an operation would most likely have involved a New Zealand resident company. Even if it didn’t no one would be arguing about a physical presence of a foreign company as – to operate in New Zealand – it would have needed more physical presence than Arnold Schwarzenegger. And yes both creatures of the eighties.

For advertising services, no ships involved but people on the ground hawking classified and other ads for newspapers. Again more physical presence than Princess Di. [Getting to the point – promise – as am now running out of 80’s icons]

Now internet enter stage left.

For goods consumers now don’t need to go to a shop. iPads and iPhones bought on line. Physical presence non existent along with (income) taxing rights.

For services – more interesting. Still seems to be some presence but like – sales support – not like completing contracts. So no taxable presence and no (income) taxing rights.

At this point the Tax Justice outrage, BEPS and the Matt Nippert articles started. The UK and Australia brought in a diverted profits tax and our government did something.

Phew. So everything is ok now.

So why then is the Government making announcements and the OECD still doing stuff?

Next post. Promise.

Andrea