The sustainable development of African countries is hindered by the Base Erosion and Profit Shifting (BEPS) activities of multinational enterprises headquartered in member countries of the Organisation for Economic Co-operation and Development (OECD), such as Canada. These BEPS activities occur as a result of the current global tax system, adjudged by many to be inadequate for modern businesses and the fair distribution of global income.
This article adds to the increasing call for a new international tax system, which aligns where taxable profit is returned with the jurisdiction where the economic activities occur, and value is created. The argument is that this system will lead to a fair distribution of global income, providing African countries with the needed revenue to achieve the SDGs.
How the Issue Arose
As a member of the OECD, Canada forms part of a network of economically and geo-politically powerful countries that generally follow cooperative consensus positions in designing their tax rules for international trade and commerce. Integral to this ongoing cooperative consensus is the concept that multinational companies—such as Apple, Exxon, Glencore, Standard Chartered Bank, Alibaba, or LG—may and should be viewed as separable for tax purposes. This means that when it comes to taxation, every corporate entity is seen as making its own way in the world separate and apart from its affiliates and owners. This separate entity accounting treatment of multinational entities is embedded in tax treaties negotiated with African countries. It has also been adopted in the national tax laws of African countries, largely influenced by multinational entities and supranational bodies such as the OECD. This separate entity accounting standard is incompatible with economic reality. It fails to recognise the economies of scale, scope, synergy and the interrelation of diverse activities created by integrated businesses, which are integral to the corporate group. It denies the fact that the commercial activities of related entities are not necessarily decided on standalone transactional basis. Business transactions between related entities are structured to promote the common enterprise and increase the total profit of the corporate group. Notwithstanding its limitations, all the major OECD nations including Canada have generally adhered to it (separate entity accounting standard) perhaps because this way of seeing the world gave countries a rational way to divide the global tax base and thereby facilitate international trade and commerce that would be impeded if multiple countries were to tax the same income.
Unfortunately, this consensus, built to prevent double or multiple taxation, has created a world in which multinationals carefully and meticulously arrange their affairs to avoid taxation wherever possible. They often accomplish this by strategically locating expenses or losses where taxes are high, and profits where taxes are low. African countries are worse hit by these BEPS activities. The OECD’s BEPS project theoretically addresses this issue. However, so long as the OECD continues to treat multinationals as separable for tax purposes, it is unlikely that countries will successfully end or even slow the pace of tax avoidance. Abating tax avoidance is even more unlikely for those countries with the least resources to dedicate to tax collection and enforcement measures.
Canadian mining companies operating in African countries provide a vivid illustration of the problem of BEPS activities of multinationals in Africa. As of 2016, some ninety-six (96) Canadian mining companies were operating in African countries, where they held over US$28 billion in assets. Some reports put the share of the global extractive industries occupied by Canadian mining companies at 75 percent. This is attributable to the favorable conditions created by the Canadian government for mining companies to be headquartered there.
Canada’s investment in mineral resource exploration has been beneficial to the recipient countries in gross domestic product (GDP) terms, as well as in terms of generating revenue for infrastructure and foreign exchange. At the same time, some observers have expressed concern that these Canadian companies are unfairly exploiting the countries in which they are investing. One way in which Canadian companies are accused of exploiting these countries is by having their subsidiaries sell the extracted resources to a related intermediary (in a low-tax jurisdiction) at artificially low prices, and then having the intermediary sell the resources to customers at the much higher global market price. A related accusation is that Canadian companies effectively strip the profit out of their local subsidiaries by creating deductible expenses with debt, management service agreements and other arrangements which are not subject to withholding tax in the source country; again, the payments go to affiliates in lower-tax jurisdictions. These BEPS activities significantly reduce the taxable profits available to these African countries and as such, reduce the revenue needed to meet the SDGs.
In the case of African Barrick Gold Plc v Commissioner General, Tanzania Revenue Authority, the Tanzanian Tax Revenue Appeals Tribunal (the Tribunal) held that African Barrick Gold Plc. (ABG) failed to withhold taxes from payment of dividends to its offshore shareholders and engaged in tax evasion. ABG is a United Kingdom-incorporated company, whose majority shareholder is Barrick Gold Corporation, a Canadian company registered on the Toronto Stock Exchange. ABG has subsidiaries in Tanzania and elsewhere. However, as reported by the judgment, only its Tanzanian subsidiaries are actively engaged in business. In 2012, the Tanzanian revenue authority opened an inquiry into the tax position of ABG, determined that it was resident in Tanzania for tax purposes, and was therefore required to withhold tax on dividends paid to its shareholders. The revenue authority’s position was that since only the Tanzanian subsidiaries were engaged in business, ABG’s dividend distribution must have come from the profits of these Tanzanian subsidiaries. The Tanzanian subsidiaries had all declared losses for the same period (tax years 2010 through 2013) in which ABG distributed the dividends in question.
In its defense, ABG stated that the dividends paid to its shareholders for the period were paid from “distributable reserves created after reduction of the appellant’s capital and IPO proceeds” and not from the undeclared profits of its three subsidiaries in Tanzania.
Rejecting the appellant’s claim, the Tribunal held that it was inconceivable that ABG could pay out significant dividends to its shareholders over four consecutive years when its only assets consisted of the three entities incorporated in Tanzania which had themselves declared losses and paid no dividends to ABG. Agreeing with the submission of the revenue authority, the Tribunal held that the “transactions were simply a design created by the appellant aimed at tax evasion.” Though the judgment did not provide details of the transactions between ABG and its subsidiaries, it could be referring to common tax planning structures where subsidiaries in high tax jurisdictions are structured to continuously declare losses while their earnings are stripped out through management service debts, high interests, technical fees and other earnings stripping devices.
The accusations levied at Barrick are consistent with the claims of a 2015 High-Level Panel Report on illicit financial flows from Africa, commissioned by the African Union (AU)/ Economic Commission for Africa (ECA) Conference of Ministers of Finance, Planning and Economic Development, and chaired by former South African President Thabo Mbeki. The Panel Report claimed that African countries lose US$50 billion in “illicit financial flows,” a figure representing a number of phenomena including excessive tax reductions via transfer pricing. Some analysts dispute these figures. It may be impossible to know with certainty exactly how much tax companies avoid with transfer pricing and income-stripping deductions. It is clear, however that concern about these phenomena drove the OECD to undertake the BEPS project, and that understanding, estimating, and countering tax revenue losses continue to be a major project for a broad range of governmental and non-governmental institutions.
Even so, the basic structure of the international tax regime as constructed through OECD models and guidance has survived the BEPS project, thus appearing to forestall any significant change that would alter the outcomes in the Barrick situation. That basic structure involves the separate entity approach, together with the arm’s length standard, and transfer pricing methodologies devised to implement it. This approach clearly contributed to tax base erosion and profit shifting in the past, and was a topic of extensive attention and debate during the BEPS process. Moreover, there is little argument that the separate entity approach and all the tools to implement it are very complex, and probably too complex and too expensive to manage for many African countries. Yet nothing in the BEPS project, including in the revised transfer pricing guidelines, alters this status quo.
So long as the affiliated businesses of a multinational entity are treated as separate for tax purposes, there is no escape from the complexity involved in measuring the relative artificiality of the transactions among them. All of the problems that have long made it possible to move profits to take advantage of favorable tax regimes persist, as do all of the things that make transfer pricing hard to police—including the absence of reliable comparable transactions and prices, too much maneuvering room in price-setting, and too little ability and time to audit and enforce, especially in African countries.
The limitations of the separate entity accounting treatment of multinational entities call for radical shifts, given that measures adopted so far to improve the system have ended up being palliative, without dealing with the root cause of the issue. To effectively address base erosion and profit shifting in the extractive industries, important measures must be adopted.
First, the global tax system should adopt the unitary taxation of multinationals. This system guarantees that taxable profits are declared where the economic activities occur and value is created. This in turn provides the revenue needed by African countries to eradicate poverty and invest adequately in infrastructure and industries. It also significantly reduces illicit financial flows and strengthens domestic resource mobilization. Unitary taxation “operates from the understanding that the profits generated by integrated firms arise from the integration of their activities.” Under unitary taxation, the corporate group’s global profit is determined by combining its worldwide income, deduction, and credit items. The whole is then divided among the various units, theoretically reflecting where the economic activities take place. Unitary taxation is not a panacea for corporate tax avoidance. There is little doubt that taxpayers would seek to defeat any revenue gains achieved by turning from separate entity to unitary taxation. But the question is not whether taxpayers will try to avoid an alternative regime—instead, it is whether the alternative regime could produce better results than those achieved under the status quo, and for whom. To determine this requires study.
Second, the UN, the OECD and other supranational bodies must undertake and commission comprehensive study of unitary taxation of multinational entities. To date, the OECD has been reluctant to study this alternative, because it believes the existing system works and can be improved upon, and also because it realizes the difficulty that must be overcome to achieve consensus on any new international tax system. However, the International Monetary Fund (IMF) recently opened the discourse by hosting a panel on the topic at its 2018 annual meetings. Not surprisingly, introducing such a significant change has courted much opposition on practical and political grounds. However, those who wish to see the OECD study unitary taxation may be increasing in number and in the intensity of their position. The IMF’s willingness to engage may further the discourse, but the OECD’s position is still key given its central role in tax policymaking.
Embracing unitary taxation of multinationals ensures that profits are declared and taxed where the economic activities occur. This ensures that the SDGs are more likely to be met. However, if the OECD will not take even the first steps to study unitary taxation with the same vigor and enthusiasm with which it has long studied and refined separate entity and arm’s length pricing, it may be doing little more than delaying adoption of the best solution to reducing illicit financial flows, thereby not achieving target 16.4 of the SDGs or meeting other SDG targets.
 2017 OECD Model, supra note 2, article 7 (Business Profits) and article 9 (Associated Enterprises) (setting out the separate entity treatment of branches and subsidiaries of parent companies).
 See Robert Couzin, “Policy Forum: The End of Transfer Pricing?” (2013) Canadian Tax Journal, Vol. 61, No. 1, 159-78.
 See, e.g., Bret Wells & Cym H. Lowell, “Income Tax Treaty Policy in the 21st Century: Residence vs Source” 5 Colum. J. Tx. L. 1.
 See OECD, Aligning Transfer Pricing Outcomes with Value Creation, Actions 8-10 - 2015 Final Reports, OECD/G20 Base Erosion and Profit Shifting Project, OECD Publishing, Paris (2015).
 Ibid. Some of these conditions include: lax listing requirements on the Toronto Stock Exchange; lax disclosure requirements and the Canadian government’s unbothered approach to the tax obligations of Canadian companies abroad.
 Canadian companies are present in Western Africa (42 companies), Eastern Africa (27 companies) and Southern Africa (25 companies). See supra note 9. All three regions experienced significant GDP growth in the last two decades.
 See Kato Lambrechts, “Breaking the Curse: How Transparent Taxation and Fair Taxes Can Turn Africa’s Mineral Wealth into Development” (2009), Open Society Institute of Southern Africa.
 See Lambrechts, supra note 13.
 African Barrick Gold supra note 16, p. 2. This is one case where the tribunal used tax evasion and avoidance, interchangeably. For the distinction between tax evasion and avoidance, see Allison Christians, “Avoidance, Evasion, and Taxpayer Morality” (2014) 44 Wash. U.J.L. & POL’Y 39.
 Barrick Gold Corporation holds 63.9% of the shares of Acacia Mining Plc. See Acacia Mining Plc, supra note 16, p. 116.
 African Barrick Gold, supra note 16, p. 2.
 Thomas Torslov, Ludvig Wier and Gabriel Zucman, “The Missing Profits of Nations”, NEBR Working Paper, No. 24701 (2018).
 The High-Level Panel Report defined illicit financial flows as “money illegally earned, transferred or used”, extending its scope to base erosion and profit shifting activities, such as transfer mispricing. Ibid., p. 15.
 Alex Cobham & Petr Janský, “Global Distribution of Revenue Loss From Tax Avoidance: Re-Estimation and Country Results”, WIDER Working Paper 2017/55 (Helsinki, UNU-WIDER, 2017)
 See OECD, Preventing the Granting of Treaty Benefits in Inappropriate Circumstances, Action 6 - 2015 Final Reports, OECD/G20 Base Erosion and Profit Shifting Project, OECD Publishing, Paris (2015).
 Michael Durst, “Limitations of the BEPS Reforms: Looking Beyond Corporate Taxation for Revenue Gains”, ICTD Working Paper 40 (2015).
 The arm’s length standard requires that related entities act as independent parties would in a given transaction.
 Richard Collier and Joseph Andrus, Transfer Pricing and the Arm’s Length Principle After BEPS, (Oxford University Press, 2017).
 Attiya Waris, “How Kenya has Implemented and Adjusted to the Changes in International Transfer Pricing Regulations: 1920-2016”, ICTD Working Paper 69 (2017).
 Durst, supra note 30.
 See Sol Picciotto, “What Have We Learned About International Taxation and Economic Substance?” ICTD Summary Brief 9 (2017).
 Sol Picciotto, “Is the International Tax System Fit for Purpose, Especially for Developing Countries?” ICTD Research in Brief 8 (2014).
 See Erika Siu, Sol Picciotto, Jack Mintz, Akilagpa Sawyerr, “Unitary Taxation in the Extractive
Industry Sector”, ICTD Working Paper 35 (2015). Developing countries could in addition, adopt the use of royalties and fees to extract further value from increased prices of commodities, scarcity of commodities and exploitation risks and consequences. While unitary taxation addresses pricing issues which reduce taxable profits, royalty and fees particularly capture the value of the commodities.
 Alexander Ezenagu, “Faltering Blocks in the Arguments against Unitary Taxation and the Formulary Apportionment Approach to Income Allocation”, Asper Review of International Business and Trade Law Vol. 27 (2017).
 Mark Segal, “The Unitary Tax Reconsidered” (1994) J Applied Business Research, Vol. 10, No. 3.
 Harry Grubert and Rosanne Altshuler, “Fixing the System: An Analysis of Alternative Proposals for the Reform of International Tax”, National Tax Journal Vol. 66, No. 3 (2013).
 See Julie Roin, “Can the Income Tax be Saved? The Promise and Pitfalls of Adopting Worldwide Formulary Apportionment”, (2008) Tax Law Rev., Vol. 61, No. 3.
 See OECD, OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations, Paris (2017).
 IMF, “Splitting the Riches: The Present and Future of Taxation by Formula”, April 22, 2018.
 Roin, supra note 41. See also Romero Tavares, “Multinational Firm Theory and International Tax Law: Seeking Coherence”, (2016) 8 World Tax Journal 2.
 See, e.g., Reuven Avi-Yonah, “Between Formulary Apportionment and the OECD Guidelines: A Proposal for Reconciliation”, (2009) Law & Economics Working Papers Archive: 2003-2009, Art. 102.
Author: Alexander Ezenagu is an International Lawyer/Consultant/Academic specializing in Taxation, Trade and Investment, Developmental Governance and Illicit Financial Flows.
A version of this article was published by the Centre for International Governance Innovation (CIGI), available at: https://www.cigionline.org/publications/unitary-taxation-multinationals-implications-sustainable-development.
* The views contained in this article are attributable to the author and do not represent the institutional views of the South Centre or its Member States.
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