Taxing the Digital Economy

Date Published
September 14, 2021

Mobile apps, such as Grab—a ride-hailing service that expanded to food delivery and package delivery, have thrived in Southeast Asia's booming digital economy. Photo credit: ADB.

Countries in Southeast Asia are banking on the surge in e-commerce during the COVID-19 pandemic to help revive their economies. However, they face serious challenges in fully reaping the benefits of a digital economy. These include taxing online transactions and services, which will require updating and harmonizing tax regulations across borders as well as upgrading tax monitoring systems.

Global and regional initiatives to strengthen tax cooperation will be key to overcoming the challenges posed by increased digitalization and globalization. This includes an OECD/G20-led multilateral agreement that is expected to be finalized in October.

Outdated tax regulations

A policy brief from the Asian Development Bank Institute (ADBI) noted in 2017 that the “rise of the digital economy will create challenges for international taxation as well as domestic tax revenue mobilization, including determining where tax must be paid, collecting value-added-tax (VAT), and clarifying the treatment of workers in the new economy.” It notes that tax regulations and systems have not been able to keep up with the rapid growth of digital trade platforms, i.e., mobile and internet commerce. They are still “rooted in clear-cut jurisdictional barriers.”

At a regional consultation on taxation in June, John Versantvoort, who heads the Asian Development Bank’s anticorruption and integrity office, remarked that the accelerated trend toward digitalization because of mobility restrictions during the pandemic has “exacerbated the imbalances and inequities resulting from an outdated international taxation system unsuited to the digital economy.” He said the OECD/G20 Inclusive Framework on Base Erosion and Profit Shifting (BEPS) is “a new landmark for global tax cooperation,” and it provides for a multilateral and consensus-based solution to taxing the digital economy.

Base erosion and profit shifting are tax planning schemes, which may or may not be legal. These entail using deductible payments (e.g., interest, royalties) to erode tax bases or artificially shifting profits to low or no-tax locations.

A two-pillar approach

The Inclusive Framework provides for a two-pillar plan to reform international taxation rules and ensure that multinational enterprises (MNEs) pay a fair share of tax wherever they operate. The first pillar ensures a fairer distribution of profits and taxing rights among countries with respect to the largest MNEs, including digital companies. It would re-allocate some taxing rights over MNEs from their home countries to the markets where they have business activities and earn profits, regardless of whether firms have a physical presence there. The second pillar puts a floor on competition over corporate income tax, through the introduction of a global minimum corporate tax rate that countries can use to protect their tax bases.

The two-pillar package is expected to help governments raise revenues for a resilient post-COVID recovery. OECD estimates that taxing rights on more than $100 billion of profit are expected to be reallocated to market jurisdictions each year under the first pillar. The global minimum corporate income tax of at least 15% under the second pillar is estimated to generate around $150 billion in additional global tax revenues annually. Additional benefits will also arise from the stabilization of the international tax system and the increased tax certainty for taxpayers and tax administrations.

The conclusion of multilateral negotiations on the final agreement and implementation plan has been set for October. Negotiators are aiming for implementation to start in 2023.

To date, 140 countries and jurisdictions, representing more than 90% of global GDP, support the framework, in tackling tax avoidance. So far, these include six ASEAN countries— Brunei Darussalam, Indonesia, Malaysia, Singapore, Thailand, and Viet Nam.

ASEAN initiatives

ASEAN has its own forum on taxation to promote cooperation on cross-border tax matters as well as improve the efficiency of tax administration. Initiatives include creating a network of bilateral agreements on avoidance of double taxation, addressing withholding tax and double tax issues, and enabling the automatic exchange of information to reduce tax evasion.

Countries in Southeast Asia face common challenges in tax collection, including a small tax base, high rate of tax avoidance, and a large informal economy.

A report from the ADB notes that tax yields in many countries in the region have not increased in proportion to their economic gains before the crisis. Their tax yields have not reached 15% of their gross domestic product (GDP), which is considered the minimum requirement for sustainable development.