John Taylor

The government is proposing to reform income tax transfer pricing, with the aim of increasing the amount of tax paid by foreign companies.

The issue became inflamed when Google published its annual results to the Australian Securities and Investment Commission, which showed that it had reported a loss for its Australian business in 2011, and paid a total of AU$74,176 in tax. Some commentators expressed surprise at this.

The government argues that Australia needs to ensure there is not what it calls an “erosion” of the tax base owing to the multinational nature of the Internet sector and the ability of technology companies to shift profits around the globe among different tax jurisdictions. Although governments around the world are belatedly trying to claw back lost tax revenues from the digital economy, their ability to do so may be marginal at best.

Transfer pricing relates to intercompany transactions within multinational companies. Tax authorities can make judgments on whether multinationals are paying the requisite amount of tax on revenue actually earned in the local jurisdiction, with the aim of preventing the company shifting profits to lower tax jurisdictions.

Australia only taxes foreign resident companies on income that is sourced in this country. Australian advertisers booking ads with Google are mostly billed by its Irish subsidiary, and Google Australia hasn’t earned any income on which it should pay tax.

Therefore reforming income tax transfer pricing won’t do anything. It might be that Google Ireland invoices Australian advertisers for advertisements placed on a website on a server located outside Australia. Google can structure the transaction so that Australian law will regard the income as not having an Australian source and hence not being taxable here. There is not likely to be a transfer pricing issue at all, because transfer pricing involves dealings between entities that are connected with each other – under tax treaty rules – or that are not dealing at arm’s length – under domestic law. If Google Ireland and Google Australia are legally at ‘arms length’ there is no transfer pricing issue.

Therefore changing the transfer pricing rules won’t fix the issue with the amount of tax that Google pays in Australia. If Senator Conroy really thinks it is a solution, then he doesn’t understand the problem. The only answer would be for Australia to either change its rules for determining when income has an Australian source or to tax foreign residents on some basis other than their income has an Australian source. Either course would be inconsistent with current international norms.

Professor John Taylor is the Head of Taxation and Business Law at the Australian School of Business