The most expensive thing in a McDonald’s Big Mac is not the patty or the labour cost, but the intellectual property that McDonald’s uses to minimise its tax in Australia. Callum Foote reports on one of the methods the multinationals use to shift profit to tax havens and the government’s response.
The shifting of profits through fees paid on intangible assets such as intellectual property royalties and service fees takes billion of dollars out of the Australian taxation system yearly, and some of the biggest household names are in on the scam: Amazon, Oracle, E-Bay, Accenture, Microsoft.
In 2020, McDonald’s main subsidiary in Australia either paid or owed service fees of $602 million to a shell company in the UK, McDonald’s Asia Pacific. The ABC reported last year that McDonald has indicated this is a royalty fee.
Late last year, France whacked the burger chain with a $1.3 billion fine after French authorities scrutinised royalties sent to a Luxembourg subsidiary.
According to Jason Ward, tax analyst at the Centre for International Corporate Tax Accountability and Research (CICTAR) “These service fees are a form of royalty payments and are charges for the use of intellectual property rights that the global burger giant shifted from Singapore to London.”
In fact, the service fees siphoned offshore to the tax shelter company were more than double the pre-tax profits of $286 million reported in Australia in 2020.
The profits shifted out of Australia in service fees were nearly double the total employee expenses – wages and benefits for all workers – in Australia of $305 million in 2020 and were over $70 million more than the total cost of ingredients and packaging reported by the company in 2020.
So, why is McDonald’s paying hundreds of millions of dollars to itself in royalty payments? “The shifting of profits through service fees has dramatically reduced taxable profits in Australia” according to Ward.
To put it plainly, if McDonald’s Australia can shift its profits to its related companies in tax havens through artificially created royalty payments, then it doesn’t have to pay Australia’s 30% company tax rate on these profits.
An under-reported measure found in the latest federal budget is targeted at clawing back some of the profits being shifted offshore through dodgy royalty or service payments.
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According to Assistant Minister for Competition, Charities and Treasury Andrew Leigh “The government announced as part of its October 22 Budget multinational tax package that, large multinationals will no longer be able to claim deductions for payments made to related parties in relation to intangibles held in low or no tax jurisdictions. The Government will shortly consult on draft legislation detailing the scope of this measure.”
The Government will introduce an anti-avoidance rule to prevent significant global entities (entities with global revenue of at least $1 billion) from claiming tax deductions for payments made directly or indirectly to related parties for intangibles held in low- or no-tax jurisdictions.
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It is easier said than done, though, and the measure is only expected to bring in $250 million over four years from July 1 2023. It covers royalty payments only, and not the other intangibles such as licence and service fees analysed by CICTAR and the Tax Justice Network, a UK based anti tax-avoidance advocacy group.
McDonalds is far from the only multinational company operating in Australia to use this method to shift profits overseas.
Shifting intangibles to tax havens
According to the Tax Justice Network, over the past few years “a large number of patents were shifted to the British Virgin Islands, Barbados, Bermuda and the Cayman Islands, while the inventors of the knowledge being patented were located elsewhere. Almost all patents in Barbados, Bermuda and the Cayman Islands are owned by [multinational enterprises].”
While royalties are distinct from service and licence fees, Ward says that these kinds of payments can be challenging for the ATO to examine “It’s virtually impossible for the ATO to understand the purpose of these fees”.
Service fees are not subject to withholding tax, such as royalties or interest payments, and as such can be vehicles for profit shifting.
They’re all internal related party payments for something that is challenging to define and calculate from the outside which makes for a perfect tax avoidance tool.
Accenture, the American IT company, has listed between $1.8 billion and $2.3 billion in annual revenue in Australia since 2016, but maintained annual corporate income tax payments below $40 million.
This is equivalent to an estimated profit margin of roughly 5% in Australia, compared to the 15% margins that Accenture reports globally. In 2021, Accenture Australia reported a $2.3 billion income with a pre-tax profit of only $113 million. The $839 million in related party transactions included $527 million of ‘purchase consulting services’, $178 million in royalty expense, $123 million in international service expense and $11 million in other service agreement expense.
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“This appears to be an indication that Accenture shifts significant profits out of Australia to artificially reduce taxable income” says the Tax Justice Network.
And these fees take many different forms. CICTAR has conducted an extensive analysis of tech companies operating in Australia and found extensive service fees paid to related parties reducing onshore profit.
Tech companies take big bites, too
Amazon’s local cloud computing business AWS Australia Pty Ltd reported revenues of over $1 billion in 2021, but “administrative expenses” of $1.1 billion resulted in a reported loss. The subsidiary’s related party expenses included a “cloud service fee” of over $223 million and $55 million for intangible assets.
AWS Australia books Amazon’s most profitable result in Australia with an estimated profit margin of 10%, however globally Amazon’s AWS segments book 30% margins or higher.
Tech giant IBM has billions in total income in Australia, but very little in taxable income and did not pay any corporate income tax for years running. In 2019-20, IBM had tax payable of $15 million on taxable income of $131 million and total income of $2.9 billion.
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The Australian subsidiary paid out $363 million in royalty and software license fees in 2020, which were equivalent to 75% of the company’s annual operating costs. This does not include a “Business Service Fee” expense of $197 million in 2020 paid to other related parties or $100 million in interest on related party debt.
It’s a similar story for Microsoft. According to ATO data, Microsoft’s subsidiaries in Australia have an estimated profit margin over the last two years of 7.4%, while its global profit margins over the same period are much higher. In 2021, Microsoft Pty Ltd shows a calculated profit margin would be only 4.5% compared to a global profit margin of 42.3%.
The Australian subsidiary had 2021 revenue of over $5 billion, with pre-tax profit of $231 million and an income tax expense of $91 million. In that year, Microsoft’s primary Australian subsidiary purchased over $3.4 billion in goods and services from related parties, equivalent to 70% of its total revenue.
As with other US IT multinationals, the primary Australian subsidiary is owned via an Irish subsidiary, directly owned by another Luxembourg subsidiary. The Irish subsidiary reported income from royalties of US$33.5 billion in 2020. The Irish corporate tax rate is 12.5%, much more palatable to Microsoft’s accountants than the 30% Australian rate.
Callum Foote was a reporter for Michael West Media for four years.