When Airbnb and Uber start earn­ing money, tax­ing them will be tricky

▶ ▶ When Airbnb and Uber start turn­ing prof­its, where will the tax money go? ▶ ▶ “These com­pa­nies are the fu­ture.... The lost rev­enue may be enor­mous”

Bloomberg Businessweek (North America) - - Contents - David Ko­cienewski

Ev­ery time Ian Haines rents out his spare room in the Aus­tralian port city of Al­bany, Airbnb takes a 13 per­cent cut. Haines, who’s semi-re­tired, uses the ex­tra money to sup­ple­ment his in­come run­ning a lo­cal farm­ers mar­ket. He says he’s care­ful to pay taxes on the Airbnb money, be­cause the San Fran­cisco com­pany may re­port the trans­ac­tions to the Aus­tralian gov­ern­ment.

For Airbnb, things are dif­fer­ent. Be­cause it man­ages its fi­nances via units in Ire­land and tax havens like Jersey in the Chan­nel Is­lands, only a small part of its share of the rev­enue is ever likely to be taxed by Aus­tralia or the U.S. A re­view of Airbnb’s over­seas reg­u­la­tory fil­ings shows it has a far more ex­ten­sive web of sub­sidiaries than it has pub­licly ac­knowl­edged—more than 40 in all.

This is the chal­lenge that Airbnb, like Uber and other com­pa­nies in the so-called shar­ing econ­omy, poses for the world’s trea­suries. In the five years since these busi­nesses be­gan their rapid growth, some cities and states around the globe have fought hard to make them play by the same rules as tra­di­tional ho­tels or taxis and col­lect var­i­ous lo­cal taxes—of­ten as not, they’ve lost. As the new breed of com­pa­nies moves to­ward prof­itabil­ity, trans­form­ing larger chunks of the econ­omy, pol­icy ex­perts say the bat­tle is likely to shift to the na­tional level, where bil­lions of dol­lars a year in cor­po­rate taxes could be at risk. (A source close to Airbnb says the com­pany will turn its first profit this year.) Gov­ern­ments have been slow to re­spond.

“These com­pa­nies are the future,” says Stephen Shay, a for­mer top in­ter­na­tional tax lawyer at the U.S. Depart­ment of the Trea­sury, now teach­ing at Har­vard. “The na­ture of their busi­ness and the struc­ture of the com­pa­nies can al­low them to es­sen­tially keep all of their prof­its out of the U.S. Un­less the tax sys­tems find a way to deal with this, the lost rev­enue may be enor­mous.”

For years, phar­ma­ceu­ti­cal and tech com­pa­nies in­clud­ing Pfizer, Merck, Google, and Ap­ple have slashed their U.S. fed­eral tax bills by us­ing off­shore tax havens and shift­ing prof­its abroad. Airbnb and Uber are start­ing to ex­tend this strat­egy across vast new fields: Price­wa­ter­house­coop­ers es­ti­mates that sharinge­con­omy busi­nesses gen­er­ated $15 bil­lion in rev­enue in 2014 and will take in $335 bil­lion in 2025, grow­ing largely at the ex­pense of com­pa­nies that pay bil­lions in U.S. taxes.

It’s not al­ways a zero-sum game; the newer busi­nesses can ex­pand the over­all mar­ket. The IRS, which has been de­pleted by bud­get cuts and lost sev­eral high­pro­file cor­po­rate tax cases, says it hasn’t tried to cal­cu­late the po­ten­tial rev­enue loss. While Trea­sury has pro­posed some mea­sures in re­cent years to curb tax avoid­ance by dig­i­tal com­pa­nies—on April 4, the depart­ment is­sued rules lim­it­ing tax shift­ing through merg­ers— par­ti­san divi­sion in Con­gress makes se­ri­ous changes un­likely.

Airbnb of­fi­cials de­clined to dis­cuss tax strate­gies. “We pay all of the tax that is due in all of the places that we do busi­ness,” says spokesman Nick Pa­pas. “When we make long-term busi­ness de­ci­sions, we act in the best in­ter­est of our com­mu­nity.”

Once it makes a profit, Airbnb’s cor­po­rate struc­ture will give it an ar­ray of op­tions to legally side­step fed­eral taxes in the U.S. and else­where. Two of its sub­sidiaries are in Ire­land, where lo­cal tax laws al­low U.S. multi­na­tion­als to avoid both the 35 per­cent top rate

in the U.S. and Ire­land’s 12.5 per­cent in­come tax.

Money from Airbnb trans­ac­tions in 190 coun­tries, in­clud­ing Haines’s rentals in Aus­tralia, goes di­rectly to a pay­ment cen­ter in Ire­land. Airbnb col­lects 6 per­cent to 12 per­cent of the rental price, depend­ing on cost, then deducts 3 per­cent from the host’s take be­fore pass­ing the money along. This lets Airbnb shield most of its profit from the coun­try where the ser­vice was de­liv­ered. (Airbnb Ire­land pays the Aus­tralian sub­sidiary a small fee for mar­ket­ing in-coun­try, and the sub­sidiary pays tax on its prof­its.)

Ir­ish law makes it easy for multi­na­tion­als to shift prof­its to tax havens by as­sign­ing valu­able in­tel­lec­tual prop­erty rights there. Airbnb has two sub­sidiaries, Airbnb In­ter­na­tional Hold­ings and Airbnb 2 Un­lim­ited, on Jersey, which has no cor­po­rate tax. Tax ex­perts say that if Airbnb as­signs its soft­ware IP to a Jersey unit, the com­pany could shift much of the profit to the haven through roy­alty pay­ments from its Ir­ish sub­sidiary. Pharma and tech com­pa­nies have used sim­i­lar strate­gies to cut their over­all tax rates to the low sin­gle dig­its.

The Aus­tralian Se­nate called lo­cal man­agers to tes­tify along­side Uber in Novem­ber at a pub­lic hear­ing on cor­po­rate tax avoid­ance. Sam Mcdon­agh, Airbnb’s coun­try man­ager there, tes­ti­fied that taxes never mo­ti­vate the com­pany’s strate­gic choices. “The No. 1 rea­son we lo­cated our­selves in Ire­land was for ac­cess to great tal­ent,” Mcdon­agh said. The re­sponse from one of the sen­a­tors: “Come on!”

What­ever Airbnb’s mo­ti­va­tion, the re­sult is tax-min­i­miz­ing op­tions un­avail­able to tra­di­tional com­peti­tors. While Airbnb doesn’t own the prop­er­ties rented on its site, it lists about 2 mil­lion rooms—as many as the Wyn­d­ham, Hil­ton, and Mar­riott chains com­bined. Those three hote­liers av­er­aged a com­bined an­nual profit of $2.3 bil­lion from 2013 to 2015, ac­cord­ing to their Se­cu­ri­ties and Ex­change Com­mis­sion fil­ings, and paid hun­dreds of mil­lions of dol­lars a year in U.S. fed­eral taxes.

Uber pro­cesses pay­ments for rides out­side the U.S. through the Nether­lands, a com­pany of­fi­cial tes­ti­fied at the hear­ing in Aus­tralia. Last fall, For­tune re­ported that, ac­cord­ing to pre­sen­ta­tions to in­vestors, Uber had as­signed its IP to the tax haven of Ber­muda, leav­ing less than 2 per­cent of its net rev­enue tax­able by the U.S.

Out­side the U.S., there have been a few re­cent at­tempts to crack down on cor­po­rate tax avoid­ance. In Jan­uary the U.K. in­sti­tuted the “Google Tax,” a 25 per­cent levy on any profit deemed im­prop­erly di­verted, and Ire­land be­gan elim­i­nat­ing some loop­holes, in­clud­ing the in­fa­mous “Dou­ble Ir­ish,” last year. Google says it’s not sub­ject to the Google Tax, and ac­coun­tants are al­ready pitch­ing com­pa­ra­ble al­ter­na­tives to the Dou­ble Ir­ish in Malta and the United Arab Emi­rates.

The Or­gan­i­sa­tion for Eco­nomic Co-op­er­a­tion and De­vel­op­ment is craft­ing more tech­ni­cal ways to block profit shift­ing. “We can de­bate whether most of the value of a plat­form is cre­ated in Sil­i­con Val­ley, where it was de­vel­oped, or in Ire­land, where it is man­aged, or wher­ever the ser­vice is de­liv­ered,” says Pas­cal Saint-amans, di­rec­tor of the OECD Tax Cen­tre. “You can­not rea­son­ably ar­gue that value is cre­ated in the tax haven where the plat­form’s only pres­ence is a shell com­pany.”

As home to most of the big com­pa­nies in­volved and the only ma­jor coun­try that taxes its multi­na­tion­als’ world­wide in­come, the U.S. likely has the most at stake. In dead­locked Wash­ing­ton, the Obama ad­min­is­tra­tion’s pro­pos­als have in­cluded a min­i­mum tax of 19 per­cent on U.S. cor­po­ra­tions’ global earn­ings, re­gard­less of whether the money ends up in the U.S., as well as stricter lim­its on de­fer­ral of over­seas in­come and use of cor­po­rate struc­tures that leave some in­come un­taxed by any coun­try.

“At some point, some­thing has to be done,” says Reu­ven Avi-yonah, an in­ter­na­tional tax pro­fes­sor at the Univer­sity of Michi­gan Law School. “We just have to hope that it hap­pens be­fore too much rev­enue is lost.”

The bot­tom line Airbnb’s more than 40 sub­sidiaries may help the com­pany lower its tax bill in the U.S. and other coun­tries.

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