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transfer pricing

When is tax avoidance tax fraud? Remarks to the FS Tax Conference 2020

23rd November 2020 by George Turner

Our Director, George Turner was recently asked to speak on a panel at the Hansuke Financial Services Tax Conference, during a session on tax fraud. The panel was moderated by Alice Kemp, Barrister at RPC and included Simon York, Director of the Fraud Investigation Service at HMRC, Donal Griffin, Financial Reporter at Bloomberg, Eric Ferron, Director General of Criminal Investigations at the Canadian Revenue Authority and Michael Sallah, Senior Reporter at the International Consortium of Investigative Journalists.

His remarks focused on whether tax avoidance could and should be subject to criminal investigation and prosecution.

George Turner’s remarks at the panel on Tax Fraud, Thursday 19th November:

Thank you so much for inviting me, it is really a privilege to be invited to talk on such a high profile panel.

Much of the focus of investigative journalism over the last ten years has focused on tax avoidance.

And it is held as an article of faith by many journalists, politicians and society more widely that there is a clear dividing line. Tax avoidance is legal, while tax evasion is illegal.

This faith has developed for a number of reasons. For journalists the idea that tax avoidance is legal provides a convenient defence against libel. How can someone be defamed for being accused of doing something legal?

A tax avoidance industry that makes billions of dollars a year selling and marketing tax avoidance schemes around the world wouldn’t make nearly as much money telling people that their schemes are potentially criminal.

However, without wanting to cast aspersions on the concept of faith more generally, this particular faith is a fiction.

In English law tax evasion is most often prosecuted under the Common Law Offence of Cheating the Revenue, where the potential liability is draconian in comparison to what we heard from Eric earlier about the criminal code in Canada. Cheating carries with it a maximum penalty of life imprisonment and an unlimited fine.

It is defined by the Oxford Dictionary of Law Enforcement as: “To make a false statement relating to tax with intent to defraud the Crown… or to deliver or cause to be delivered a false document relating to tax with similar intent.”

There is no requirement for the offence to be committed by the taxpayer, it can be committed by anyone who advises the taxpayer, or assists them in the preparation of a tax return, i.e. an accountant or a lawyer.

There is no requirement for concealment or deception, the conspirators can be open about what they are doing. There is not even a requirement for the revenue to demonstrate any actual loss.

As set out in the leading textbook on English criminal law:

“It is difficult to see how the offence could be stated in more expansive terms. The offence is of course even broader when charged as a conspiracy to cheat, as it often is.”

What this means is that pretty much the only issue at trial is whether the tax position being claimed is honest.

So what is dishonesty, in the legal sense? Quite simply, as has now been put beyond doubt by the Supreme Court, dishonesty is simply not being honest, and is judged against the standards of ordinary decent people.

This is an important point, because up until recently the courts believed that in order to be convicted of a crime of dishonesty the prosecution had to prove that the person committing the crime knew that they were being dishonest, that is now no longer a requirement, for the obvious reason that the more dishonest someone is the harder it would be to convict them. As put succinctly by Lord Nicholls “Honesty is not an optional scale, with higher or lower values accordingly to the moral standards of each individual”.

Now lets consider for a moment what the design and promotion of a tax avoidance scheme means in practice. Tax avoidance as understood by tax law, is where a real economic transaction is made to appear to be something else in order to cause a loss to the revenue, a gain for the taxpayer, and a healthy fee for the scheme operator.

This often involves a set of contrived or artificial transactions with no real business purpose, which means that the transactions do not provide an honest representation of the real economic position of the person or company involved.

In corporate taxation this can often mean things like paying royalties, commissions and management fees to shell companies that employ no staff or have no discernable operations. For individuals this often means the creation of fake investment losses, which are written off against a tax liability but are never in reality suffered.

Given widespread and targetted anti anti-avoidance rules schemes often require an element of concealment, which is why accountants and lawyers fight so hard to keep their advice from entering the public domain, or from being disclosed to tax authorities.

Now putting this together, we can see that many, and in my opinion the majority of tax avoidance schemes could easily fall foul of the law on cheating. Where there has been an active attempt to conceal the scheme, or a failure to information relating to a scheme, that is clearly fraud.

Given the ultimate judge of whether or not a scheme is dishonest is a group of randomly selected members of the public, and the total disdain with which the public view tax avoidance, I think many tax avoidance schemes, if put before a jury would be found to be dishonest, and therefore criminal.

In the past, the UK has prosecuted barristers and accountants for operating and tax avoidance schemes, although such examples are relatively few and far between.

We heard from Michael earlier the issues with deferred prosecution agreements in the US. In the US, the IRS has done what he UK never has, and prosecuted big four accountancy firms firms for their role in designing and selling tax shelters to high net worth individuals.

A previous head of HMRC, Dave Hartnett, once famously told a journalist that the reason why HMRC did not prosecute as many cases of tax fraud in the tax advisory profession compared to the US, was simply because advisers in the UK were more honest than American advisers.

Make of that what you will!

But the simple fact is there is no requirement in the UK, and I think elsewhere to prosecute tax fraud as a criminal offence. Tax authorities can instead seek to claim back any taxes lost through the civil legal process.

In many cases these civil cases do not even come to court, with the taxpayer settling the case. Indeed, there is no requirement on tax authorities to plead fraud at all, with many cases involving clearly fraudulent schemes being considered under anti-tax avoidance laws with no specific allegations of fraud being made out.

This approach clearly can have advantages for tax authorities which are focused on revenue raising, however it is also an approach which in my view encourages avoidance.

It must be said that it is HMRC’s policy that they will not prosecute most cases of tax fraud as a criminal offence, instead having a preference to pursue civil claims. This is clearly stated in HMRC’s criminal investigation policy which states the following:

“It’s HMRC’s policy to deal with fraud by use of the cost effective civil fraud investigation procedures under Code of Practice 9 wherever appropriate. Criminal investigation will be reserved for cases where HMRC needs to send a strong deterrent message or where the conduct involved is such that only a criminal sanction is appropriate”

This does sometimes lead to some bizarre outcomes, such as one case this year, Lindsay Hackett vs HMRC where HMRC was seeking a £13m fine from an individual involved in a fraudulent VAT scheme. The individual in question sought to claim that it was an abuse of process to not try them in a criminal court, where they would have greater procedural protections.

As the judge in the case noted, it is not often that someone expresses a preference for a criminal trial!

Another good example of this policy in action was provided this week, with the front page of the Financial Times declaring a new crackdown on corporate tax avoidance.

This related to a disclosure facility regarding corporate profit shifting. The disclosure facility was prompted by a series of investigations into large multinationals in the UK. If you look at what HMRC says about those investigations they say:

“HMRC has found that some Multinational Enterprises have adopted cross border pricing arrangements which are based on an incorrect fact pattern.”

What is an incorrect fact pattern if not a lie? An alternative fact perhaps?

It goes onto say:

“Some have made incorrect assumptions, or not implemented arrangements as originally intended or declared to HMRC, so that there is a divergence between the fact pattern on which the Transfer Pricing analysis is based, and what is actually happening on the ground. This could be for a variety of reasons, including incorrect or misleading statements on the nature or relative value of functions, assets and risks.

The description of the behaviours outlined by HMRC clearly point to fraud, but all HMRC are doing is inviting its large business customers to make a voluntary disclosure to resolve the matter.

I don’t think this approach will be sustainable in the future. Partly because there will be institutions like TaxWatch seeking to push government to take a stronger approach to tax fraud, and also because as we emerge from the Coronavirus crisis and governments start asking the public to contribute to paying back the vast amounts of money spent over the last six months, I do not think the public are going to tolerate an approach where people and companies committing tax fraud are spared a criminal prosecution.

Netflix

Netflix UK revenues hit an estimated £1bn, but will the company start paying any corporation tax?

3rd February 2020 by George Turner

Netflix’s latest earnings report, published on 21 January, showed that 2019 was another bumper year for the company. Revenue in the 4th quarter was up 31% on the previous year, with the company clocking up $20bn in revenues worldwide over the course of the year.

Operating profit rose an enormous 61% in 2019 and the company reached 100m subscribers outside of the US. Pre-tax profits jumped from $1.2bn in 2018 to $2bn in 2019.

But how much of that profit will end up taxed in the UK?

The answer is likely to be not much. In 2018 the company reported revenues of £43.3m and profits of just £2m at its main UK company, Netflix Services UK, and paid no tax. In fact it received a tax credit under the creative industry tax relief scheme. This is despite the fact that in the same year, Netflix will have generated an estimated £860m in revenues from its UK customers. As we set out in our recent report, No Tax and Chill, subscription fees from UK customers are billed by Netflix from a company in the Netherlands. This explains why so little revenue and profit end up in the UK.

Netfix has not yet published its UK accounts, but as far as we are aware, the company structure has not changed. Our latest analysis, based on Netflix’s recent earnings reports, suggests that Netflix revenues from UK customers increased sharply to an estimated £1.08bn in 2019 – all billed to its Dutch subsidiary. This should have generated an estimated £68.5m in profit, giving rise to a tax liability of £13m.

Our analysis is based on the following data:

The Broadcasters Audience Research Board shows that Netflix had 11.5m subscribers in the UK in Q1 2019, 11.62m in Q2, and 11.77m for Q3 2019. We have taken the midway point of 11.62m as the average number of Netflix subscribers for 2019.

The latest financial data published by Netflix in January 2020 shows that the company made an average revenue per user of $10.33 per month in the Europe, Middle East and Africa region in 2019. This would suggest that Netflix made $1.44bn from UK subscribers in 2019. This is 13.5% of all revenue that Netflix makes outside of the United States.

The latest Netflix financial data states that the company’s international streaming operations made “Contribution Profit” of $1.6bn in 2019. This would suggest that the UK contribution profit would be $217m.

Contribution profit is gross profit after the deduction of marketing costs. On top of that Netflix has financing costs and other shared operational costs. On a consolidated basis, profit before tax is 41% of contribution profit. This would suggest that UK pre-tax profits are in the region of $89m, or £68.5m. Applying a 19% tax rate this should have generated a tax liability of £13m.

Whether Netflix ends up paying anything close to that remains to be seen. However, it does appear that the structure employed by Netflix has come to the attention of the UK tax authorities, HMRC, as the latest Netflix 10-K report published in late January 2020 states that their 2018 tax return is currently under examination by the UK tax authorities.

Response from Netflix

We reached out to Netflix to share our analysis with the company ahead of publication. A spokesperson for the company provided the following response:

“We believe that international taxation needs reform and we support the OECD’s proposal for companies to pay more tax in the countries where their operations help generate value.

In the meantime, we comply with the rules in every country where we operate. The TaxWatch report has a number of inaccuracies, including that Netflix has a Caribbean-based entity. This is no longer the case as we significantly simplified our tax structure last year.

Netflix continues to invest heavily in the UK – spending more than £400 million on local productions in 2019, which helped to create over 25,000 jobs and training placements.”

This research was featured in The Times, the Daily Mail, and The Independent among others.

Photo by freestocks.org on Unsplash

World of TaxCraft

Activision Blizzard’s Bermudian Billions

4th August 2019 by George Turner

Activision Blizzard, the publisher of hit games Call of Duty, World of Warcraft, and Candy Crush, moved €5bn to companies in Bermuda and Barbados between 2013-2017.

The report World of Taxcraft details how the corporate structure of Activision Blizzard, which includes subsidiaries in Bermuda, Barbados, Malta and Ireland, manages to move cash into tax havens.

The offshore structure has attracted the attention of tax authorities around the world, which are currently in a series of disputes with the company. Overall the company is facing tax demands of over $1bn from tax authorities in France and Sweden, demands that the company says it will vigorously contest. In addition, the company has set aside £8.5m in relation to an investigation by the UK tax authority, HMRC. The company has also recently settled a dispute with the US authorities for $345m.

The company says it is now seeking to engage pro-actively with tax authorities to ensure it pays the right amount of tax.

The report also looks at the UK government’s attempts to deal with tax avoidance schemes that use royalty payments to move money into tax havens. Activision Blizzard paid royalties of €5bn to companies in Bermuda and Barbados between 2013-2017.

The report concludes that companies will continue to be able to use these kinds of schemes because the UK government’s proposed rules to deal with this kind of avoidance will not apply to transactions made with a number of tax haven jurisdictions, including Barbados.

Speaking on the publication of the report, George Turner, Director of TaxWatch said:

“With the revelation that Activision Blizzard is currently under investigation by a number of tax authorities around the world, and facing a potential liability of more than $1bn in taxes and penalties, the company is taking tax avoidance in the video games industry to the next level.

“I expect many players of Candy Crush would be outraged to find that the payments they make though the game are sent to a company in Malta, even though King, the Activision company behind the game, is managed from London. Players of the hit mobile game are seeking a little bit of light relief from their daily grind. The last thing they want to do is to be a participant in Activision’s tax games.”

“Our research has found that between 2013 and 2017, Activision Blizzard paid €5bn in royalties generated from games such as World of Warcraft and Call of Duty to companies based in Bermuda and Barbados. This shifting of profits using royalty payments to tax haven companies is the same scheme used by Google, which has been heavily criticised by MPs.

“The UK Government is aware that this kind of structure is an abuse of the UK tax system, and introduced new legislation in 2018 to make the UK sourced element of these royalty payments subject to income tax in the UK. However, for some unknown reason the government have excluded payments made to a number of tax havens, including Barbados, ensuring that the new rules will be almost completely ineffective.

“The government needs to change the rules to close down the loopholes they left in the original legislation, and end these royalty based tax avoidance schemes once and for all.”

  • The full report can be found here
  • A PDF version can be downloaded here

This research has been featured in The Sunday Times, along with Gamesindustry.biz, among other video game industry publications.

World of Taxcraft – how Activision Blizzard moves billions to tax havens

4th August 2019 by George Turner
World of TaxCraft

How Activision Blizzard has moved billions of dollars of profit into tax havens

4th August 2019

  • Activision Blizzard, publisher of hit games Call of Duty, World of Warcraft and Candy Crush moved €5bn to companies in Bermuda and Barbados between 2013-2017, documents reveal.

  • The company is currently under investigation by tax authorities in the UK, Sweden and France over alleged transfer pricing irregularities and is is facing a potential bill of over $1.1bn in back taxes and penalties.

  • In the United States, Activision Blizzard has recently settled a transfer pricing dispute with tax authorities for $345m.

  • The multinational company has a complex structure with subsidiaries in a number of tax havens including Malta, the Netherlands, Barbados and Bermuda.

A PDF version of this report is available here.

Activision Blizzard is one of the most successful video games companies in the world. Headquartered in Santa Monica, California, the company’s hit titles include the World of Warcraft, Guitar Hero and Call of Duty, along with the massively popular mobile phone game Candy Crush Saga. The company is listed on the New York Stock Exchange and has a market cap of $37bn as of August 2019, making it significantly larger than rivals Electronic Arts, Take-Two Interactive and Ubisoft.

The company is the product of several mergers and acquisitions, and is divided into three groups, Activision, Blizzard, and King. Activision developed Guitar Hero and Call of Duty. Blizzard was merged with Activision in 2009 and is responsible for the development of World of Warcraft. King, originally a Swedish company but now headquartered out of London, is responsible for mobile games such as Candy Crush.

Whereas Activision and Blizzard seem to have integrated much of their structure and operations, King still forms a separate group of companies under the Activision Blizzard umbrella.

The company has had a controversial tax history in recent years. Activision Blizzard recently settled with the IRS following an examination of the company’s 2009-2011 tax returns. This saw the company having to make an additional tax payment of $345m in relation to transfer pricing issues.

In 2018, the French tax authority handed Activision a bill of $652m following a transfer pricing investigation into one of the company’s French subsidiaries for the tax years 2011-2013. The company says it vigorously disputes the claim.

The Swedish tax authority handed the company a $400m dollar bill in 2018 following an audit of their 2016 tax year. The company also says it will vigorously contest the claim.1

The company is also subject to other ongoing tax investigations and demands.

Responding to these tax controversies, Activision Blizzard have suggested that the company is now seeking to mend its ways. The company told the Sunday Times:

“We have proactively engaged with, and continue to fully collaborate with, both HMRC and other tax administrations globally to agree to the proper amount of tax due in each jurisdiction during a period of changing policies and rules.

For King, since the acquisition we have been reviewing the structures in place and we are seeking multilateral conversations among the UK, Sweden, Malta and US tax authorities by which those respective administrations would allocate our income among their respective jurisdictions.

We are a committed employer in the UK and look forward to reaching a final conclusion on the allocation of our taxable income around the world.”

In this report we explore the different structures of Activision Blizzard and King group companies and demonstrate how Activision Blizzard moves billions of dollars from its non-US operations into tax havens.

Activision and Blizzard

Activision – Revenues 2018 $2.7bn ($897 EMEA)

Blizzard – Revenues 2018 $2.3bn ($692 EMEA)

Activision Blizzard

Selected companies in the Activision Blizzard group

Activision Blizzard formed when Activision merged with Blizzard from Vivendi Games in 2009. The new company was majority owned by Vivendi, the French media giant, until 2013 when it became independent.

The company has a highly complex corporate structure which appears to work as follows: Activision and Blizzard companies in the US sell intellectual property rights (IP) to a Dutch partnership which is resident in Bermuda, ATVI C.V., and a subsidiary of ATVI, ATVI International SRL in Barbados. These entities then sublicense the IP to a Dutch company, Activision Blizzard International BV.2

Activision Blizzard International BV

Activision Blizzard International BV is responsible for the exploitation of these rights and managing the distribution of the products outside the US. This includes running the World of Warcraft servers, sub-licensing games to third party distributors, and distributing the game to local subsidiaries of Activision Blizzard for sale in their markets. The company earned €1.66bn from these activities in 2017.

Activision Blizzard International barely makes a profit, because much of the revenue it earns it needs to pay out as a royalty to the two offshore companies ATVI C.V. and ATVI International SRL. In 2017 Activision Blizzard International made profits before tax of just €55.6m, on which it paid just €7.2m in taxes. It paid €1.3bn in royalties to ATVI C.V. and ATVI International SRL.

In the five years between 2013 and 2017, Activision Blizzard International BV paid out €5bn in royalties. The vast majority of these royalties went to ATVI C.V., the Dutch partnership based in Bermuda. However, in 2017 ATVI C.V. transferred some of their IP to ATVI International SRL in Barbados. The result of this is that in 2017 about 50% of the royalties paid by Activision Blizzard International B.V. went to ATVI C.V.. We assume that the other 50% went to ATVI International SRL, however, the accounts of that entity are not publicly available.

The accounts of ATVI C.V. showed that that company generated profits of $476m in 2017 and $1.1bn in 2016 on which it paid $0 in taxes.

ATVI C.V. has 0 employees. The company’s costs are the cost of buying the intellectual property from Activision Publishing Inc and Blizzard Entertainment Inc in the US, who are responsible for developing the games.

It is this relationship that was the focus of an IRS transfer pricing investigation, with the IRS apparently taking the view that ATVI C.V. should have been paying more to the US for the IP rights. As a result ATVI C.V. had to make an additional payment of $1.4bn to Activision Publishing Inc and Blizzard Entertainment Inc, for the period covering 2009-2016. This settlement resulted in an increased tax bill of $345m.

The 2017 Profit and Loss account for ATVI C.V.

Activision Blizzard UK

In the UK, the main Activision Blizzard company is Activision Blizzard UK. This company describes its activities as a publisher and distributor of video games. The company makes significant revenues. However, the accounts show that it makes little profit in the UK.

In 2017 the company had an income of £75m, on which it made a profit before tax of just £516,000. In 2009, the company recorded sales of £455m, on which it made a profit before tax of just £22m – a profit margin of just 3.6%. In that year the company had a tax liability of £4m.

It should be noted that the revenues that appear in the Activision Blizzard UK are not all of the revenues generated by the company from UK customers.

In the latest annual accounts of the US parent company, Activision Blizzard Inc, it is stated that the UK market comprises of 12% of the total revenues of the company. If we apply that to just the revenues for Activision and Blizzard ($4.8bn in 2017), we get total estimated UK revenues of $572m in 2017. The large difference between the amount generated from UK sales, and the amount of revenue in the accounts of Activision Blizzard UK, will be accounted for by the fact that Activision Blizzard International BV in the Netherlands will generate its own income from UK customers via sales of games to third party distributors and subscriptions to the World of Warcraft servers.

With regard to revenues that are made in the UK, the profit margin on those revenues is small because Activision Blizzard UK is described as a “limited risk distributor”.3HMRC describes a limited risk distributor as a distributor which buys goods and sells them like any other, but where risks and functions are transferred back to the principal company (in this case Activision International BV). An example of how a company could limit risk is by agreeing to buy back any unsold stock so that the distributor only ends up selling stock it knows it can get rid of.4

Activision Blizzard UK LTD
  2009 2010 2011 2012 2013 2014 2015 2016 2017 Totals
Turnover £455,452,472 £342,359,000 £248,463,000 £220,704,000 £150,839,000 £149,540,000 £98,094,000 £62,085,000 £75,192,000 £1,802,728,472
Cost of Sales -£395,558,263 -£300,389,000 -£206,905,000 -£185,300,000 -£114,641,000 -£107,295,000 -£56,730,000 -£33,222,000 -£47,156,000 -£1,447,196,263
Gross Profit £59,894,209 £41,970,000 £41,558,000 £35,404,000 £36,198,000 £42,245,000 £41,364,000 £28,863,000 £28,036,000 £355,532,209
Gross Margin 13.15% 12.26% 16.73% 16.04% 24.00% 28.25% 42.17% 46.49% 37.29% 19.72%
Admin Expenses -£31,614,781 -£30,026,000 -£33,769,000 -£28,117,000 -£29,998,000 -£36,206,000 -£36,585,000 -£26,255,000 -£26,305,000 -£278,875,781
Distribution Costs -£11,868,685 -£6,450,000 -£2,529,000 -£3,292,000 -£2,648,000 -£2,490,000 -£1,915,000 -£1,052,000 -£1,010,000 -£33,254,685
Other Expenses n/a n/a n/a n/a n/a n/a -£11,000 -£7,000 -£156,000 -£174,000
Operating Profit £16,410,743 £5,494,000 £5,260,000 £3,995,000 £3,552,000 £3,549,000 £2,853,000 £1,549,000 £565,000 £43,227,743
Operating Margin 3.60% 1.60% 2.12% 1.81% 2.35% 2.37% 2.91% 2.49% 0.75% 2.40%
Profit before Tax £22,302,191 £4,321,000 £4,497,000 £3,789,000 £3,185,000 £3,086,000 £2,685,000 £1,734,000 £516,000 £46,115,191
Tax -£4,139,071 -£984,000 -£1,362,000 -£1,788,000 -£977,000 -£2,438,000 -£355,000 -£88,000 -£7,984,000 -£20,115,071
Profit for the year £18,163,120 £3,337,000 £3,135,000 £2,001,000 £2,208,000 £648,000 £2,330,000 £1,646,000 -£7,468,000 £26,000,120

The fact that Activision Blizzard is a limited risk distributor allows the corporation to argue that less profit should be allocated to the UK. This profit is instead allocated to the “risk taker” – Activision Blizzard International BV, which sees its profits eliminated with their royalty costs.

According to the accounts of Activision Blizzard UK Limited, the company is currently in discussions with HMRC over its ‘international business model’. It has set aside £8.5m as a provision in relation to tax investigations currently underway dating back to 2013. This provision is equal to 43% of the total tax liability of the company in the UK over the last ten years. The investigation is likely to be focusing on whether the allocation of profit to the UK company is fair.

Activision France

The UK is not the only authority currently in a dispute with Activision Blizzard. In December 2017 the French Tax Authority issued a re-assessment of the company’s tax bill between 2011 and 2013 due to transfer pricing issues they found at one of the company’s French subsidiaries. The total tax bill demanded including penalties and interest was €571 million.

The company says they dispute the claim and will vigorously defend it through the courts if necessary.

UK taxation of royalties

As TaxWatch has written about previously, the UK government has introduced a new tax on royalties shifted to some tax havens, including Bermuda (but not Barbados) where those royalties originate from a UK source.

If this charge was effective and was to apply to all of the royalty payments of Activision Blizzard made to offshore jurisdictions, then we estimate that €325m of royalty payments would be subject to the charge, raising tax revenues of €65m (£57.2m) a year.

This is on the basis that Activision Blizzard’s revenue from the UK comprises about 25% of its non-UK revenues, and so the charge should be applied to 25% of the royalties being moved from the Netherlands company to Bermuda and Barbados.5

However, at the moment, we believe that the tax would only apply to royalties paid to the Dutch C.V. with an address in Bermuda, ATVI C.V.. This would result in a bill of approximately €32.5m (£26.1m).6

ATVI International SRL in Bermuda will not be subject to the charge because, as we noted in our report on the royalties tax, the UK government will only apply the charge to royalties shifted to countries where the UK does not have a full tax treaty. This excludes Barbados, and other tax havens such as Ireland, Switzerland and others from the charge.

The UK government is also expecting large multinational companies to restructure their activities into tax havens which have a tax treaty with the UK in order to avoid the charge, and have given them a long run-in to allow them to do this. It is our expectation therefore that when the charge becomes effective in the 2020/21 tax year the internal royalty payments of Activision Blizzard will not be taxed in the UK.

King – Revenues in 2018 $2bn ($599 EMEA)

Selected companies from the King group

King was established in Sweden in 2003 by an Italian, Riccardo Zacconi, and a group of British and Swedish investors and games designers.7 The company makes games for mobile phones, including the hugely popular Candy Crush.

In 2005 the company attracted investment from Apax Partners, the private equity firm, and was floated on the New York Stock Exchange in 2014. Activision Blizzard bought the company in 2016 for $5.9bn.

When the company was floated on the stock exchange it used a holding company based in Ireland, King Digital Entertainment PLC.8 This appears to have had no substantial operations. The address of the company is a lawyer’s office in Dublin which also houses several other companies.

King Digital Entertainment PLC is owned by a Dutch partnership, ABS Partners C.V.. This partnership is registered to an address in Bermuda, and is controlled by two partners, a general partner, ABS Partners I LLC, located in Delaware, and AB Holdings C.V., another Dutch partnership with a Bermudan address.

The accounts of King Digital Entertainment state that the records of the company are held in London, and several directors give addresses in London, which suggest that London is where the management of the company takes place.

King operates from a large office building in Soho, Ampersand House, where the company employs over 450 staff. Ampersand House is the home of a number of companies that are subsidiaries of King group, including midasplayer.com Limited, which describes its activities as providing “management services” to the King group. This would further confirm that the group is managed from Ampersand House in London.

Terms and Conditions of Candy Crush

Midasplayer.com Limited is a substantial operation, it earned revenues of $283m (£259m) in 2017 and made a profit before tax of $112 (£82), on which it paid taxes of $17.7m (£19m) (the company, although based in the UK states its accounts in US $). However, as described below, it does not make its money from customers, but from fees charged to other group companies for its management services.

King has further development studios in Sweden, Romania, Singapore, and Spain. It also has sales and marketing operations around the world.

When you download Candy Crush onto your phone outside of the US, the terms and conditions state that you are contracting with King.com Limited in Malta. Users inside the US are contracting with a Delaware LLC.

This would suggest that the revenues of the company are earned by these two subsidiaries.

The development companies, sales companies and head office in London act as contractors to other companies in the group, presumably King.com in Malta and the Delaware LLC.

As disclosed in the Activision Inc accounts in the US, the King group is currently under investigation for its transfer pricing structure by numerous tax authorities including the UK and Swedish tax authorities.

The transfer pricing issue is likely to be about whether the services provided by King group companies in the UK and Sweden were being adequately compensated by the revenue generating parts of the business. If they were underpaying for services, then this would depress revenues in these units and taxable profits in the UK and Sweden.

The transfer pricing issue is a long running issue and dates back to before the purchase of the King Group by Activision Blizzard Inc. Note 18 of the latest Activision Blizzard 10-K states that the company had assumed an uncertain tax position of $74m relating to transfer pricing matters. It states that it is in discussions regarding both its pre and post-acquisition transfer pricing structure.

In the 2015 accounts of the Irish holding company, the last year before the company transferred to Activision Blizzard, the company discloses that it is in discussions with various tax authorities about its transfer pricing position and estimates its “transfer pricing exposure” to have been $62.1m in 2015.9

The disclosure in the Activision Blizzard Inc 10-K confirms that the discussions are still ongoing and that the potential liability is still increasing.

In addition to the transfer pricing issue, the Activision Blizzard 10-K discloses that the Swedish tax authority has also landed King with a $400m tax bill concerning an “alleged intercompany asset transfer”. This is likely to concern transactions made when the company was sold to Activision Blizzard. Activision Blizzard state that they intend to vigorously contest the claim.

Conclusions and recommendations

Activision Blizzard has a highly complex corporate structure, which involves subsidiaries in Malta, the Netherlands, Ireland, Bermuda and Barbados. When analysing the money flows around these companies, it seems clear that these structures are designed to minimise taxation on the profits made by Activision Blizzard outside of the United States.

The company says it is now seeking to engage with tax authorities to see what the appropriate amount of profit and tax is in the countries where they operate. However, given that the company has told investors that it will “vigorously defend” large claims for back taxes being made by the Swedish and French tax authorities, it would suggest that what Activision sees as appropriate may not match the expectations of those working in various tax authorities.

Whatever new structures and policies the company may put in place in the future, their accounts demonstrate that up until now billions of dollars were moved into a company with an address in Bermuda which appear to be entirely untaxed. It is possible that if we were able to access the accounts of the company in Barbados and Malta, billions more going untaxed would also be revealed.

It seems that revenue authorities around the world are finally taking action over the tax avoidance activities of Activision Blizzard. However, the relatively small amounts of taxes being sought by the UK tax authority highlights the difficulties of administrative action. To end these practices will also require a more robust policy response.

The use of royalty payments to move billions in profits to offshore tax havens is common in the digital sector. The UK government has tried to introduce rules to deal with these schemes, however, these new rules are known to be ineffective because of the way in which a number of tax haven jurisdictions are exempt from them.

The case of Activision Blizzard is just another example demonstrating the need for governments to introduce more effective measures to deal with royalty-based tax avoidance schemes. In the UK this means changing legislation to make sure that royalty payments made to companies in jurisdictions where the UK has a tax treaty are included in the charge to income tax.

1The various tax issues are set out in Activision Blizzard’s 10-K form, available from the company’s website. https://investor.activision.com/annual-reports

2The licensing arrangement between the various Activision Blizzard companies are described in note 3 of the ATVI CV annual accounts 2017

3See Activision Blizzard UK “Business Review”, part of the Strategic Report to the 2015 Activision Blizzard annual accounts.

4HMRC Internal Manual, Limited Risk Distributor, available from https://www.gov.uk/hmrc-internal-manuals/international-manual/intm441080

5The Activision Blizzard 10-K form states that the UK comprises 12% of total revenues, compared against the stated revenues from the non-US parts of the business this makes up 25% of non-US revenue.

6The UK government has said it will not apply the charge to income tax on royalties to companies in jurisdictions with which the UK has a full tax treaty. In order to gain treaty benefits a company must be subject to taxation in that jurisdiction. The Dutch CV is a tax exempt entity in the Netherlands, so we assume the tax would apply to that entity.

7Juliette Garside, Who are the Candy Crush millionaires?, Guardian, 25 March 2014 https://www.theguardian.com/business/2014/mar/25/candy-crush-king-flotation-king-entertainment-shareholder-windfalls

8Prior to King’s floatation on the stockmarket, its holding company was in Malta. In order to facilitate the listing the company established a new holding company in Ireland. Details are on the company’s registration form at the Securities Exchange Commission website – https://www.sec.gov/Archives/edgar/data/1580732/000119312514056089/d564433df1.htm

9See note 10 of the 2015 annual report of King Digital Entertainment PLC

Developers of Grand Theft Auto claim millions in tax credits

28th July 2019 by George Turner
  • Rockstar Games, the creator of Grand Theft Auto, has made an estimated $5bn in operating profit since the release of Grand Theft Auto V in 2013.

  • The game was designed and developed in the UK by Rockstar North Limited based in Edinburgh, but TaxWatch can reveal that the company has paid £0 in UK corporation tax over the last ten years.

  • In fact, Rockstar North Limited has managed to claim £42m in subsidy from the taxpayer over the last three years, whilst senior managers and developers at Rockstar shared in a bonus pool worth billions of dollars.

  • TaxWatch is calling on HMRC to urgently investigate the tax structure of Rockstar Games and Take-Two in the UK.

A new report from TaxWatch has revealed that the makers of Grand Theft Auto have not paid any UK corporation tax in 10 years, despite the game being made in the UK and generating billions in profit for its US based parent company.

  • The full report can be viewed online here: http://13.40.187.124/reports/gaming-the-tax-system/
  • A PDF version can be downloaded here.
  • The press release accompanying the report can be downloaded here.

Instead of paying taxes on profits made by sales of the game, the company has been able to claim tax credits from the government under the Video Games Tax Relief scheme. Over the last three years, Rockstar North Limited, the company which led the development of the game, has claimed £42m in tax credits.

Video Games Tax Relief was designed to help smaller producers of “culturally British” games not designed for the international market.

Grand Theft Auto V, based on a fictional depiction of gangland California, was granted certification as a culturally British video game by the British Film Institute in September 2015, after the game had already recorded more than $3bn in sales. The certification allowed the producers of the game to claim tax relief on production costs.

Research from TaxWatch has found that the amount of tax credits claimed by the makers of Grand Theft Auto in the last three years is the equivalent of 19% of all tax credits granted to the video games industry since the relief was introduced in 2014.

Commenting on the release of the report, George Turner, Director of TaxWatch said:

“It is outrageous that the UK taxpayer is being asked to shell out tens of millions of pounds in subsidy to the developers of Grand Theft Auto, when at the time that the game’s developers put in their tax credit application Grand Theft Auto V had already generated several billion dollars in sales and profits.

“This is a drive-by assault on the British taxpayer and corporate welfare scrounging at its very worst.

“The Video Games Tax Relief was designed to help developers of games with a cultural content that would struggle to sell in the international market. The fact that such a large amount of that relief is going to the developers of Grand Theft Auto clearly shows that the relief is not working as intended.”

Key facts and figures from the report:

  • $6bn – estimated total sales of Grand Theft Auto V since 2013
  • $5bn – estimated operating profit of Rockstar Games 2013-2019
  • £42m – total Video Games Tax Credits claimed by Rockstar North Ltd between 2015-2017. Equivalent to 19% of all tax credits paid by government to the industry
  • $3.4bn – total bonus pool available to top managers at Rockstar games from 2009-2019
  • £0 – total combined corporation tax bill of Rockstar companies in the UK between 2009 and 2018

This report was covered extensively in the UK and international media. In the UK, the report featured in The Sunday Times and The Guardian among others. TaxWatch’s Director was interviewed by BBC News on this research.

Report: Gaming the System

26th July 2019 by admin

26th July 2019

How the makers of Grand Theft Auto managed to pay £0 UK corporation tax and claim millions in government subsidies whilst making $$$ billions in profit

Key Facts and Figures:

$5bn

Estimated operating profit of Rockstar games 2013-2019

£42m

Total Video Games Tax Credits claimed by Rockstar North Ltd, developer of Grand Theft Auto V, between 2015-2017 - 19% of all tax credits paid by government to the industry.

£0

Total corporation tax liability of Rockstar companies in the UK between 2009 and 2018

$800m – sales of Grand Theft Auto V in first 24 hours of release

$6bn – estimated total sales of Grand Theft Auto V since 2013

$3.4bn – total bonus pool available to top managers and staff at Rockstar Games 2009-2019

 

Key dates:

2008 – Rockstar North, a UK based company starts development of Grand Theft Auto V (GTA V)

2013 – GTA V released to the public

2015 – GTA V certified as “culturally British” by the British Film Institute, allowing Rockstar North to apply for Video Games Tax Credits from HMRC

Gaming the Tax System

A PDF version of this report can be downloaded here.

Summary and Introduction

Grand Theft Auto V is the most commercially successful product in the history of the entertainment industry, with total revenues estimated to be $6bn since the game’s release in 2013.

The game is published by Take-Two Interactive Inc. under their Rockstar brand. Take-Two is a US listed multinational company.

Grand Theft Auto I was first developed in the UK by DMA Design in the late 1990s. After DMA was bought by Take-Two, game development continued in the UK at a company called Rockstar North Limited based in Edinburgh.

Despite the huge success of the title, our analysis shows that Rockstar and Take-Two companies based in the UK have not paid any corporation tax over the last ten years. Rockstar North Ltd, which led the game’s development, has in fact claimed £42m in subsidies from the taxpayer over the last three years in the form of credits through the Video Games Tax Relief regime.

Video Games Tax Relief was introduced by the UK government in 2014 to provide targeted support for games that were “culturally British”, with a particular focus on support for small and medium sized businesses.

Our analysis shows that the amount claimed by Rockstar North is the equivalent of 19% of the total relief paid to the entire video games industry in the UK since the programme came into effect. This raises serious questions as to whether the relief is being properly targeted, at a time when the industry is lobbying for the relief to be expanded and made more generous.

This report also raises questions as to whether an appropriate amount of profit has been allocated to the UK companies involved in the game’s development. Seven active companies based in the UK, using the Take-Two and Rockstar names, declared a total profit before tax of £47.3m in the UK between 2013 and 2018. However, over the same period we estimated the operating profit of games published by Rockstar to be in the region of $5bn.

Despite the minimal allocation of profits to the UK, Take Two interactive placed a substantial amount of value on the work of Rockstar employees, including those based in the UK. These key employees were given the rights to substantial amounts of the profit generated by the company in relation to games released under the Rockstar label.

It is our opinion that a more appropriate allocation of profit between the US and UK would have resulted in substantially more profit being allocated to the UK. This would have meant that Rockstar North would not be eligible for a payable tax credit. Instead, Take-Two and the Rockstar companies should have had a substantial tax liability in the UK.

Video Games Tax Relief

Video Games Tax Relief was first announced in Alistair Darling’s budget in 2010, the last budget of the Labour administration. However, with an election very soon afterwards, it was never implemented, with plans for the relief being cancelled by the incoming Coalition government.

After lobbying from the video games industry, a more modest relief was announced in the 2012 budget.

Video Games Tax Relief works by reducing the taxable profit of a video game developer. Developers can deduct an extra 25% of qualifying expenditure from their taxable profit. If a game is loss-making then the developer can claim a cash credit from HMRC.

After it was confirmed that the UK government would be going ahead with the scheme, the European Commission announced that it would hold an investigation into the proposed relief to determine whether the subsidy was permissible under state aid rules.1 The Commission was concerned that the measure represented an unnecessary intervention, seeing no need to subsidise an industry that was thriving and making profits.

The UK Government’s argument in support of the relief was that specific, targeted intervention was required to preserve the cultural character of the UK and European games industry. The government raised a concern that video games producers could make much more money creating games that were tailored towards the international market, because they could achieve huge economies of scale from targeting a larger community of gamers. As a result, producers were stripping out cultural references relevant to British and European gamers from the storylines of their games, and this was having an impact on British culture.

The Video Games Tax Credit would therefore be available only to games that were culturally British, under a test administered by the British Film Institute. The government argued that this targeting would mean that “The proposed tax relief should promote the production of video games with a cultural content as opposed to games that are purely for entertainment.”2

In order to qualify as being culturally British, games are scored against a number of criteria, including being set in the UK, having British lead characters, or being produced in the UK.

When introducing the relief, the government estimated that only around 25% of games produced in the UK would qualify, and that the major beneficiaries would be small games producers interested in the local market. The government expected only 10% of games that qualified for the relief would have a budget of more than £5m. A press release put out by the government at the time stated that 95% of video games development in the UK was performed by SMEs.3

The government estimated that the new relief would cost £35m a year, and committed to reviewing the relief after three years of operation to determine whether it had been effective.

There is no evidence that this review has taken place. If it had, the government would have seen that the programme is significantly over-budget, having cost £108m in 2017/18, and that a significant amount of the tax credit is being claimed by just one company.

Grand Theft Auto’s Tax Credits

A year after the scheme came into effect, Grand Theft Auto V was granted certification as “culturally British” by the British Film Institute. The certification has allowed the game’s developer, Rockstar North Ltd, to access substantial amounts of tax credits.

That Grand Theft Auto should receive any tax credits at all may seem bizarre to some. One of the criteria of the BFI Cultural Test for video games is how the game represents diversity. The guidance note for the cultural test states:

“Cultural diversity can directly influence the content and tone of a video game; its sensibility and authority. For example, much has been written on a lack of female video game developers, and the differing perspectives and sensibilities that women bring to video game productions.

 

Encouraging cultural diversity implies challenging preconceptions, assumptions and ways of working. It goes beyond simple equal opportunities and recognition of difference and emphasises the potential creative connections that can be forged across different perspectives through access, inclusion, and collaboration –and the direct impact of these on the video game as a cultural product….

 

Points will be awarded based on the following determinants of diversity:

 

a. subject/portrayal: exploring contemporary social and cultural issues of disability, ethnic diversity and social exclusion on screen; promoting and increasing visual, on-screen diversity; and

 

b. other cultural diversity factors which can be shown to have an impact on the final content.”

It is unlikely that the drafters of that guidance had in mind a game which allows the player to murder prostitutes when formulating the cultural test.

For most observers, the controversial game would probably fall under the category of a game produced purely for entertainment rather than a game with significant cultural content. The game was made famous by its free-wheeling game play which allows players to car-jack, carry out random killings and blow up things whilst progressing through the ranks of organised crime. None of the lead characters are British, and the 5th instalment in the series is set in Los Santos, a fictional representation of Los Angeles. Previous editions had been set in New York, Florida and California. The only part of the game set in the UK was an expansion pack to the second edition of the franchise, GTA II.

Made in Britain

The game was however largely developed in the UK. The first two editions of the game, GTA and GTA 2, were developed by DMA Design Ltd, a UK based developer.

DMA was bought by Take-Two Interactive Inc, a US-based multinational, in 1999. The US company had already acted as the publisher of GTA 2 under their “Rockstar” label, which has been the publisher of all subsequent editions of the GTA franchise.4 Game development continued in the UK at Rockstar North Ltd, a design studio based in Edinburgh. This connection with the UK is apparently enough to secure the culturally British test for Grand Theft Auto V.

Having been certified as culturally British in 2015, Rockstar North starting receiving Video Games Tax Credits in the financial year ending March 2016. The amount it claimed was substantial. The annual accounts of Rockstar North Ltd show that over the last three years the company has claimed £42m in Video Games Tax Credits. This is equivalent to 19% of the £227m that the government has granted to the entire industry since the relief was introduced in 2014.5

In 2016 the company also recorded a large retrospective adjustment for tax paid in previous years. The effect of tax credits and previous year adjustments means that over 10 years the company recorded a net loss for tax purposes, paid nothing in corporation tax, and claimed £70m in credits from HMRC. The amount of credit claimed by Rockstar North from HMRC was almost 6 times its operating profit over the period.

Table 1: Key Financial Data Rockstar North Limited 2009-2018

(Year to March 31st) 2009 2011 (17 Months) 2012 2013 2014 2015 2016 2017 2018 Totals
Turnover £14,853,498 £25,828,898 £18,054,810 £20,127,149 £32,252,221 £42,909,043 £53,446,092 £57,089,880 £79,158,894 £343,720,485
Cost of Sales -£9,079,562 -£14,218,633 -£11,789,637 -£12,404,764 -£16,111,491 -£26,501,031 -£26,641,448 -£29,087,405 -£40,799,868 -£186,633,839
Gross Profit £5,773,936 £11,610,265 £6,265,173 £7,722,385 £16,140,730 £16,408,012 £26,804,644 £28,002,475 £38,359,026 £157,086,646
Admin Expenses -£8,288,372 -£11,368,142 -£7,423,997 -£6,413,329 -£13,986,232 -£13,600,894 -£23,308,165 -£24,257,130 -£30,116,236 -£138,762,497
Operating Profit -£2,514,436 £5,415,849 -£12,681,786 £1,309,056 £2,154,498 £2,807,118 £3,496,479 £3,745,345 £8,242,790 £11,974,913
Operating Margin -16.93% 20.97% -70.24% 6.50% 6.68% 6.54% 6.54% 6.56% 10.41% 3.48%
Profit before Tax -£2,507,040 £5,419,081 -£12,679,587 £1,136,416 £2,162,491 £2,819,685 £3,515,268 £3,763,815 £8,300,782 £11,930,911
Tax £202,688 £135,510 £46,992 -£2,461,467 -£887,635 -£718,156 £33,416,310 £13,121,157 £26,915,315 £69,770,714
Profit for the year -£2,304,352 £5,554,591 -£12,632,595 -£1,325,051 £1,274,856 £2,101,529 £36,931,578 £16,884,972 £35,216,097 £81,701,625
Video Games Tax Relief £0 £0 £0 £0 £0 £0 £11,278,530 £11,918,339 £19,116,178 £42,313,047

Grand Theft Auto Profits

Although the statutory accounts of Rockstar North, the maker of Grand Theft Auto V, state that the company is hardly making any profit, the game is widely reported to be the most profitable media product in history. The game broke several world records for the speed of its sales, and generated $800,000,000 in revenue for Take-Two within the first 24 hours of its release. Within three days the game had hit $1bn in sales, making it the fastest selling entertainment product in history. Within one year, the game had hit $3bn in sales, making it the biggest selling game of all time.6 The game continues to sell, and in May 2019, Take-Two disclosed that they had sold over 110m copies.7

Alongside GTA V, the company developed an add-on GTA Online, which created a new virtual world where gamers could interact with other players over the internet. GTA Online generates revenue for Take-Two as players can buy virtual currency to purchase new items in the game.

In 2015, two years after the release of the game, 8 million people were still playing GTA every week, and the add-on had generated an additional $500m for the company.8 The huge sales of GTA V and the popularity of GTA Online has generated an estimated $6bn in sales for Take-Two over the current lifetime of the product.9

These sales have translated into vast profits for the company and its senior management. Between 2009, when development on GTA V is known to have started, and the 2014 financial year in which the game was released, Rockstar North had total costs of £110m. In 2013, the Scotsman reported that the game had a total development and marketing budget of £170m.10 Adding in distribution costs and other ongoing development costs, Take-Two should have generated gross profits in the region of $5bn from the game. This figure is corroborated by data on internal royalties paid by the company.

Under a profit sharing agreement signed with senior staff at Rockstar Games, three “Principals” and other unnamed Rockstar employees were entitled to a profit share worth 50% of the operating profit made on Rockstar titles.

Take-Two’s annual reports in the United States disclose a cost which it calls “internal royalties”. It describes these as allowing “selected employees to each participate in the success of software titles that they assist in developing.” Between 2009 and 2019 Take-Two paid out $3.4bn in “internal royalties”, 22% of the total revenues of the company over that period. Between the financial year ending in 2014 (the year Grand Theft Auto V was released) and 2019, internal royalties stood at $2.5bn.

The success of the Grand Theft Auto franchise would suggest that the vast majority, if not all of the cash being allocated to internal royalties by Take-Two is being used to fund the Rockstar royalty plan. That would also put the total operating profit (which also includes deductions for head office costs and contributions from other games) generated by Rockstar at $5bn over the last 5 years.

How is it possible that a game made in the UK, generating billions of dollars in profit for its parent companies and senior management, makes a loss for tax purposes in the UK and is able to claim tax back from the government?

Rockstar North is one cog in the Take-Two machine, but an important one. Given that the game is not set in the UK, and does not feature British characters, in order to meet the BFI’s culturally British test the game makers will have had to argue that a substantial amount of creative input for the game came from the UK, and would have signed a statutory declaration to this effect.11

In return for creating this intellectual property, Rockstar North would presumably have had a contract with Take-Two to remunerate it for its work. The contract would appear to have been constructed so that Rockstar North receives not much more than the cost of its work. Between 2009 and 2018 the company made an average operating profit of just 3.5%; between 2013 and 2017 operating profit kept stable at around 6.5%, whilst sales of the product it created were beating all expectations.

Other Rockstar companies based in the UK show even less profit. Rockstar Lincoln Ltd, which was involved in testing the game, declared a total profit before tax of £1.2m between 2009 and 2018, and a total tax bill of £226k over the same period.

In order to work out the taxable profits of a business, revenue authorities around the world do not look at a multinational company as a whole, but treat each subsidiary as an independent entity. In the case of Rockstar North Ltd, the question they will be asking themselves is whether the contract Rockstar North had with its parent company was one that independent companies would negotiate in the real world.

On the facts that we have been able to determine, we believe the answer is no.

Profit share

Given the importance of the games produced by the Rockstar label to Take-Two’s business, Take-Two entered into a royalty agreement with certain key people in the Rockstar team as early as 2002.

Following the success of GTA 3 and GTA 4, the Rockstar principals, as they were called, felt they had the leverage to increase their profit share and renegotiated a new deal: the 2009 Royalty Plan. The Plan named three people as Rockstar Principals: Sam Hauser, Dan Hauser, and Leslie Benzies.12 Sam and Dan Hauser created the original Grand Theft Auto. Sam Hauser is the President of Rockstar Games and Dan Hauser, his brother, is Vice President of Creativity.

Leslie Benzies is largely credited with the technical advances in game playing which led to the popularity of Grand Theft Auto exploding with the release of GTA V.13 At the time of the development of GTA V he was President of Rockstar North Limited.

Although the Hauser brothers are based in New York, it was part of Leslie Benzies’s contract that he was to be employed in Edinburgh, and any requirement for him to move from Edinburgh could be cited as cause for termination of the contract.14

The 2009 Royalty Plan, which in reality was not a royalty payment but a profit share agreement, gave the Rockstar Principals and unnamed qualifying Rockstar employees entitlement to a bonus pool of 50% of the operating profits of games produced under the Rockstar label. Under the plan, the principals were entitled to no more than 60% of the total pool, with no individual able to receive more than 25% of the pool.

When setting up the incentive schemes for the principals, lawyers agreed a side letter setting out the tax treatment of the payments the principals would receive.15 This letter makes clear that the remuneration would be paid as a service for employment, and that in the case of Leslie Benzies his employment was with Rockstar North Limited. The reason for this stipulation was likely to prevent the imposition of US employment taxes on his income, as part of the royalty plan involved assigning certain intellectual rights to a Delaware LLP which the three principals were partners of. However, despite this stipulation, the remuneration does not appear to be included in the Rockstar North accounts. It is not known whether and how much UK income tax has been paid by the principals on these profit shares.

The significance of all of these arrangements is that they demonstrate that had Rockstar been an independent company, then the management would clearly not have been satisfied with selling the rights to their work for the cost of production plus a small margin. In fact, the reality of the relationship between Rockstar and Take-Two was that the management of Rockstar demanded huge sums in compensation for their contribution. After the release of GTA V, Leslie Benzies left the company following a dispute with the other Rockstar Principals. However, the existence of a profit sharing agreement in 2009 which included Mr Benzies suggests that Take-Two placed a substantial amount of value on work carried out on its behalf in the UK.

All of this stands in stark contrast to the tiny profits allocated to Rockstar North and other Rockstar companies in their UK accounts, suggesting that profits allocated to the company should have been much higher than stated. It is impossible to say how much higher, although it is not unreasonable to believe that that profit should have been in the hundreds of millions if not billions. At this level, HMRC would not be paying tax credits to Rockstar North. Instead, the tax collected from Rockstar in the UK would likely be enough to pay for the entire Video Games Tax Credit Programme.

Conclusions and recommendations

Grand Theft Auto has been referred to by some as a “Great British Export”.16 However, a brief look at the accounts of the UK based developer of the game, with its slender profits, would not lead one to that conclusion. Rather than a picture of success, the accounts of the developers of the game, Rockstar North, show that the company has earned so little that they have been eligible to claim tax credits from the government.

The situation is absurd. The large amounts of subsidy that Rockstar North has been able to claim from the UK government demonstrates that the Video Games Tax Credit system is not working as intended. The government should hold an immediate review into its effectiveness.

Furthermore there are serious questions over how the company has been treated for tax purposes in the UK.

Take-Two appears to believe that it is reasonable that close to 100% of the profit should flow to their US based parent companies and senior management, whilst almost no profit flows back to the UK companies involved in either making or selling the game. We do not believe that this division of profits can be justified under the so-called “arm’s length” standard found in international tax law.

There is no evidence that HMRC have challenged this set-up or that Take-Two or any of the individuals named in this report has acted illegally. However, it is open for HMRC to challenge the allocation of profit under the transfer
pricing system and we urge them to investigate this case urgently.

 

Notes

1Documents relating to the European Commission investigation into Video Games Tax Relief are available from the European Commission website – http://ec.europa.eu/competition/elojade/isef/case_details.cfm?proc_code=3_SA_36139

2See European Commission Decision SA.36139 (13/C) (ex 13/N) – https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=uriserv:OJ.L_.2014.323.01.0001.01.ENG

3HM Treasury, Video Games Companies to Begin Claiming Tax Relief, https://www.gov.uk/government/news/video-games-companies-to-begin-claiming-tax-relief

4A short history of the development of the game is set out in the statement of case of Leslie Benzies in Leslie Benzies vs Take-Two Interactive Software Inc., Supreme Court of the State of New York, Index No. 651920/2016

5HMRC, Creative Industry Statistics July 2018, Published April 2019

6See Statement of Case of Leslie Benzies in Benzies vs Take-Two Interactive Software

7Rockstar Intel, Take-Two Q4 Earnings Report, https://rockstarintel.com/take-two-q4-2019-earnings-report-red-dead-redemption-2-has-sold-over-24-million-copies-worldwide

8See Statement of Case of Leslie Benzies in Benzies vs Take-Two Interactive Software, paragraph 42

9Sky News, Grand Theft Auto V grosses more than any movie ever, available from: https://news.sky.com/story/grand-theft-auto-v-grosses-more-than-any-movie-ever-11326135

10The Scotsman, New GTA release tipped to rake in £1bn in sales, available from: https://www.scotsman.com/lifestyle/gadgets-gaming/new-gta-v-release-tipped-to-rake-in-1bn-in-sales-1-3081943

11The cultural test administered by the BFI awards points if the lead programmers and developers work in the UK or the European Economic Area, and if more than 50% of the design or development of the game is carried out in the EEA.

12A copy of the 2009 Royalty Agreement is available from the the Supreme Court of the State of New York on the docket of Leslie Benzies vs Take-Two Interactive.

13Connor Sheridan, One of the Fathers of Grand Theft Auto has left Rockstar, Gamesradar January 12 2016, https://www.gamesradar.com/uk/gta-leslie-benzies-leaves-rockstar/

14Paragraph 6 (d) 2012 Employment Contract of Leslie Benzies.

15Tax Side Letter between Take-Two Interactive, Another Game Company and the Rockstar Principals, available on the docket on the Leslie Benzies vs Take-Two Interactive Inc.

16Sophie Curtis, GTA 5: a Great British export, The Telegraph 18 September 2013, https://www.telegraph.co.uk/technology/video-games/10316267/GTA-5-a-Great-British-export.html

European Commission responds to TaxWatch call to investigate Google

5th June 2019 by George Turner

The European Commission has replied to TaxWatch’s call to launch an investigation into the tax structure of Google. The Commission has said it will consider the information provided by TaxWatch as part of its ongoing investigation into tax agreements in Ireland and the Netherlands.

TaxWatch wrote to the European Commission on 26 April to highlight the structure that Google has put in place to avoid paying taxes in Europe. Google charges all of its European customers via a subsidiary in Ireland, Google Ireland Limited. That company pays out large royalty payments for the use of Google’s intellectual property to a company in the Netherlands, which in turn pays out almost all of the revenue it receives as a royalty to a company registered in Ireland but tax resident in Bermuda.

The royalty payments are substantial, comprising 46% of Google Ireland’s revenues in 2017, the last year where accounts are available. The structure minimises profits and tax liabilities in Europe, whilst making sure that profits appear in Bermuda, which has a 0% corporation tax rate.

TaxWatch questioned whether the scale of royalty payments made by Google to its Bermuda subsidiary was in line with the arms-length principle. This principle is used by tax authorities to establish whether a company is artificially shifting profits to tax havens, and whether the government of the Netherlands and Ireland had come to any special arrangements with Google to allow them to make such payments.

Responding to TaxWatch’s letter, Max Lienemeyer, Head of the State Aid: General Enforcement and Scrutiny Unit of the European Commission’s Competition DG, told TaxWatch that the Commission had an ongoing investigation into tax rulings granted by Ireland and the Netherlands, and was seeking to establish whether certain tax agreements had resulted in a selective advantage being given to particular companies.

Mr Lienemeyer thanked TaxWatch for the information provided, and said it would be considered as market information in the light of their ongoing investigation into transfer pricing deals.

In addition to raising this issue with the commission, TaxWatch has put forward a proposal on how countries could change domestic legislation to ensure that royalty payments made by large multinational companies to tax haven subsidiaries are subject to income tax.

Photo by Sara Kurfeß on Unsplash


TaxWatch

c/o M & A Solicitors

38 Coney Street

York

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