Strategizing International Tax Best Practices – by Keith Brockman

The Czech Republic has published new tax return disclosure requirements for the 2014 year, including 2013 data for selected taxpayers.  A link to the requested information is provided for reference:

http://www.kpmg.com/CZ/en/IssuesAndInsights/ArticlesPublications/Financial-Update/Documents/KPMG-Financial-Update-2014-07-Special-Issue.pdf

The Czech Republic disclosures include the amount of short-term and long-term intercompany receivables and payables at the end of the current and prior years for comparison.

Best Practice: Treasury training for BEPS – As more countries implement transfer pricing disclosure legislation, with increased emphasis on intercompany loans and financing transactions, it is imperative that Tax Team members provide BEPS training for international treasury centers.  This training should raise awareness of the OECD BEPS initiatives resulting in increased disclosures and inquiries from Business Units, as well as provide internal transparency and governance for significant treasury transactions.

The UN Subcommittee on Base Erosion and Profit Shifting (BEPS) Issues for Developing Countries has reiterated its request for comments to its BEPS Questionnaire, copied herein for reference.   Additional time is available for comments submitted by 8 August 2014.

The Subcommittee is mandated to draw upon its own experience and engage with other relevant bodies, particularly the OECD, with a view to monitoring developments on base erosion and profit shifting issues and communicating on such issues with officials in developing countries directly and through regional and inter-regional organizations.

Links to the Questionnaire and responses are provided.  Comments from Brazil, Mexico, Singapore, Christian Aid & Action Aid, and the Economic Justice Network and Oxfam South Africa are posted for review.

http://www.un.org/esa/ffd/tax/Beps/index.htm

http://www.un.org/esa/ffd/tax/Beps/BepsIssues.pdf

The wide divide in the role (and perception) of the arm’s length principle for transfer pricing is very apparent in the responses from Singapore and Christian Aid & Action Aid.

Actions 6 &  7: Singapore’s comments: 
“The continued correct application of the arm’s length principle to allocate profits based on function, assets and risks will help to ensure that profits are allocated based on where value is created.”  

“We would like to highlight that the focus on countering BEPS should be to grow the economic pie for every country, and not let the work be sidetracked by protectionism and development of rules for political expedience.”

Actions 8-10: Christian Aid & Action Aid’s comments:
“Transfer (mis-)pricing is a significant challenge to developing countries, and improvements to current rules need to take place to ensure developing countries can seek appropriate tax contributions from Transnational Corporations (TNCs).  The best solution may be outside of the arm’s length principle however, something that the OECD appears to not want to consider.  We believe that there should be more comprehensive research done into alternatives to the arm’s length principle and how effective they may be for developing countries.”

Questionnaire:

Countries’ experiences regarding base erosion and profit shifting issues.

Developing countries are invited to provide feedback by answering the following questions. Feedback (and any questions about the feedback requested) should be sent to taxffdoffice@un.org. The deadline for responses is 8 August 2014.

1. How does base erosion and profit shifting affect your country?

2. If you are affected by base erosion and profit shifting, what are the most common practices or structures used in your country or region, and the responses to them?

3. When you consider an MNE’s activity in your country, how do you judge whether the MNE has reported an appropriate amount of profit in your jurisdiction?

4. What main obstacles have you encountered in assessing whether the appropriate amount of profit is reported in your jurisdiction and in ensuring that tax is paid on such profit?

The Subcommittee have identified a number of actions in the Action Plan that impact on taxation in the country where the income is earned (the source country), as opposed to taxation in the country in which the MNE is headquartered (the residence country), or seek to improve transparency between MNEs and revenue authorities as being particularly important to many developing countries (while recognising that there will be particular differences between such countries). These are:  Action 4 – Limit base erosion via interest deductions and other financial payments  Action 6 – Prevent Treaty Abuse  Action 8 – Assure that transfer pricing outcomes are in line with value creation: intangibles  Action 9 – Assure that transfer pricing outcomes are in line with value creation: risks and capital  Action 10 – Assure that transfer pricing outcomes are in line with value creation with reference to other high risk transactions (in particular management fees)  Action 11 – Establish methodologies to collect and analyse data on BEPS and the actions to address it  Action 12 – Require taxpayers to disclose their aggressive tax planning arrangements  Action 13 – Re-examine transfer pricing documentation

5. Do you agree that these are particularly important priorities for developing countries?

6. Which of these OECD’s Action Points do you see as being most important for your country, and do you see that priority changing over time?

7. Are there other Action Points currently in the Action Plan but not listed above that you would include as being most important for developing countries?

8. Having considered the issues outlined in the Action Plan and the proposed approaches to addressing them (including domestic legislation, bilateral treaties and a possible multilateral treaty) do you believe there are other approaches to addressing that practices that might be more effective at the policy or practical levels instead of, or alongside such actions, for your country?

9. Having considered the issues outlined in the Action Plan, are there are other base erosion and profit shifting issues in the broad sense that you consider may deserve consideration by international organisations such as the UN and OECD?

10.Do you want to be kept informed by email on the Subcommittee’s work on base erosion and profit shifting issues for developing countries and related work of the UN Committee of Experts on International Cooperation in Tax Matters?

Do you have any other comments you wish to share with the Subcommittee about base erosion and profit shifting, including your experience of obstacles to assessing and then addressing the issues, as well as lessons learned that may be of wider benefit?

 

The insightful Questionnaire, as well as commentaries received, reflect the continuing conflict re: transfer pricing principles to be applied by developed and developing countries.  Additionally, unilateral requests for BEPS comments by countries also reflect the tendency to adopt OECD principles as adapted to local needs.

As a result, transfer pricing documentation will be inherently more complex and non-standardized, while controversies between tax authorities and multinational corporations will multiply significantly in magnitude and scope.

 

PwC has published a very informative article addressing the impact of EU case law, exemplified by cases from the Court of Justice of the European Union, on the OECD BEPS international tax proposals.  There may be additional uncertainty by EU Member States after the OECD BEPS measures are announced due to the “fundamental freedoms” in the Treaty on the Functioning of the European Union (CJEU), State Aid principles and the EU direct tax initiatives, including the Parent-Subsidiary Directive.  The link to the article is included for reference:

http://www.pwc.com/en_GX/gx/tax/newsletters/tax-policy-bulletin/assets/pwc-eu-beps-july-2014.pdf

The article provides excellent references to current EU Law concepts, including the basic premise that domestic legislation must be compliant with EU law.  Additionally, the OECD proposals for hybrid mismatch transactions, tax treaty abuse and harmful tax practices are discussed against the backdrop of EU legislation.

The article concludes with the takeaway: “The implementation of OECD BEPS proposals within the EU/EEA Member States will only be possible to the extent that those proposals are also compliant with EU Law.  So far, however, little attention seems to have been paid to potential EU Law issues in the OECD’s draft discussion papers, so that EU/EEA Member States might actually risk breaching EU Law.  As a result, companies doing business in the EU/EEA will be faced with legal uncertainty about the lawfulness of implemented OECD BEPS proposals in domestic law or tax treaties.”

As an additional observation, there is a likelihood that the domestic legislation enacting OECD BEPS proposals will not be consistent for each Member State, thereby the legal uncertainty should be reviewed for each Member State as domestic legislation and OECD proposals are implemented.

 

 

 

Vietnam has recently adopted regulations on Mutual Agreement Procedures (MAP) and Advance Pricing Agreements (APAs), with additional transfer pricing measures.    A link to the informative summary prepared by KPMG is provided as reference:

http://www.internationaltaxreview.com/Article/3319685/Vietnam-Getting-up-to-speed-in-Vietnam.html

Key Highlights:

  • The APA negotiation and conclusion procedures, consisting of five steps, is expected to take nine months from submission to a concluded APA.
  • Formal guidance has been issued for MAP implementation.
  • Related party transaction disclosure is to be submitted with 2014 tax returns, based on a self-assessment process with contemporaneous documentation to effectively shift the burden of proof to the tax authorities.

Re: Best Practices, transfer pricing opportunities and documentation requirements, by Vietnam as well as all other countries, should be mapped to formulate new audit defense strategies, cooperative compliance ideas and transfer pricing governance guidelines.

In today’s volitive transfer pricing environment, a member of every multinational company’s global tax department should have responsibility for a real-time assessment of all new developments, thereby providing a significant value-add for legal structuring, debt financing, transfer pricing documentation, and audit defense strategies to avoid double taxation.  To the extent such resources are not being focused, a cost/benefit analysis of missed opportunities may be helpful to achieve additional Best Practice methodologies.

 

 

On 20 June 2014, the EU Economic and Financial Affairs Council reached agreement on modifying the EU Parent-Subsidiary Directive.  The agreement proceeds with the prevention of double non-taxation via the use of hybrid financing arrangements, while agreeing to work separately on an amended General Anti-Avoidance Rule (GAAR).  Links to the current EU Parent Subsidiary Directive (2011/96/EU), a PwC Tax Alert summarizing the proposal and the EU proposals are included for reference:

http://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=OJ:L:2011:345:0008:0016:EN:PDF

http://www.pwc.com/en_GX/GX/tax/newsletters/eu-direct-tax-newsalerts/assets/pwc-newsalert-20-june-2014-amendment-parent-subsidiary-directive.pdf

http://register.consilium.europa.eu/doc/srv?l=EN&f=ST%2010419%202014%20INIT

The amendment is limited to the 28 Member States of the EU, with a similar proposal envisioned in the OECD BEPS initiative.  It is interesting to note the OECD BEPS provisions are being focused within the EU Community, in addition to the international OECD Guidelines.  Timing for this EU proposal is for domestic legislative action by December 2015.

Re: Best Practices, it is prudent to review the EU legal structure for such hybrid arrangements to quantify the effect of this proposal, possibly requiring modification of hybrid debt and/or legal entities.  Additionally, such hybrid instruments in non-EU countries should be noted for the forthcoming OECD BEPS corollary provision.

As time is of the essence for various OECD BEPS proposals to be made public, the interim time gap may be an excellent time to refresh global transfer pricing documentation strategies.  Several questions that may be addressed in a transparent and critique perspective include the following:

  • Have each of the BEPS proposals been matched to current TP methodology, questioning the future state of global TP documentation?
  • For current cooperative compliance relationships, is a discussion contemplated / scheduled to discuss the potential impacts of BEPS on the ongoing ways of working, including TP documentation?
  • Are future cooperative compliance relationships in focus, aligned with BEPS initiatives, especially among countries seeking unilateral legislative actions re: General Anti-Avoidance Rules (GAAR) implementation, etc.?
  • Are the attributes of a GAAR, including a taxpayer’s responsibility for GAAR compliance, being considered globally and /or in local country files?
  • Should compliance roles and responsibilities of TP compliance change re: internal / external resources due to BEPS with additional complexities envisioned?
  • If a Master File and Local Country file methodology is not currently in place, will there be a global and/or regional shift to such methodology?  What is the proposed timing for change?
  • Are the local tax return disclosures re: TP aligned with that country’s TP documentation?
  • What tax team / TP resources are being aligned to address the BEPS initiatives and proposed documentation?
  • Are tax policy statements of the Tax Risk Framework being reviewed for desired TP transparency?
  • Have there been “idea” meetings to discuss next steps in a creative atmosphere?

A BEPS / TP review will be valuable in aligning future vision, flexibility and transparency in today’s volatile atmosphere of TP assumptions and perceptions.

 

The European Commission published a report 4 June 2014 on the work of the EU Joint Transfer Pricing Forum in the period July 2012 to January 2014.  The report highlights the effect, including double taxation, of secondary and compensating adjustments, in addition to a flowchart for a recommended transfer pricing audit plan.  The link to this report is included for reference, with key excerpts from the report:

http://ec.europa.eu/taxation_customs/resources/documents/taxation/company_tax/transfer_pricing/forum/com(2014)315_en.pdf

Secondary adjustments

The report presents the general aspects of secondary adjustments and gives recommendations on how to deal with possible double taxation in this context. Member States in which secondary adjustments are not compulsory are advised to refrain from making them in order to avoid double taxation. Member States in which secondary adjustments are compulsory are advised to provide ways and means to avoid double taxation.

Drawing on the EU Parent Subsidiary Directive (PSD) the report recommends characterising secondary adjustments within the EU as constructive dividends or constructive capital contributions. Accordingly, the PSD ensures that no withholding tax is imposed on the distribution from a subsidiary to its parent within the EU. For cases not covered by the PSD, the report describes and recommends the procedure of repatriation in the context of a Mutual Agreement Procedure (MAP) available under the respective applicable Double Taxation Agreement (DTA) or even at an earlier stage. Further it is recommended that Member States should refrain from imposing a penalty with respect to the secondary adjustment.

Compensating adjustments

The report recommends that Member States should accept a compensating adjustment initiated by the taxpayer (upward as well as downward adjustment), if the taxpayer has fulfilled certain conditions: the profits of the concerned related enterprises are calculated symmetrically, i.e. enterprises participating in a transaction report the same price for the respective transaction in each of the Member States involved; the taxpayer has made reasonable efforts to achieve an arm’s length outcome; the approach applied by the taxpayer is consistent over time; the adjustment has been made before the tax return is filed; in case a taxpayer’s forecast differs from the result achieved, the taxpayer is able to explain why this occurred, should it be required by at least one of the Member States involved.

The application of secondary adjustments may lead to double taxation. Therefore, if secondary adjustments are not compulsory, it is recommended that MS refrain from making secondary adjustments when they lead to double taxation. Where secondary adjustments are compulsory under the legislation of a Member State, it is recommended that Member States provide for ways and means to avoid double taxation (e.g. by endeavouring to solve it through a MAP, or by allowing the repatriation of funds at an early stage, where possible). These recommendations assume that the taxpayer’s behavior does not suggest an intent to disguise a dividend for the purpose of avoiding withholding tax.

When repatriation is agreed in a MAP settlement, it is recommended that the MAP agreement states that no withholding tax will be applied by the Member State out of which the repatriation is made and no additional taxable burden will be imposed in the Member State to which the repatriation is made.

As taxpayers may not be aware of the fact that in certain situations a separate request needs to be made for avoiding double taxation resulting from secondary adjustments, Member States which do not consider that secondary adjustments can be treated under the AC are encouraged to highlight in their public guidance the fact that a separate request under Art 25 OECD MTC may be needed to remove double taxation. For reasons of efficiency, it is recommended that taxpayers submit both requests in the same letter.

TP Audit Work Plan

This TP audit work plan is an example of the various steps that are typically performed during a TP audit (not a comprehensive audit) on the side of the taxpayer and on the side of the tax administration, respectively. It should be understood as an informative guide rather than as prescriptive rules. It is recognised that the structure suggested may not fit into all MSs’ and taxpayers’ legal framework and administrative practice. An underlying assumption of the work plan is that properly prepared documentation – as requested by local tax authorities – is available and well-trained staff act on both sides.

 

Re: Best Practices, this is an excellent document to review.  It explains secondary and corresponding adjustments, which are often areas overlooked in audits until the final assessment is issued and the audit has been settled in the primary jurisdiction.  Additionally, the TP audit work plan is a valuable document to develop Best Practices with the tax authorities in planning an audit, developing mutual trust and cooperation.  These principles should also be applied globally, not only within the EU.

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