Strategizing International Tax Best Practices – by Keith Brockman

Kuwait: 100% FDI regime

The recent issue of PwC International Tax News highlights a recent development for taxpayers operating in Kuwait whereby they can retain 100% ownership rights.  This is a significant development in the Middle Eastern region signaling the foreign direct investment initiatives elicited by the Kuwaiti administration.

http://www.pwc.com/en_GX/gx/tax/newsletters/international-tax-services/assets/pwc-international-tax-news-april-2015.pdf

Additionally, the new regime introduces income / customs tax benefits that can be availed of.

Tax and customs tax incentives are of growing importance around the world.  MNE’s should have a proactive structure in place that focuses attention on these opportunities.  Most importantly, tax and customs should be integrated re: tax disputes and appeals in the future coupled with the initial attraction of tax savings.

The OECD has published results of its Discussion Draft for BEPS Action 11: Improving the Analysis of BEPS.  A link to the draft is provided for reference:

http://www.oecd.org/ctp/tax-policy/discussion-draft-action-11-data-analysis.pdf

This discussion draft includes consideration of the following issues:

  • What is the currently available data to analyse BEPS and BEPS countermeasures?
  • What are best practices in governments collecting and making available for research available data?
  • Whether there are additional indicators of BEPS that might be provided.
  • Whether the proposed indicators could have their “signal-to-noise” ratio enhanced.
  • Whether there are additional empirical analyses of BEPS and BEPS countermeasures, particularly in developing countries.
  • Whether there are alternative approaches or refinements of the two proposed approaches to estimating the scale of BEPS.

With the evolution of BEPS, its long-term success and degree of sustainability will be reinforced by metrics, with flexibility to change and adapt accordingly.

However, unilateral legislation advanced by several countries lack this measurement component.  As a result, such actions will have no bases to measure the need for change and the BEPS divergence will grow wider and become more complex.

The attached KPMG Alert provides dangerous precedent for transfer pricing audits in Norway.  In summary, the Supreme Court has ruled that Norwegian tax authorities may use comparables of other taxpayers to provide assessment information for a taxpayer, while asserting that such information is confidential.

In this era of transparency, Norway has violated the mutuality of this concept while attempting to hide behind its method of transfer pricing assessments with information it is not willing, and legally not obliged, to share with the taxpayer.

Taxpayers should be aware of this development, and proactively engage the tax authorities as to their intent to use secret comparables for any purposes during the audit.

Norway – Tax authorities may use “secret comparables”
April 15: Tax authorities may have information available to them from examinations of other taxpayers or from other sources of information not disclosed to taxpayers undergoing transfer pricing audits. The use of this information, when determining the arm’s length price, is referred to as the use of “secret comparables.” In a recent decision, the Norwegian Supreme Court held that the Norwegian tax authorities may use such secret comparables.
The Supreme Court found that the Norwegian tax authorities had provided the taxpayer with sufficient information regarding the secret comparables—third-party contracts provided by other taxpayers—for the taxpayer in this case to have an adequate opportunity to defend its own position and to invoke effective judicial safeguards by the courts.
Background

In the case before the high court, a Norwegian resident oil company sold gas to a related-party company.

The oil company / taxpayer was the subject of a tax audit, and the Norwegian tax authorities concluded that the company’s transfer pricing determinations for its related-party gas sales were not in adherence with the arm’s length principle.

The tax authorities conducted a discretionary assessment of income and used contracts that had been provided to the tax authorities by other taxpayers—third-party contracts—in performing the comparability analysis. The tax authorities did not fully disclose these contracts to the taxpayer, due to confidentiality rules barring the disclosure of sensitive information.

At issue was whether the tax authorities were required to fully disclose the third-party contracts and whether the tax authorities were allowed to base a reassessment on secret comparables.
Confidentiality rule

The Supreme Court first assessed whether the duty relating to confidentiality prevented the tax authorities from sharing the third-party contracts with the taxpayer. The high court concluded that the tax authorities could not share the third-party contracts with the taxpayer because of the confidentiality rule.
Secret comparables

Because the Supreme Court concluded that the confidentiality rule blocked full disclosure of the third-party contracts, the next question was whether the Norwegian tax authorities could base its reassessment on secret comparables.

The Supreme Court referred to measures under the OECD transfer pricing guidelines—i.e., tax authorities must use great care when relying on information available to them from examinations of other taxpayers within the limits of the domestic confidentiality requirements.

According to the Supreme Court, the tax authorities had shared with the taxpayer as much information about the third-party contracts as they could without violating the domestic confidentiality rule. Therefore, the Supreme Court found that the tax authorities could use the third-party contracts—the secret comparables—in their comparability analysis. The Supreme Court explained that the tax authorities had shared sufficient information about the third-party contracts so that the taxpayer would have had an adequate opportunity to defend its own position and to invoke effective safeguard controls by the courts.

In addition, the high court emphasized that the taxpayer had received several enquiries regarding resale prices from the tax authorities, but had not provided a satisfactory response.

The Supreme Court concluded that the tax authorities were allowed to use secret comparables.
KPMG observation

The case illustrates a conflict between a taxpayer’s right to have access to evidence and the duty of confidentiality imposed on the tax authorities. Further, the case also sheds light on the level of disclosure required in order for the tax authorities to use secret comparables.

Even though this decision and a previous decision regarding captive insurance have allowed the use of secret comparables, tax professionals in Norway have expressed an opinion that the tax authorities need to refrain from using data or information from other sources that may not or cannot be disclosed to the taxpayer. As has been observed, when the tax authorities use secret comparables, the taxpayer has a limited opportunity to defend itself and the courts’ have a limited ability to control the discretionary assessment performed by the tax authorities. Further, the use of secret comparables may affect a taxpayer’s right to due process. Still, despite these concerns, this decision of the Supreme Court shows that the Norwegian courts may accept the use of secret comparables in certain cases.

The PwC summary, referenced herein, summarizes the UK Diverted Profits Tax (DPT) proposal.  Additionally, it highlights the effect upon the current year tax provision, including the relevant deferred tax adjustment that includes the date of enactment (26 March 2015).

http://www.pwc.com/en_US/us/tax-accounting-services/newsletters/tax-accounting/assets/pwc-financial-reporting-implications-new-uk-diverted-profits-tax.pdf

US GAAP / IFRS considerations:

  • Align with the auditor if the DPT qualifies as an “income tax” subject to US GAAP ASC 740 and IAS 12, Income Taxes under IFRS.
  • Determine if DPT is applicable (although such notification for DPT to HMRC is not due for six months).
  • Review adjustments for deferred taxes.
  • Calculate any effect for the current year effective tax rate.
  • Determine if tax reserves should be established.
  • Review footnote disclosures for DPT impact.
  • For new APAs, note that the DPT position will be considered first.  This will require extensive documentation for the DPT position as well as the APA submission.

As this controversial legislation was passed less than 30 days ago, there will be a time constraint for determination of the tax accounting impact since any DPT notification and preparation of extensive documentation relevant for HMRC review is now commencing.

Note the tax accounting considerations apply to any new tax legislation, thus the above considerations will apply for similar measures related to new income tax legislation, including BEPS proposals and possibly the Australian DPT equivalent.

EY’s Global Tax Alert of 13 April 2015 sets forth the latest summary of OECD BEPS developments, including the recent discussion drafts under BEPS Actions 3 and 12.

Additionally, the Alert also notes the copycat tactics of Australia re: the UK Diverted Profits Tax (DPT) that went into effect 1 April 2015.  More news on this development should be forthcoming  in the 2015-16 Australian Budget expected mid-May.

http://www.ey.com/Publication/vwLUAssets/Alert:_The_Latest_on_BEPS_–_13_April_2015/$FILE/2015G_CM5365_The%20Latest%20on%20BEPS%20-%2013%20April%202015.pdf

The recent BEPS discussion drafts, Action 3 re: CFC rules and Action 12 re: Aggressive tax planning arrangements, are of paramount importance for all MNE’s and tax administrations.

Australia’s tactics re: a UK DPT mechanism also highlights the controversial manner in which each jurisdiction is fighting for its fisc to the detriment of other tax administrations.  However, what is not transparent in the rules provided to date for the UK DPT is the intent to avoid double taxation.  It is hopeful that Australia will provide a balanced approach to this newfound mechanism for gaining tax revenues in a scheme that asks for full payment by a MNE prior to relevant appeals being filed and discussed.

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http://www.forbes.com/sites/mikemyatt/2012/12/19/the-1-reason-leadership-development-fails/

The OECD has provided its latest consultation inviting comments re: CFC rules, using 7 building blocks for discussion.

  • Definition of a CFC
  • Threshold requirements
  • Definition of control
  • Definition of CFC income
  • Rules for computing income
  • Rules for attributing income
  • Rules to prevent or eliminate double taxation

A link to the consultation is provided for reference:

http://www.oecd.org/ctp/aggressive/discussion-draft-beps-action-3-strengthening-CFC-rules.pdf

As CFC rules are the foundation underlying a country’s right of taxation, while fiscal pressures are forcing administrations to increase their fisc creatively and aggressively, this consultation indicates the long-term strategies for CFC taxation.  Accordingly, MNE’s and other interested parties should review and provide comments accordingly.

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