The OECD/G20d BEPS Project has published: Harmful Tax Practices – 2018 Peer Review Reports on the Exchange of Information on Tax Rulings, referenced herein. This is the third annual peer review of the transparency framework. It covers individual reports for 112 jurisdictions, including 20 jurisdictions reviewed for the first time.
The transparency framework requires spontaneous exchange of information on five categories of taxpayer-specific rulings: (i) rulings related to certain preferential regimes, (ii) unilateral advance pricing arrangements (APAs) or other cross-border unilateral rulings in respect of transfer pricing, (iii) rulings providing for a downward adjustment of taxable adjustment of taxable profits (iv) PE rulings and (v) related party conduit rulings.
The requirement to exchange information on the rulings in the above categories includes certain past rulings as well as future rulings, pursuant to pre-defined periods which are outlined in each jurisdiction’s report and that varies according to the time when a certain jurisdiction has joined the Inclusive Framework or has been identified as a Jurisdiction of Relevance. The exchanges occur pursuant to international exchange of information agreements, which provide the legal conditions under which exchanges take place, including the need to ensure taxpayer confidentiality.
The Organisation for Economic Co-operation and Development (OECD) held a public consultation on the Secretariat Proposal for a “Unified Approach” under Pillar 1 of the BEPS 2.0 project on 21-22 November 2019 in Paris at the OECD Conference Centre.
The OECD Secretariat laid out the timeline for meetings of the Inclusive Framework for the end of January 2020 and in June/July 2020, and suggested that, at a minimum, a high-level political agreement on the Pillar One framework must be achieved by the January meeting.
One commonality voiced at the meeting was that the existing global transfer pricing system, based on the arm’s-length principle, needs to be changed and should at least be augmented by some more formulaic rules.
This common voice is expressed in terms of Pillar One re: digital tax, although this concept has also been trending for international tax in general. It will be interesting to watch this development as the meetings address Pillar Two and a global minimum tax.
Videos of the meeting and other details can be referenced in the EY Global Tax Alert.
The OECD has released a public consultation document on Global Anti-Base Erosion (GloBE), providing novel new rules to address a global minimum tax structure. Comments are due by 02 December 2019, which will assist members of the Inclusive Framework in the development of a solution for its final report to the G20 in 2020.
Comments are requested specifically in three areas: (i) use of financial accounts for tax tax base/timing differences, (ii) combining high-tax and low-tax income, and (iii) carve-out and threshold mechanisms.
The document is well worthy to read, as it shows the new direction (worldwide minimum tax), although the EU and others are yet to be completely convinced.
The OECD has now two proposals in process: Pillar One addresses the digital economy and Pillar Two sets forth a global minimum tax system; global anti-base erosion (GloBE) proposal. The proposals are linked herein for reference.
Both proposals may have one or more legal entities of a multinational taxed on more than one approach, whether they have a digital business segment, and also dependent on the countries where it is taxed notwithstanding the type of business it operates.
This represents a new era of BEPS, and one that demands attention to as the proposals move forward.
Pillar One summary
Scope. The approach covers highly digital business models but goes wider – broadly focusing on consumer-facing businesses with further work to be carried out on scope and carve-outs. Extractive industries are assumed to be out of the scope.
New Nexus. For businesses within the scope, it creates a new nexus, not dependent on physical presence but largely based on sales. The new nexus could have thresholds including country specific sales thresholds calibrated to ensure that jurisdictions with smaller economies can also benefit. It would be designed as a new self-standing treaty provision.
New Profit Allocation Rule going beyond the Arm’s Length Principle. It creates a new profit allocation rule applicable to taxpayers within the scope, and irrespective of whether they have an in-country marketing or distribution presence (permanent establishment or separate subsidiary) or sell via unrelated distributors. At the same time, the approach largely retains the current transfer pricing rules based on the arm’s length principle but complements them with formula based solutions in areas where tensions in the current system are the highest.
Increased Tax Certainty delivered via a Three Tier Mechanism. The approach increases tax certainty for taxpayers and tax administrations and consists of a three tier profit allocation mechanism, as follows:
‒ Amount A – a share of deemed residual profit6 allocated to market jurisdictions using a formulaic approach, i.e. the new taxing right
‒ Amount B – a fixed remuneration for baseline marketing and distribution functions that take place in the market jurisdiction; and
‒ Amount C – binding and effective dispute prevention and resolution mechanisms relating to all elements of the proposal, including any additional profit where in-country functions exceed the baseline activity compensated under Amount B.
Pillar Two Summary
Under Pillar Two, the Members of the Inclusive Framework have agreed to explore an approach that leaves jurisdictions free to determine their own tax system, including whether they have a corporate income tax and where they set their tax rates, but considers the right of other jurisdictions to apply the rules explored further below where income is taxed at an effective rate below a minimum rate. Within this context, and on a without prejudice basis, the members of the Inclusive Framework have agreed a programme of work that contains exploration of an inclusion rule, a switch over rule, an undertaxed payment rule, and a subject to tax rule. They have further agreed to explore, as part of this programme of work, issues related to rule co-ordination, simplification, thresholds, compatibility with international obligations and any other issues that may emerge in the course of the work.
Members of the Inclusive Framework agree that any rules developed under this Pillar should not result in taxation where there is no economic profit nor should they result in double taxation.
This part sets out the global anti-base erosion (GloBE) proposal which seeks to address remaining BEPS risk of profit shifting to entities subject to no or very low taxation It first provides background including the proposed rationale for the proposal and then summarises the mechanics of the proposed rules together with a summary of the issues that will be explored as part of the programme of work.
While the measures set out in the BEPS package have further aligned taxation with value creation and closed gaps in the international tax architecture that allowed for double non-taxation, certain members of the Inclusive Framework consider that these measures do not yet provide a comprehensive solution to the risk that continues to arise from structures that shift profit to entities subject to no or very low taxation. These members are of the view that profit shifting is particularly acute in connection with profits relating to intangibles, prevalent in the digital economy, but also in a broader context; for instance group entities that are financed with equity capital and generate profits, from intra-group financing or similar activities, that are subject to no or low taxes in the jurisdictions where those entities are established.
The Platform for Collaboration on Tax – a joint initiative of the IMF, OECD, UN and World Bank Group – has undertaken, at the request of the G20, the development of a series of “Toolkits” to help guide developing countries in the implementation of policy options for issues in international taxation of greatest relevance to these countries.
This toolkit, in draft version, is intended to provide an analysis of policy options and a “source book” of guidance and examples to assist low capacity countries in implementing efficient and effective transfer pricing documentation regimes.
This first part of the Toolkit provides information on the background, context and objectives of transfer pricing documentation regimes.
Part II then discusses a number of general policy options and legislative approaches relevant to all types of documentation requirements.
PART II. OPTIONS FOR COUNTRIES TO IMPLEMENT TRANSFER PRICING DOCUMENTATION
This section discusses various policy considerations and options relevant to designing a regime for transfer pricing documentation. These include:
The regulatory framework, through a combination of primary legislation, secondary legislation and guidance;
Confidentiality of taxpayers’ documentation and information;
Timing issues concerning when documentation must be in place and when it is required to be submitted to the tax administration;
Enforcement, including penalties and measures to assist and promote voluntary compliance;
Dealing with access to information outside the jurisdiction; and
Simplification and exemptions.
Part III focuses more specifically at each kind of documentation in turn, and examines the specific policy choices that are relevant to each, as well as providing a number of examples of country practices.
As the French digital services tax (DST) is in effect from 1/1/2019, with the first payment due in November, there is considerable uncertainty how this tax will be repealed/refunded when/if an OECD DST model takes its place.
The politicians see this as a potential remedy to put out the fire which started with implementation of this tax. However, this issue becomes more complex from an international tax perspective as to how a refund/repeal would be treated: prospectively, retroactively, or some other method.
As this tax, similar to other provisions, was enacted unilaterally by the French administration anxious to improve their fisc, it is now shown to be disingenuous timing at the expense of multinationals which now have to pay this tax. Hopefully, other countries do not follow this lead in advance of the OECD DST proposals.
As tax treaties become more important in the international tax landscape, for both developed and developing countries, it is important to review practical guidance provided to tax administrations to enforce such treaties. This is a valuable primer for those involved in tax treaty interpretation and negotiation. The recently released Manual is provided as a reference link.
The present publication, entitled United Nations Manual for the Negotiation of Bilateral Tax Treaties between Developed and Developing Countries (the Manual), aims at strengthening the technical expertise of developing countries’ tax officials as regards the negotiation of tax treaties.
It provides practical guidance to treaty negotiators in developing countries, in particular those who use the United Nations Model Double Taxation Convention between Developed and Developing Countries (the UN Model).
This Manual constitutes an introductory guide to tax treaty negotiations and, as such, provides general explanations on the way treaty negotiations are conducted and on the issues that are typically addressed during these negotiations. While it seeks to identify important issues that treaty negotiators should be aware of, it does not attempt to provide an exhaustive analysis of these issues. When preparing for treaty negotiations, the user of this Manual will therefore often need to go beyond the explanations provided in these pages and to further research the issues that are identified therein. keeping in mind that the detailed Commentaries on the provisions of the United Nations Model Double Taxation Convention between Developed and Developing Countries and of the OECD Model Tax Convention on Income and on Capital constitute the most authoritative source of information on the interpretation of these provisions.
The United Arab Emirates (UAE) have enacted new economic substance requirements that entered into force at the end of April 2019.
In response to EU Code of Conduct Group (COCG) initiatives, the governments of Bahamas, Bermuda, British Virgin Islands (BVI), Cayman Islands, Guernsey, Isle of Man, Jersey, Mauritius and Seychelles introduced economic substance rules with effect from 1 January 2019. The rules are based on the guidance and requirements issued by the EU and the OECD, and are designed to ensure that companies operating in a low or no corporate tax jurisdiction have a substantial purpose other than tax reduction and an economic outcome that is aligned with value creation. To align with the international standards, the UAE has now enacted substance rules.
To meet the economic substance requirement, companies will generally need to satisfy the following three tests:
The company should be directed and managed in the UAE for the specific activity.
The company’s CIGA should be performed in the UAE.
The company should have an adequate level of qualified employees, premises and annual operating expenditures.
Companies with UAE operations, especially without adequate substance, should review the new rules or administrative penalties or reregistration.
EY’s Global Tax Alert provides additional details for reference.
Not awaiting the OECD’s proposals for which a Workplace will be delivered in 2020, implementation following that several years later, New Zealand seeks to propose a 2-3% Digital Services Tax (DST) in the interim. Public comments will be accepted by July 18th. The Government discussion document and EY’s Global Tax Alert provide details, as referenced herein.
Discussion document highlights:
The Government is committed to ensuring everyone pays their fair share of tax, including digital multinationals. Achieving this will require changes to the current tax rules. There are two options for this:
The first option is to apply a separate digital services tax (DST) to certain digital transactions. A DST taxes at a low rate (for example, 2% to 3%) the gross turnover of certain highly digitalised businesses that are attributable to the country.
The other option is to change the current international income tax rules, which have been agreed to by countries (usually referred to as “the international tax framework”).
In summary, New Zealand is not patient to wait for OECD rules, wishes to implement a transition tax in the interim and plans to repeal this tax with the OECD solution when it becomes effective.
On 31 May 2019, the Organisation for Economic Co-operation and Development (OECD) released its document Programme of Work to Develop a Consensus Solution to the Tax Challenges Arising from the Digitalisation of the Economy (the Workplan).
The Workplan describes the planned approach for addressing the tax challenges of the digitalization of the economy that has been agreed upon by the 129 jurisdictions participating in the OECD/G20 Inclusive Framework on Base Erosion and Profit Shifting (BEPS). The Workplan was approved at the 28-29 May plenary meeting of the BEPS Inclusive Framework, which brought together 289 delegates from 99 member countries and jurisdictions and 10 observer organizations.
A final report is envisioned for 2020, including:
Pillar One focuses on the allocation of taxing rights, and seeks to undertake a coherent and concurrent review of the profit allocation and nexus rules;
Pillar Two focuses on the remaining BEPS issues and seeks to develop rules that would provide jurisdictions with a right to “tax back” where other jurisdictions have not exercised their primary taxing rights or the payment is otherwise subject to low levels of effective taxation.
Under Pillar One, the first option (i) Modified Residual Profit-Split method would allocate to market jurisdictions a portion of an MNE group’s non-routine profit that reflects the value created in markets that is not recognised under the existing profit allocation rules, or (ii) the fractional apportionment method involves the determination of the amount of profits subject to the new taxing rights without making any distinction between routine and non-routine profit, or (iii) distribution-based approached that would provide a baseline profit attributable to marketing, distribution, and user-related activities. The concept of losses is also to be recognized in the relevant model.
As stated in the workplace, the real risk is that “A further issue is the recognition that if the Inclusive Framework does not deliver a comprehensive consensus-based solution within the agreed G20 time frame, there is a risk that more jurisdictions will adopt uncoordinated unilateral tax measures.”
Additionally, the current workplace is focused on digital tax, although some concepts may creep into discussions of income tax.
A reference to the Workplan is provided for reference.
India’s Central Board of Direct Taxes has published a report for comments, due by May 18th.
The Committee has recommended a mixed or balanced approach (“fractional apportionment”) that allocates profits between the jurisdiction where sales take place and the jurisdiction where supply is undertaken. India’s position is that such approach is acceptable in other tax treaties. However, the risk of double taxation is present if this approach is not adopted by other countries. Additionally, the approach differs from the OECD approach, which then introduces more complexity for all multinationals with Indian operations.
India is known for its long appeals, and different approaches to its fisc. Accordingly this report should be reviewed, with a possibility to comment, prior to further actions. This report, and methodologies, will also be closely followed by other countries in this complex and subjective area of PE profit allocations.
EY’s Global Tax Alert provides additional details, for reference.
This 2017 edition of the OECD Transfer Pricing Guidelines incorporates the substantial revisions made in 2016 to reflect the clarifications and revisions agreed in the 2015 BEPS Reports on Actions 8-10 Aligning Transfer pricing Outcomes with Value Creation and on Action 13 Transfer Pricing Documentation and Country-by-Country Reporting. It also includes the revised guidance on safe harbours approved in 2013 which recognises that properly designed safe harbours can help to relieve some compliance burdens and provide taxpayers with greater certainty.
A link to the Guidelines is attached for reference.
The EU Joint Transfer Pricing Forum recently published a paper illustrating when to use the profit split method (PSM) and how to accomplish the split of profits per the OECD Guidelines. The report is linked as a reference.
The report is a complement to, and supports, the OECD Revised Guidelines on the application of the Transactional Profit Split Method issued in June 2018.
As this method is not simple, and is also a focus on transfer pricing issues in the US, this paper is valuable into the application and concepts of PSM.