HMRC is now reviewing diverted profit tax cases in round 2: citing the following EY’s link referenced herein:
There are already 100+ DPT cases ongoing and hundreds more “Large” and “Mid-Sized” cases will now be reviewed and enquiries launched in the next 12 to 18 months. Market intelligence suggests a particular focus on Mid-Sized cases, and on sectors including life sciences, oil and gas, and mining and metals. HMRC is also investigating a number of captive insurance arrangements within large groups.
As a reminder, DPT is aimed at groups that use what HMRC sees as contrived arrangements to circumvent rules on permanent establishment (PE) and transfer pricing. DPT is intended to address two broad situations:
A UK company (or UK PE of a foreign company) uses entities or transactions that lack economic substance to exploit tax mismatches to reduce effective taxation to below 80% of rate otherwise payable in the UK.
A person carries on activity in the UK in connection with the supply of goods, services or other property by a foreign company and that activity is designed to ensure that the foreign company does not create a PE in the UK.
Note, the UK DPT is not arguable on a tax treaty basis, and it is based on the concept of pay now, to be resolved later. It was also enacted as a deterrent for taxpayers to start paying regular tax, vs. no tax, as a DPT was seen as an avenue to avoid the additional tax and controversy. Thus, it is prudent to review any potential instances of DPT.
EY’s Global Tax Alert provides a summary of the US congressional developments, including a review for US Foreign Tax Credit (FTC) applicability of the UK’s Diverted Profits Tax (DPT) which went into effect April 2015.
This review highlights a renewed focus on receiving a US FTC for income that may have been taxed in another (low-tax) jurisdiction and for which a country asserts a right to tax in its jurisdiction. The answer is not yet clear, and this analysis also points the way forward for similar tax measures being legislated by various countries.
In an ever-increasing tidal wave of transparency proposals, the South African Revenue Service (SARS) issued a draft notice on Reportable Arrangements.
The proposals provides that a Reportable Arrangement must be reported to SARS with 45 business days if:
A nonresident renders technical, managerial or consultancy services (non-defined terms) to a resident, and
The nonresident, its employees, agents or representatives were or will be physically present in S. Africa in rendering such services, and
The expenditure will exceed R10M (approx. $823k) in the aggregate.
Penalties for non-disclosure are applicable, and SARS may use this new mechanism to determine if the non-resident company is registered for income tax or VAT in S. Africa and if there is a permanent establishment (PE) for profit attribution.
This proposal is important to monitor, as it highlights different methodologies for determining what services are being provided by non-resident companies, and if such activities could be designated as a PE with some profits subject to tax.
The UK’s Diverted Profits Tax, Australia’s follow the leader implementation in its General Anti-Avoidance Rules (GAAR) and this disclosure present different processes that tax administrations are looking to capture additional taxes for fiscal growth, incentived by the OECD BEPS Guidelines and objectives, although such Guidelines are not yet finalized.
The recent Guardian article highlights the danger that the UK Diverted Profits Tax (DPT) has incited. Countries are acting unilaterally and/or in working groups (including the EU) to accomplish their fiscal objectives behind a thin veil of BEPS intentions. Most importantly, such actions may never be unraveled after the final OECD BEPS Guidelines are published.
Accordingly, we will have overlapping domestic and treaty provisions (including the arguable non-treaty DPT) for anti-avoidance rules, CFC rules, capturing low-taxed income from other jurisdictions in novel ways, non arms-length approaches, formulary calculations of the “right tax” and significant complexity for all. To the extent public disclosure of tax related data becomes a reality by the OECD or EU, many questions will arise on a very complex topic for which most people will not comprehend.
It is hopeful that countries put a full stop on BEPS activities until the Guidelines are finalized, after which such Guidelines can be adopted in their final form for overall consistency. Statements similar to the herein should be tempered by patience and a goal for global consistency. Thus, working group meetings that are scheduled prior to that time will only exacerbate the tsunami of international tax guidance and documentation that will take place.
The press release cites the urgency of such legislation, while also stating that such initiatives will be consistent with the OECD BEPS Actions.
The UK’s new tax still has more questions than answers, and it is hopeful that Australia and members of the G20 will await OECD’s final guidance on BEPS initiatives and align any new tax with comprehensive documentation prior to issuance. Additionally, it will be interesting to note the trend away from citation of the well recognized arm’s length principle toward a concept of economic value and significant people functions.
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).
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.
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.
Clifford Chance has provided an excellent primer discerning the objectives, framework and challenges of the UK DPT that await MNE’s with a commencement date of 1 April, 2015. The most recent guidelines were set forth in the latest UK Finance Bill, including a narrowing of the notification requirement while expanding the permanent establishment (PE) threshold. A link to the summary and related PDF detail, as well as recently issued guidance from HMRC, are included for reference:
This new “tax” is controversial, although its tentacles have already spread to Australia and other countries for similar consideration and implementation. Additionally, it is worth noting that the OECD is closely watching these actions, remembering the viral discussions that ensued after UK and Germany jointly endorsed the “substantial nexus” approach for intangibles.
MNE’s will need to understand this new initiative and design a course of action, starting with documentation of its actions directly / indirectly in the UK and deciding if it is beneficial, and how, to discuss such conclusions with HMRC. Apart from potential double taxation, there are many uncertainties introduced by this legislation.
Only time will tell how aggressively HMRC will pursue this “tax,” especially with its commencement on the heels of an upcoming election for which politics and taxes are always intertwined.