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Nexia Ebner Stolz

Attribution of Profits to Permanent Establishments: Implementation of the AOA in Germany and Abroad

Dou­ble taxa­tion trea­ties gene­rally sti­pu­late that an enter­prise's pro­fits attri­bu­ta­ble to a for­eign per­ma­nent estab­lish­ment may only be taxed in the state in which the per­ma­nent estab­lish­ment is situa­ted. How the pro­fit attri­bu­ta­ble to the per­ma­nent estab­lish­ment should be deter­mi­ned is the focus of a long-stan­ding dis­cus­sion not yet resol­ved to this day. The Orga­ni­sa­tion for Eco­no­mic Co-ope­ra­tion and Deve­lop­ment (OECD) aims to bring cla­rity to this issue with its "Aut­ho­ri­sed OECD Approach," known as the AOA, which was trans­po­sed into natio­nal law in Ger­many by the Act Imp­le­men­ting the Mutual Assi­s­tance Direc­tive and Amen­ding Tax Regu­la­ti­ons (Amts­hil­fe­richt­li­nien-Umset­zungs­ge­setz) effec­tive 1 January 2013.

The fol­lo­wing sim­p­li­fied exam­p­les illu­s­t­rate how app­lying the AOA can affect the attri­bu­tion of pro­fits to a per­ma­nent estab­lish­ment accor­ding to Ger­man law.

  • The domestic per­ma­nent estab­lish­ment of a head office resi­dent abroad deve­lops new pro­ducts for the head office. Pre­viously, when cal­cu­la­ting the pro­fits of the domestic per­ma­nent estab­lish­ment, the expen­ses actually incur­red as a result of these deve­lop­ment acti­vi­ties were attri­bu­ta­ble to the per­ma­nent estab­lish­ment. Under the AOA, a ser­vice rela­ti­onship as bet­ween unre­la­ted third par­ties is hypo­the­si­zed bet­ween the head office and the per­ma­nent estab­lish­ment and, accor­din­gly, arm's length con­di­ti­ons are app­lied. The per­ma­nent estab­lish­ment thus does not con­duct the deve­lop­ment acti­vi­ties merely in return for reim­bur­se­ment of the expen­ses incur­red due to the acti­vi­ties. Ins­tead, a com­pen­sa­tion pay­ment must be cal­cu­la­ted in line with the arm's length prin­ciple.
  • A domestic head office acqui­res licen­ses for con­trol­ling soft­ware. This soft­ware is used in both the head office and in the per­ma­nent estab­lish­ment abroad, which in turn per­forms con­trol­ling ser­vices for ano­ther sub­si­diary resi­dent abroad. To date, the license fees were requi­red to be divi­ded bet­ween the head office and the per­ma­nent estab­lish­ment in accor­dance with their use of the soft­ware. Since the AOA requi­res the fic­tion of a ser­vice rela­ti­onship, an arm's length com­pen­sa­tion pay­ment must be cal­cu­la­ted equal to that which the per­ma­nent estab­lish­ment would pay an unre­la­ted third party for the license. At the same time, arm's length com­pen­sa­tion must be attri­bu­ted to the per­ma­nent estab­lish­ment for the ser­vices it per­forms for the sub­si­diary.

The taxable pro­fit of the head office and the per­ma­nent estab­lish­ment chan­ges as a rule when the AOA is app­lied. By exten­sion, this impacts the enter­prise's tax rate. In cer­tain cases, the hypo­the­si­zed ser­vice rela­ti­onship bet­ween the head office and the per­ma­nent estab­lish­ment can even result in the assump­tion of fic­ti­tious pro­fits attri­bu­ta­ble to the per­ma­nent estab­lish­ment if the ser­vices pro­vi­ded by the per­ma­nent estab­lish­ment do not affect the enter­prise's exter­nal pro­fits. Its tax lia­bi­lity would rise as a result.

Ebner Stolz has laun­ched a sur­vey in coope­ra­tion with a num­ber of other mem­bers of the inter­na­tio­nal con­sul­ting net­work Nexia to deter­mine the extent to which the AOA has already been imp­le­men­ted in other coun­tries. The results have been sum­ma­ri­zed in a report which pro­vi­des an ini­tial pic­ture of the effects of the AOA on the attri­bu­tion of pro­fits to per­ma­nent estab­lish­ments in these coun­tries and indi­ca­tes whe­ther clas­si­fi­ca­tion con­f­licts can be expec­ted with the other state invol­ved.

The study can be down­loa­ded here.


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