OECD Gaining Ground in Fight against Aggressive Tax Structuring

The idea is that pro­fits should in­cre­asin­gly be ta­xed where the eco­no­mic ac­tivity ac­tually ta­kes place. The OECD has iden­ti­fied the key is­sues in a to­tal of 15 main areas to be ad­dres­sed, which it terms “ac­tions.”

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To date, 44 coun­tries ac­coun­ting for some 90% of glo­bal out­put have si­gned on to the BEPS pro­ject. In ad­di­tion to the OECD mem­ber sta­tes, their ranks in­clude ma­jor emer­ging eco­no­mies such as China, In­dia, Bra­zil, and Rus­sia. The OECD has al­re­ady publis­hed re­ports on se­ven of the 15 to­tal ac­tion items, and these have been un­ani­mously em­bra­ced by the par­ti­ci­pa­ting coun­tries. Re­ports and re­com­men­da­ti­ons on the re­mai­ning ac­tions are ex­pec­ted to be com­ple­ted by the end of 2015.

In par­ti­cu­lar, the ef­fort to in­tro­duce coun­try-by-coun­try re­por­ting, the ru­les on hy­brid mis­match ar­ran­ge­ments, and the an­ti­ci­pa­ted ex­pan­sion of the de­fi­ni­tion of what con­sti­tu­tes a per­ma­nent es­ta­blish­ment will be of prac­tical re­le­vance for Ger­man com­pa­nies doing busi­ness in­ter­na­tio­nally.

Coun­try-by-coun­try (CbC) re­por­ting is an ef­fort by tax aut­ho­ri­ties in va­rious coun­tries to ob­tain much more in­for­ma­tion than be­fore about the busi­ness re­la­ti­ons­hips of mul­ti­na­tio­nal en­ter­pri­ses in each coun­try. The key data here con­cerns the dis­tri­bu­tion of pro­fits, ta­xes, em­ployees and the func­tions they carry out in in­di­vi­dual coun­tries, along with in­for­ma­tion about an en­ter­prise’s ca­pi­tal and as­sets. The re­qui­red in­for­ma­tion for CbC re­por­ting can ge­ne­rally be de­ri­ved from the exis­ting re­por­ting pro­ces­ses in place at com­pa­nies or in cor­po­rate groups. The com­pa­nies af­fec­ted by this rule must al­low suf­fi­ci­ent time to de­ter­mine the ex­tent to which the re­qui­red data is ac­tually avail­able. Mo­re­over, the data must be re­con­ci­led with exis­ting trans­fer pri­cing do­cu­men­ta­tion to avoid in­con­sis­ten­cies.

There are al­re­ady noti­ce­able signs in Ger­many that cer­tain BEPS to­pics have caught the at­ten­tion of fe­deral law­ma­kers. Ger­man tax law al­re­ady in­clu­des ru­les on hy­brid mis­match ar­ran­ge­ments that ex­ploit (le­gal) tax ad­van­ta­ges ari­sing from dif­fe­ren­ces in the tax re­gimes of va­rious coun­tries. These will be spel­led out in grea­ter de­tail this year. The OECD aims to pre­vent dou­ble non-ta­xa­tion or dou­ble de­duc­tions of busi­ness ex­pen­ses in two coun­tries by using lin­king ru­les to make ta­xa­tion in one coun­try de­pen­dent on the tax tre­at­ment of the tran­sac­tion in the other coun­try. As a rule, busi­ness ex­pen­ses as­so­cia­ted with a hy­brid fi­nan­cial in­stru­ment will then no lon­ger be de­duc­tible in the source coun­try if the cor­re­spon­ding in­come is not re­por­ted for tax pur­po­ses by the re­ci­pi­ent of the pay­ment in the other state. Iden­ti­fy­ing and do­cu­men­ting these ca­ses will sub­stan­ti­ally in­crease the ef­fort re­qui­red to cal­cu­late and de­clare ta­xes.

The coun­try in which a per­ma­nent es­ta­blish­ment is lo­ca­ted ge­ne­rally has the right to tax the pro­fits ge­ne­ra­ted by that per­ma­nent es­ta­blish­ment. In most ca­ses, the state in which the pa­rent com­pany is lo­ca­ted ex­empts from tax the pro­fits ge­ne­ra­ted by the per­ma­nent es­ta­blish­ment. This is the ap­proach ta­ken by many cur­rent dou­ble ta­xa­tion trea­ties ba­sed on the OECD Mo­del Con­ven­tion. Now, the OECD is working on ways to pre­vent the ar­ti­fi­cial avo­idance of per­ma­nent es­ta­blish­ment sta­tus. In the cur­rent dis­cus­sion draft da­ted Oc­to­ber 31, 2014, the OECD fa­vors ex­pan­ding the de­fi­ni­tion of a per­ma­nent es­ta­blish­ment. It also calls for nar­ro­wing the set of cir­cum­stan­ces al­lo­wing for ex­cep­ti­ons. If this view is in fact ac­cep­ted by the coun­tries par­ti­ci­pa­ting in the Ac­tion Plan on BEPS and finds its way into the wording of in­di­vi­dual dou­ble ta­xa­tion trea­ties, then busi­ness ac­tivity ab­road would be clas­si­fied as a per­ma­nent es­ta­blish­ment more fre­quently than be­fore. Com­pa­nies that con­duct their busi­ness ab­road th­rough in­de­pen­dent re­pre­sen­ta­ti­ves or using com­mis­sion struc­tures would be par­ti­cu­larly af­fec­ted.

If the OECD ru­les are trans­po­sed into na­tio­nal law, there is also a risk that Ger­man law­ma­kers would be in­te­res­ted prin­ci­pally in one-time do­mestic ta­xa­tion or even in ad­ding a new tax base. The most re­cent fo­ray into this ter­ritory here in Ger­many was made by the Bun­des­rat in the 2015 An­nual Tax Act, which con­ta­ins a pro­hi­bi­tion on de­duc­ting busi­ness ex­pen­ses that, as worded, goes far beyond what is sug­gested by the OECD. This rule has not (yet) been ap­pro­ved by the fe­deral go­vern­ment. Howe­ver, the dis­cus­sion du­ring the le­gis­la­tive pro­cess in­di­ca­tes that BEPS is al­re­ady a high prio­rity among the law­ma­kers de­ci­ding tax po­licy in Ber­lin. As early as 2013, Ger­many’s le­gis­la­tive branch pres­sed ahead with spe­ci­fic mea­su­res in the same vein as the OECD’s re­com­men­da­ti­ons - alt­hough not yet un­der the of­fi­cial ban­ner of BEPS - such as ma­king the re­co­gni­tion of los­ses wi­thin a do­mestic con­so­li­da­ted tax group de­pen­dent on the loss not re­du­cing ta­xes ab­road. In view of the in­ter­na­tio­nal ne­go­tia­ti­ons con­ti­nuing at full steam, ad­di­tio­nal mo­ves such as this can be ex­pec­ted shortly.