(beps) initiative

From the Praxity Tax ConferenceBrussels, May 2015

It’s all about the BEPS

Perspectives from Praxity Firms

on the OECD Base Erosion and

Profit Shifting (BEPS) Initiative

2

The OECD (BEPS) initiativeConference NotesBrussels, 2015

Table of Contents

Praxity Press Release - Date: Friday 22 May 2015

Interview with Rob Wagner, Praxity Chair of the Global Tax

Working Group

Geographic (U.S.) comment from Rob Wagner

Interview with John Durland, Praxity Chair of the Core International Tax Group

General views on BEPS in Canada

BEPS Action 1 - Challenges of the Digital Economy

Panel discussion - Action 1

Vincent McCullagh on indirect taxation

Ben Semper on direct taxation

Views from the US and Mike Schwartz

Q&A from Action 1

Conclusion by Bert Laman - Action 1

Action 2 - Hybrid mismatch

Executive summary by Roy Deaver - Action 2


Specific territorial reactions

Action 5 - Harmful Tax Practice

Executive summary by Noel Cunningham - Action 5


Introduction by Noel Cunningham

Substance by Richard Benn

Dick van Sprundel on patent box regimes

What the Netherlands does

View of Bill Henson on transparency from a US perspective

Q&A

South Africa viewpoint on BEPS and Action 5

Anon quote from a US delegate

4

6

9

10

12

13

13

14

15

17

18

19

20

20

21

24

26

26

27

27

29

30

31

32

33

34

34

3


BEPS Action 6 - Treaty Abuse

Executive summary by Andrew Lam - Action 6


Exploring the different proposed anti-abuse provisions

German view Martin Eberhard

U.S. view - Chris Clifton

Canada view - Andrew Lam

Asia Pacific - Arran Boote

Action 8 - Transfer Pricing of intangibles

Definition of IP

OECD framework for transfer pricing

Transfers of intangible property

Actions 9 & 10 - Risk shifting and recharacterization of transactions (profit split)

Executive summary by David Sayers Actions 9 & 10

Panel discussion - Actions 9 & 10

Canada’s viewpoint - Melinda Nguyen-Raybould

Anthony Tam - a geographic perspective on BEPS and locations savings

Views from Mexico - Carlos Burgos

Action 13 Transfer Pricing documentation and CbC reporting


Master file content

Local file content

Views from Australia - Greg Travers

More views from US - Mike Schwartz

Views from the UK - David Prestwich

35

35

36

37

38

38

38

38

39

40

41

43

47

47

48

50

51

52

54

54

55

56

57

57

58

4


Praxity Press Release - Date: Friday 22 May 2015

Praxity Global Tax Conference – meeting the BEPS challenge

Praxity – the world’s largest alliance of independent accountancy firms – hosted its annual global tax conference in Brussels on 11 and 12 May. Attended by over 200 delegates from participant firms around the world, it was a conference of substance and structure; two of the underpinning themes emerging from the OECD’s Base Erosion & Profits Shifting (BEPS) programme.

Global Tax Chair, Rob Wagner from BKD (US) welcomed Praxity colleagues emphasising the conference was to discuss the next phase of the programme and ensure multi-national clients are BEPS ready: “Bringing together so many authoritative international tax specialists is a real opportunity to look past the political agenda and transfer pricing tensions. The world is changing and tax needs to change with it.”

He continued: “Putting each country’s agenda to one side, BEPS will place a massive compliance burden on clients. Businesses will need to examine and in some cases, revise their company structures; they will need to look at business substance and some will need to implement country-by-country reporting systems. Global tax professionals will be largely responsible for educating clients and ensuring BEPS is implemented efficiently.”

London-based Timothy Lyons QC, opened the two day event with a political perspective: “As tax lawyers, we tend to see the OECD as a global tax organisation – it isn’t...it never was...yet it might be in the future.” He pointed out that while business is global, politicians are local and there rests the problem: “This whole BEPS programme is about helping domestic politicians catch up with businesses.”

Timothy introduced delegates to the UK’s new Diverted Profit Tax which he advised: “Doesn’t actually tax in a straightforward way any income, any profit or any capital, suggesting there are some metaphysical concepts beyond your wildest dreams.”

Ian Brimicombe, Vice President, Corporate Finance, AstraZeneca gave a business perspective: “As a multi-national organisation, we are generally perceived to have complex tax arrangements but for some time now we have been trying to simplify and streamline our value chains with some success. BEPS is generally welcomed by businesses as there has been an unfair playing field; we are looking for a co-ordinated and consistently applied set of international tax rules.

“The main challenge is defining economic value and where that value is created. For some stakeholders the redistribution of wealth is an objective. That worries me as it could result in a significant shift in the profit base as a result of multiple interpretations of transfer pricing guidelines.”.

5


Putting the theory into practice, delegates worked through a multi-national business scenario for an entertainment company, examining a range of tax issues including; structure and substance, abusive patent box regimes, the artificial use of companies for royalty withholdings and VAT, plus defining what is deemed a ‘royalty’ and what is a ‘service’

Joel Mitchell, International Tax Partner at Plante Moran (US) comments: “The structure we presented was intentionally designed to challenge delegates and show how a company over time can become fragmented.

“Ultimately, the US is involved in BEPS because we care about protecting the residence and revenue of home-grown companies. When it comes to tax, you can’t take it out of business decisions.”

During the conference it became apparent that each country and region continues to have individual BEPS goals, with many taking a ‘wait and see’ approach for the final reviews of each Action.

Noel Cunningham, Mazars (Ireland), led the presentation on Harmful Tax Practice and suggested one significant leap forward is the definition of what constitutes substance: “The latest Action 5 report brings some clarity to substance and intangible property. The Modified Nexus Approach is being adopted, which means that where Research & Development is located, it will be deemed to have substance. This affects any clients with patents and is definitely a space to watch.”

Underlining the value of the conference, Andrew Lam, International Tax Partner at MNP LLP(Canada) and lead panel presenter on Action 6 Treaty Abuse said: “Communication across borders is going to be vital going forward. Given the potentially very broad reach of Action 6 and the likely increase in circumstances where a person may potentially be subject to double taxation, it is likely that there will be more work relating to competent authority.

“I anticipate us all having more involved discussions about treaty benefits and there will be more work in restructuring some of our client’s arrangements post-Action 6 and BEPS in general. We can assist by increasing communication, helping our clients prepare for the impact and anticipating specific issues.”

Rob Wagner echoed this view: “Gaining global consensus, if that indeed happens, is going to be challenging. There are huge obstacles; change brings confusion and uncertainty. However, we have a lot of talented tax people all over the world and being able to tap into that local expertise, while providing a seamless global service, will be of huge value to clients as BEPS unfolds.”

6


Interview with Rob Wagner, Praxity Chair of the Global Tax Working Group

1. What are the top three considerations we need to factor in now in relation to BEPS, which Actions are most significant do you think?

In my opinion, the top three considerations coming out of the BEPS project (in no particular order) are:

a. Updating the permanent establishment definition and transfer pricing of intangiblesb. Preventing double non-taxationc. Increasing transparency, and updating the tax system to adapt to the digital world.

The accountant in me places a higher priority on adapting systems to obtain information to increase transparency. The old saying “that what gets measured, gets done” applies to BEPS as well. While I applaud the OECD for taking on the monumental and enormous task of BEPS, the key to implementation will be whether industry and tax authorities can adapt solutions to provide the necessary information to be able to comply with BEPS.

Every country participating in the BEPS project probably has a different idea of what BEPS means. Because of so many divergent views on already complex questions, it must have been difficult for the OECD to reach consensus on many of the Action items. Assuming governments can even come to consensus on the issues, the ability of tax authorities in each jurisdiction to develop systems to obtain information and industry’s ability to comply with reporting requirements will be an important element to achieving success with BEPS.

As a U.S. international tax practitioner and after reading where Robert Stack, US Treasury’s lead delegate to the OECD’s Committee on Fiscal Affairs, was most pleased with Actions 1 (digital economy), 2 (hybrid mismatch) and 13 (transfer pricing documentation and country by country C-b-C reporting), I think there is a high likelihood there will be consensus on these items and I look for U.S. law changes in these areas. Going in the other direction, the U.S. government has some significant concerns with deviating from the transfer pricing standard and the “special measures” provisions included in Action item 9. I think it is highly unlikely the U.S. would adopt any transfer pricing legislation that deviates very far from the arm’ s length standard currently used.

2. Is there anything new coming?

This is difficult to say. There will naturally be additional comments and consequent work to be done on many of the Action items as the OECD reviews the various comments, so that will result in new information. A very interesting and potentially very controversial issue I recently read about is an upgrade to the United Nations tax committee.

7


The Tax Analyst author of this article expressed the view that the most important battle taking place in the international tax world in 2015 may not involve the OECD’s BEPS project. Instead, it may be over a possible upgrade of the United Nations tax committee to an intergovernmental commission. That potential change could have a broad impact on international taxation over the long term by altering the power balance in the intergovernmental organizations engaged in development of international tax rules.

3. What in your view are the main challenges for multinational clients that Praxity members serve?

Most Praxity member clients are medium sized enterprises (MNEs). The vast majority of these clients are not engaged in overly complex/sophisticated tax structures.

While it is fair to recognize the service opportunity for Praxity firms, a significant concern is the potentially massive compliance burden BEPS could potentially place on these medium sized businesses. The approach expressed by the OECD in Action Item 11 is to collect data from MNEs, and then it wants to apply it to SMEs. This approach sounds reasonable on the face of it, but the OECD should recognize that a one-size-fits-all approach for measuring BEPS won't work for both MNEs and SMEs.

It’s important to note that the C-b-C transfer pricing documentation in Action 13 will only apply to MNEs with turnover exceeding euro 750 million. However, governments have a tendency to reduce the thresholds over time and the rules creep in to include medium sized businesses. This is worrisome, as medium sized businesses are still the backbone of most countries around the world. I also believe most tax authorities around the world have to be extremely concerned about the potential cost to implement BEPS. My experience is when there is confusion and uncertainty on issues within a government’s tax authority; this leads to conflict and added costs for a taxpayer.

That’s where the Praxity expertise comes into play, as we have people in most jurisdictions on the ground and they are able to read the situations as they unfold. This creates a huge service opportunity for people to work together. We already have strong expert working groups evidenced by this conference. There’s a lot of information sharing that goes on behind the scenes, including conference calls and steering committee meetings. That level of collaboration will continue.

4. What are the key obstacles for adoption? Do you feel that uncertainty might hold up investment or stifle creativity?

As mentioned earlier, gaining consensus on issues will be challenging in itself, and then the cost of adapting systems, both within the tax authorities and the business community, are huge obstacles. I am not sure if “creativity” will be stifled, but I certainly believe businesses will be very reluctant to invest where there is undue uncertainty.

8


5. How does BEPS impact offshore production or services?

I do not think anyone truly knows the estimated impact BEPS will have on cross-border trade and investment. This has been one of the criticisms of the BEPS project by many practitioners. The OECD has not attempted to measure the potential economic costs associated with BEPS, including a potential adverse effect on cross-border trade and investment.

6. Being honest, do you think BEPS will come to fruition?

While I do not think tax authorities around the globe can successfully implement all aspects of BEPS, I think the exercise is healthy and we will see some changes in tax rules throughout the world. I think it would be unwise not to complete the process of raising and debating the issues so that governments increase awareness and determine what critical issues to address.

7. Is the timeline realistic?

The OECD seems to be on track to complete their work, so yes, I believe the timeline is realistic. However, I don’t know if I understand the thought process of doing so much so quickly. It sort of conflicts with our firm’s culture (BKD) to do one thing really well rather than taking on multiple initiatives at once and implementing poorly. There’s naturally a lot of pressure from the G20 team to push things forward. There are also lots of people involved in the discussion drafts, and with so much cross over between each Action, I’m not always sure that viewpoints filter across.

The next important deadline is September, but personally I think this only marks the beginning of the program. I think it will take quite a while until after the BEPS project is complete for the concepts to be completely thought through from an implementation perspective.

Another thing that worries me about the project is whether the action plans will be vetted more. There has been no attempt to estimate the cost of doing BEPS.

8. How does it impact early adopters? If key markets delay implementation of the actions or are selective in which parts they adopt, would this put early adopters in countries like the UK or Australia at a disadvantage?

I really believe it is a mistake for governments to unilaterally adopt legislation, especially before the BEPS project is complete. I am concerned that this action will jeopardize the coherence of BEPS even before the project is complete and the debate is fully vetted. While many in the business community and in governments have spent a lot of time thinking about BEPS, I am not sure all of these changes are very well understood by the masses. Early and unilateral adoption can lead to chaos and increase the potential for double taxation. A view that many of my colleagues also share.

9


9. How can Praxity firms work more collaboratively to help our clients prepare for all eventualities and provide stakeholders with greater assurance?

BEPS creates a huge service opportunity for Praxity and other professional servicefirms in our industry. There is first an educational opportunity to help explain BEPS to our clients, which is why global conferences like this are so important.

We do need greater participation from the OECD in events like this since firms like those that make up Praxity will be largely responsible for educating their clients on BEPS. This educational process helps determine whether businesses are BEPS ready. They will need help in reviewing their structures and revising them in some cases. Then there is the whole compliance and measurement aspect of BEPS. Businesses will need help developing systems and reporting with aspects of BEPS such as C-b-C in Action 13. Firms with global tax capabilities, like those that make up our Alliance, are uniquely qualified to provide solutions to the business community.

Praxity, like many other professional services organizations, have offered comments to the OECD to help develop Action items. Praxity firms help make sure the voice of industry is heard. Praxity firms can and will work collaboratively to share knowledge, experience and tools to help implement BEPS as efficiently as possible.

Geographic (U.S.) comment from Rob Wagner

From the views shared by U.S. colleagues at this 2015 conference, there seems to be a general feeling that C-b-C reporting will filter down into smaller companies in the U.S. There are definitely lots of different regional views about what will be adopted.

Realistically, I don’t expect every Action will be implemented globally or in the U.S. In some respects, the U.S. is stepping back a bit. We have strong Transfer Pricing and CFC rules already in place. We also have limitation on benefits articles in our income tax treaties that curtail abuse. I can’t see the U.S. changing from the arm’s length standard. The need to be transparent and objective is key. But equally, the level of uncertainty does concern me.

10


Interview with John Durland, Praxity Chair of the Core International Tax Group

1. What are the top three considerations we need to factor in now for each action?

Since a number of the Action items are still going through revisions or public consultations, generally, there are no immediate responses required right now. General considerations that taxpayers should consider now are:

a. Whether a particular structure or plan will likely survive post-BEPS or whether changes will likely be required; b. If a company is considering undertaking planning now, whether such planning is likely feasible in light of the BEPS proposals; c. What potential additional tax compliance burden (if any) will result from BEPS and what additional company resources will be required (if any).

2. Is there anything new coming?

We expect to see an updated discussion draft for some of the 15 Action items and public consultations and comments for others this year. Other Action items, such as the one for the Digital Economy, will likely take some time before they culminate in specific changes to the model treaty and commentary.

3. What are the main challenges for multinational clients that Praxity members serve?

Key challenges posed by BEPS include the potential re-emergence of double taxation and clients managing their tax risk and tax compliance given the increased complexity caused by BEPS. In terms of core international tax, there will be greater tax complexity and compliance, which will result in more costs to companies and/or non-compliance.

4. What are the key obstacles for adoption? Do you feel that uncertainty might hold up investment or stifle creativity?

The key obstacle is getting countries that are “winners” under the current system to agree to changes that generally will be detrimental to them (such as reduced foreign investment) to preserve the tax base of current “losers”. Even if countries agree to this in principle, there is a significant practical challenge in getting countries with different tax systems and laws to harmonize their approach to address these issues. It is possible that certain countries would take unilateral measures to address base erosion.

Uncertainty is without doubt an impediment to business. Businesses may either hold off on implementing certain actions until there is more clarity re BEPS or proceed in the face of this uncertainty and bear the risk that such actions may be adversely impacted by BEPS.

11


5. How does BEPS impact offshore production or services?

BEPS could impact decisions to move (or to not move) their offshore production or services to a particular country. It may also increase the cost to a company to move offshore production or services outside a home country given the additional measures that may be required and /or potential increased tax cost.

6. Is it wise to pre-empt the rules? If not, why not?

It is not necessary to make changes at this time to pre-empt BEPS since a number of the proposals have not been finalized and it is unclear what proposals will be adopted by particular countries.

7. Is the timeline realistic?

The OECD timelines for coming up with specific proposals is tight but they have generally delivered within that timeframe. It remains to be seen how and when countries will respond.

8. How does it impact early adopters? If key markets delay implementation of the actions or are selective in which parts they adopt, would this put early adopters in countries like the UK or Australia at a disadvantage?

Early adopters may find their own approach to tackling certain BEPS initiatives to be different than the OECD Action items. If they are markedly different, the early adopters will need to consider whether to align their proposals with the OECD or leave taxpayers to wade through the morass of dealing with different approaches.

9. What opportunities do these present to Praxity firms? How can we work more collaboratively to help our clients prepare for all eventualities and provide stakeholders with greater assurance?

A potential result of the BEPS initiatives is the re-emergence of double taxation. In the private space especially, whenever there is change or disruption, this creates interesting opportunities for firms to assist clients with tax planning. However, BEPS could drive the SME to back off from tax planning. I also envisage there being a lot more work in relation to dispute resolution and multiple countries trying to claim rights to taxable income.

10. What is keeping the MD’s of your clients awake at night? Are they even talking about BEPS, is it on their radar?

BEPS is generally not considered a significant concern at this point. This will likely be the case until particular countries adopt concrete proposals.

11. What is the number one question clients raise with you?

Do they need to do anything right now in light of BEPS? The short answer at this point is not until there is more clarity.

12


12. Which sectors are going to feel the impact most? How will it affect more traditional ‘home-grown’ companies?

The BEPS initiative will impact all industries but media and technology companies (particularly those companies that do not require physical presence) will be significantly impacted if the proposals are implemented, as it would result in such companies being taxed differently than other more “traditional” businesses.

13. If there’s a selective approach to adoption by countries - both in the G20 and outside - will this result in companies moving their production and support services to countries that refuse to participate in BEPS?

Although theoretically possible, it is unlikely that taxpayers would structure their business simply in favour of countries that do not adopt BEPS. Even without universal adoption of BEPS, the taxpayer’s home country could unilaterally tax particular arrangements using domestic law. Usually, business drivers will still prevail.

General views on BEPS in Canada

The Canadian federal government is an active participant of the OECD BEPS initiative. The government has also indicated in recent Budgets that it is supportive of BEPS initiatives. The views in the tax community vary from cautious concern to scepticism that BEPS will be practically implemented. There generally is little public sentiment specifically on BEPS since it is still generally unknown to the public. There seems to be a general sentiment that taxpayers should pay their share of taxes and be good corporate citizens and a perception (often uniformed due to political grandstanding, etc.) that multinationals are getting away with paying little tax.

13


BEPS Action 1 - Challenges of the Digital Economy


Lead presenterBert Laman, VAT partner, Mazars The Netherlands

Panel• Vincent McCullagh, VAT partner, Mazars UK • Ben Semper, Tax Director, Mazars UK • Mike Schwarz from WeiserMazars stepped in to provide a US perspective, covering for Bill Armstrong at Moss Adams

On reading the report by the OECD, Bert already had some doubts, but after Timothy’s first presentation, he said his doubts had become a little bigger!

In several reports it is stated that MNEs make use of the gaps in the tax systems to reduce the taxable income of profits and this was what was discussed. Action 1 specifically addresses the tax challenges of the digital economy, which from Bert’s point of view is not immediately the most dangerous sector, but of course is subject to things going wrong.

The assignment of Action 1 is to identify the makeup of the digital economy and the main difficulties that the digital economy poses for the application of existing international tax rules. In addition, it focuses on how to develop detailed options to address these difficulties taking a holistic approach and considers both direct and indirect taxation.

Among the issues still to be examined by Action 1, Bert drew attention to:

• The ability of a company to have a significant digital presence in the economy of another country without being liable to taxation due to the lack of nexus under current international rules• The attribution of value created from the generation of marketable location- relevant data through the use of digital products and services• The characterization of income derived from new business models • The application of related source rules• How to ensure the effective collection of VAT/GST with respect to the cross- border supply of digital goods and services.

The strange thing is on the one hand you have the OECD and then the EU and European Commission on the other. On 6th May the EC Commission released its report on ‘A single digital market for Europe’, which with 16 key actions is almost looking to take a completely different approach.

14


Vincent McCullagh on indirect taxation

Vincent confessed that in his view BEPS is not that important for VAT.

“I realise that’s a fairly courageous statement to open with at a BEPS conference, but actually we recognise that BEPS is clearly important from a socio-economic performance, and it’s clearly important in the wider context for our clients, but I’ve yet to be convinced that it will make the light of day. The reason why BEPS is not as important for indirect taxation as the OECD has very little influence over VAT and other systems outside of the EU. Secondly, we have kind of been there and done that and now we’re dealing with the outcome on how you tax the digital economy.”

“Even back in 1999 when I started in VAT it was clear the Internet was going to be a real driver of commerce. And not in a way in which you could reach a market, but where you could instantly deliver services. That wasn’t what it was initially intended to do. It became quickly apparent that with very little infrastructure from anywhere in the world that you could provide digital services into the EU and the VAT was applied where the supplier was established.”

“That made the EU sit up and take notice. For example, the US was selling digital services into the EU without paying VAT, whereas EU companies did have to pay VAT on digital services that were provided to EU customers. Now the EC is never an organisation that moves the quickest. But if there’s one thing that will address that inertia is the belief that the US has a tax advantage.”

“The first change in the rules to the supply of digital services came in 2004. It said that companies supplying digital services from outside of the EU to customers inside the EU, you would have to charge VAT in the country in which your customer is based. So, all of these US companies would either have to register in every EU state or set up a European company and deliver their services from within the EU. The ones who decided to comply, most set up in Luxembourg where the standard VAT rate was 15%, instead of 27% elsewhere. Then all of the EU companies set up in Luxembourg as well. So Luxembourg was getting all of the VAT. So, another plan started, regardless if a non-EU or EU service provider, you would have to charge VAT where the customer is located. They switched from the origination to the destination principle, so where the service was actually consumed. The original date was 2010, but Luxembourg said ‘this is going to kill our economy’ so the deadline was extended to 1st January 2015.”

“Now, EU companies also have to account for VAT in the country where the customer is based. It took 16 years to get from the point where it was a bit of a problem to legislation. So, in relation to direct tax it really stretches the imagination to see if BEPS in relation to direct tax will ever happen. I look at what you guys are trying to do and I think ‘good luck!’ I think we will see more countries bringing in their own rules and I don’t believe the VAT model will really work for direct taxation.”

15


Ben Semper on direct taxation

Ben started his presentation by saying:

“We have this 15-point BEPS Action plan and right at point 1 is the digital economy. But it’s a big topic and very complex. How do you even go about defining the digital economy? It has invaded every part of our lives, our networks we’re connected to, the software. How do you even go about defining it? Is that even possible?”

Pointing out that Action 1 talks initially about some different characteristics of the digital economy, Ben explored the business models? One of the interesting things you see time and again is this concept of a multi-sided business model. In this concept you’ve got a party in the middle that perhaps isn’t really doing very much. And then you have people on all sides of this platform that are interacting. The actual value in that model is how the individuals interact with that platform. Coupled with that is the idea that data in itself is a new commodity and how do you go about taxing data? So, for everything that we do on the Internet, we are being monitored. There are cookies there to see how you interact and what sites you visit, where you are and what you like. All this data is being collected and used to target you for sales and information to make you more efficient.

In its broadest sense, the digital economy is exactly that - it makes things more efficient. It has brought costs down. And as a result we have this harmonisation of the way things are done - a standardisation. Such that where does the value in the supply chain exist? The intangibles - such as the relationships you have built up with customers and the value this creates have become more prevalent than before.

There’s nothing really new in the digital economy, which the OECD has also concluded.It’s just faster, quicker and on a much bigger scale.

We’ve talked about sovereignty issues in taxation saying the fundamentals of taxation are based on sovereignty over subject or sovereignty over territory. Back in 1998 we didn’t anticipate how far and fast things were going to progress. And it was thought the tax systems were suitable at that time. But what we didn’t count on was advisors like us coming up with structures that split risks and functions across borders. The other thing about the digital economy is you can now do that. Back in the traditional days you would form a subsidiary and all of the functions would be performed there. Now with connectivity and the virtual world it is much easier to separate an organisation across borders. Diverting profits away from local activity to an intermediate with a low tax. And a parent company in a country with ineffective or no CFC rules. That’s one of the ways to structure a company to minimise direct taxation.

16


Parties have suggested various solutions to this, including:

• Modifications to the PE - in my view a good place to start. If you look at Amazon as an example, who use exemptions around warehousing to avoid PE. That might have been fine in an old traditional economy where you have sales and distribution functions around your warehousing, but in a virtual world, if your only anchorage to the world is a warehouse and is core to your ability to deliver goods, then maybe that is creating more value than previously.• The OECD has also looked at the concept of a fully dematerialised business, where there is no physical presence at all. This new nexus is based on number of contracts, number of users, payments received, an existing branch which offers secondary services such as marketing that are strongly related to the core business. • The concept of replacing PE with “significant presence” intended to reflect value of closer, more interactive relationships with customers e.g. based on systemic data gathering, local website. So, maybe you do have digital sales, but maybe you have some sort of sales operation in that jurisdiction, and maybe you link the digital sales with the operation that helps generate it.• Withholding tax on digital transactions - one of the blunt tools of dealing with the source of taxation. Some of the parties suggested withholding tax on digital taxation. This could be an efficient way of doing it, but how you administer could be quite difficult. It raises the issue of who is responsible for withholding the tax? • Bandwidth or “Bit” tax – tax website’s bandwidth use but allow credit against corporate tax. This is where you could tax data being downloaded. With my transfer pricing hat on, I find this a difficult concept, because transfer pricing is about value and how do you value data?• Consumption tax options - at a recent conference someone suggested that we could ‘Just do away with business tax altogether and do consumption tax instead.’

Mike Schwarz jumped in saying “These are all horrible ideas. There was a real struggle at the OECD to define the digital economy. We make comments from the business perspective. We have these historic norms of what constitutes a PE. Just because it’s a digital business, don’t change from the historic norms. What they are trying to do is ring fence the digital economy and create PE’s out of the air.”

So where is the OECD with Action 1? Ben explained that in effect the OECD working group has passed the problem onto the other working committees. That is probably right, as you can’t tax the digital economy as it is part of the economy, and you can’t separate from the rest. Instead tackle the abuses. The key Actions are on the Treaty Abuse, CFC rules and Transfer Pricing, which is probably the hardest one, because in a digital economy it is really hard to bottom out where the value is being generated in these highly complex supply chains, especially around intangibles. I’m looking forward to clearer guidance on profit splitting methods.

17


Mike quoted Bob Stack (US rep to the OECD) saying: “Countries have got to implement tougher CFC rules. One of the criticisms of hybrid entities is the reason we have hybrid entities to avoid CFC taxation. So, if you have CFC rules, one of the hybrids ends up going away. So, it is all interrelated and that’s the nice thing. Why then try and outline in 15 steps, they all get combined at the end of the day.”

Ben added: ”Another worry is if we do have an extension of PE, we may end up with lots of states looking to tax the same profits. So, you may end up with lots of PEs and lots of uncertainty. And this could create a double taxation worry. Another issue is the tax authorities just aren’t geared up to deal with this and don’t have the resources. So a lot of pressure is put on corporates to deal with it, but what support are tax authorities going to give them? I think there has to be some change in the playing field.”

Mike added: “That’s why the multi-lateral instrument is so good. So, it hits everyone with the same set of rules. It has to be comfortable for everyone from country to country, but failing that we need binding arbitration. Mutual agreement is not effective enough. Binding arbitration is how you solve DTT. So the profits are only taxed once.”

Views from the US and Mike Schwartz

Leading with several jokes, Mike went on again to quote Bob Stacks emphasising that the government views and the business views in the US are exactly aligned: “We need to guard against new business models being used as a pretext for taxing income beyond that which arises from functions, assets and risks within a country. Physical presence is the most administrative and appropriate rule, even in the digital age. VAT is the appropriate tax based on consumption. So, the US view is don’t change the income tax definitions. What we have works. Over time, Internet companies, like Amazon do become bricks and mortar companies. They are building places of business and are being subject to income tax based on those places of business, so there is an evolution. It may take longer than the old days, but Internet companies do become just like regular bricks and mortar companies over time.

“For Europe to assert a VAT, the US does not take issue with that. In the US, we have sales tax, not VAT, and it’s similar, except it’s only imposed on the end consumer, so there’s none of this tracking of transactions throughout the chain. We cut to the chase and go straight to the end consumer and apply the sales tax there. So, the question is, should Internet companies be subject to sales tax? A bill was passed if their sales exceeded a $1million. That never went anywhere.”

18


Mike continued: “In the US our political system is broken, so nothing will happen during the current administration over the next two years. Maybe after the next election, but probably not. So, this is why the multi-lateral instrument is the one that will be passed over Congress’s head and can be implemented direct. So, a lot of BEPS aspects will be implemented in the US via this multi-lateral instrument, rather than requiring legislation. We will get some of these things, but a lot of the other rules are already in place in the US. This means there’s not a lot of need for the US to be involved. With the digital economy, our focus is the rules that have been in existence for 100 years are working just fine, regardless of the sector or economic presence. We think Action 1 is moving in the right direction.”

Q&A from Action 1

Bert asked the question relating to the MOSS system. “They were aiming for about 200,000 companies to be registered for MOSS, but I recently read that up till now there are only 7,000 registered. What should happen now Vincent?”

Vincent explained that what has happened with MOSS is a load of non-EU companies that were supposed to register in the EU. The thing with the digital economy and one of the fallacies is what is the digital economy. “Some say if you use a computer you are part of the digital economy. If that’s what you’re talking about, it is so easy not to comply with the VAT rules if you sit outside of the EU.

“If you go to a US company, for example, their first question is usually what are the VAT implications. And when you say, you have to register in every country where you have a consumer, their next question is ‘how likely are they to catch me?’ And, actually, the vast majority of non-EU companies with a EU presence in the digital economy do not comply with the VAT rules. When that really becomes a problem is when one of those companies becomes a really big company and goes for an IPO. I’ve seen one that went for their IPO, they hadn’t accounted for any VAT and took a very creative approach towards due diligence.

“It’s an even bigger problem for EU companies. For example, magazines/publishing houses see themselves as traditional companies, but many are entering the digital world. And I don’t know where the 200,000 figure came from, but in the UK less than 2,000 companies are apparently registered for MOSS, when in fact it should be nearer 180,000. But clients say, if I have to register in every country and account for VAT at 20%, my business model doesn’t work. If you are selling services to consumers and you have to account for VAT, that’s 20% off the bottom line. It makes most small Internet companies unprofitable, so they may as well not comply, because if they do comply they go bust. They are going to introduce thresholds. If you did try to apply, you would put 80% out of business. Also, it’s important to note the importance of price elasticity. If consumers don’t want to pay the higher price with the VAT added on, they will go to a non-EU digital company. And the EC now recognises this. That’s why they are introducing these thresholds.”

19


Conclusion by Bert Laman - Action 1

The important thing to understand with Action 1, as with most of the BEPS programmes, is these are recommendations. On one hand you have the OECD, and on the other the EU VAT Directives that must be implemented.

To put the complexity of this into context: I recently had a US client who delivers yoga lessons to private consumers all over the world via the Internet. Because it is not deemed as education, for VAT purposes it qualifies as digital supply. The challenge within the EU countries is because it’s business-to-consumer, and not business-to-business, VAT is charged in the country where the recipient is based.

What makes this even harder to get your head around, as the client would have to follow and administer where their customers are located. This means they have to collect the IP addresses of every customer every quarter. MOSS would enable them to register for VAT in one country and file VAT there, and then the tax administration in that one country will distribute the VAT out to the other countries. But as Vinnie pointed out in his presentation, this administrative task, plus 20% coming off your bottom line, would put many companies out of business.

20


Action 2 - Hybrid mismatch

Executive summary by Roy Deaver - Action 2

What is Action 2?

Action 2 relates to the elimination of hybrid arrangements – those arrangements that result in a deductible item without a corresponding income inclusion on the other side(D/NI) or the same item being deducted in two separate jurisdictions (DD). The elimination should occur through a change in tax treaties as well as each country’s domestic tax laws.

What aspects do you envisage being enacted globally?

Potential limitation on treaty benefits for certain hybrid arrangements – particularly hybrid entities. I would imagine seeing something similar being incorporated into tax treaties as was done in the 2007 US/Canada Tax Treaty Protocol, which limited the benefits that hybrid entities could enjoy under the tax treaty between these two countries. This limitation on benefits was put into place to eliminate certain hybrid arrangements that were taking place and has largely eliminated those structures going forward.

Are there some specific priorities that the OECD is focusing on with this Action?

The US has noted that it is not going to do away with its “check-the-box” rules which have allowed these types of arrangements to proliferate. If the US does not change these rules, then there may not be a limitation on the use of these structures going forward from US multi-national corporations.

Have there been any major developments to this Action since Brussels? None. Guidance expected to be issued in September.

Which clients are likely to be most affected by the changes?

Any client who has any type of financing structure in place – either that arose as part of an acquisition, a repatriation strategy, or internal financing.

With so much speculation, what (if any) steps should clients be taking to plan for this now?

Wait and see what the final proposal is – especially if the US is not going to be changing its rules.

What is the next key milestone?

The OECD will issue additional commentary in September 2015.

21



Lead presenterRoy Deaver, National Tax Partner, International Tax Moss Adams

Panel• Frederik Habers, Tax Director, Mazars Netherlands• Todd Hedgepeth, Tax Partner, BKD• Angeline Godin, Senior Manager, Mazars Luxembourg

Roy opened the panel discussion saying: “A hybrid mismatch is essentially either a deduction in one jurisdiction with no income pick up in another jurisdiction, or a double deduction. It’s something where you have a mistreatment between jurisdictions.”

The BEPS report in Sept 2014 defines it as:

“An arrangement that exploits a difference in the tax treatment of an entity or instrument under the laws of two or more tax jurisdictions to produce a mismatch in tax outcomes where that mismatch has the effect of lowering the aggregate tax burden of the parties to the arrangement.”

Roy pointed out that a lot of Action 2, at least from the US perspective, will look familiar, as it is a result of the check-the-box rules. There’s a lot of ways in which we get to this situation and a lot of structures that we’ll cover off resulting from that check-the-box election. There are also lots of other financial instruments used, such as CPECs in Luxembourg, or repurchase transactions that take advantage of rules or situations in other jurisdictions.

The OECD has proposed that hybrid mismatches be handled through treaties. The proposed amendments are:

Talking through the implications after the panel presentation, Roy explained that in essence the structures will remain the same but that it is likely that the substance will change. One group of clients that will be affected are technology companies. Many will need to move their R&D to locations where people are based to do R&D. He also pointed out that how companies are structured is not always a tax-driven decision, but often about intellectual property and markets. However, since most of the mismatches are finance driven, any industry could be affected by any changes to the rules.

To prevent dual resident entities from obtaining treaty benefits unduly which Roy explained as being when something gets done so the recipient of the income is not considered a resident under the treaty and thereby not eligible for benefits; OR

To prevent transparent entities from obtaining treaty benefits unduly In accordance with the 1999 OECD’s The Application of the OECD Model Tax Convention to Partnerships income will be disregarded for tax purposes if the recipient is not regarded as a resident of that State.

22


Going forward, the OECD’s goals are to conclude the final commentary by September 2015. Specifically, they are aiming for:

1. Greater harmony between the operation of the OECD Model Tax Convention and the proposed domestic rules.2. Clearer provision of guidance of the implementation of the new rules, including providing examples.3. Further refinement of the rules relating to certain capital market transactions and imported hybrid mismatches.

During the panel presentation, the team discussed the various hybrid structures including:

1. Straight hybrid instrument. Roy referenced CPECs (convertible preferred equity certificates) in Luxembourg as an example. Angeline Godin confirmed that in Luxembourg, CPECs remained the only relevant financial instrument, although the deduction of interest is an issue because it is considered as debt.

2. Collateralized loan repo - a repurchase agreement, whereby sales of shares in the company are sold with the option of buying the shares back at a future date, and that option is typically treated as debt and so you get an interest deduction on that. Otherwise you’re moving cash without the recognition of income. In the US, this transaction is not so commonplace now.

3. Disregarded payments made by a hybrid entity to a related party, for example the UK’s anti-arbitrage rule limits this type of structuring. The point being is that in some countries, there is already domestic legislation which limits the D/NI planning ability. When the US check-the-box rules came into the US, this was bread and butter tax planning at the time – and still is for some jurisdictions. It’s a D/NI structure.

4. Payment to a foreign reverse hybrid. Seen quite often in the technology sectors. This rule only applies to a payer in the same control group, or if the payments are part of a structured arrangement. Again, there is domestic legislation and/or existing treaties which limit the applicability of this type of structure. An example of this would be a Canadian limited partnership whereby some benefits are eliminated through a US treaty.

Another example is where you are introducing a bank where the bank is making a loan and this is what we refer to in the US as a double dip structure (or basic double deduction structure using a hybrid entity). This is where you get the deduction in the local country (B) and because of the consolidation rules and/or US check-the-box rules we also get it in country A.

This is definitely more a US structure and recently in the US this would be regarded as a problematic structure. However, the US Dual Consolidated Loss (DCL) rules means that you have to certify that the loss will only be used the one time. It’s not generally applied in other jurisdictions. Because of DCL, you can essentially only apply that loss in one jurisdiction. This is another example of how existing domestic rules limit the applicability of these types of structures.

23


5. Imported mismatch from hybrid financial instrument This is where you get consolidation in two jurisdictions and where B Company makes a loan out for an acquisition. Again the US dual consolidated rules would limit the applicability of this type of arrangement. In Luxembourg this structure is not seen. If looking at three countries, CPECs is used in Luxembourg. In the US, have seen where financed an acquisition in Canada and it would have been similar in concept to this idea, but what the BEPS rules say is if there’s a mismatch you will be able to use the loss if the income is included within a reasonable time. But there’s been no clarification of how far you can carry that forward and when you can use it.

The key thing with Action 2 is more information and clarification is expected in September 2015. A lot of countries have started to change their laws, including the EU with modifications to its Parent Subsidiary Directive.

Overall, the OECD is pushing for tighter reporting of hybrids to facilitate the determination of where income and gains are derived. Specific recommendations for the tax treatment of reverse hybrids and imported mismatches include:

• The introduction of new investment regimes to prevent deductible/no inclusion transactions (D/NI) outcomes in respect to reverse hybrids and imported mismatch arrangements• For reverse hybrids treating as residents of their establishment jurisdiction if the income is not recognized in either the establishment jurisdiction or the jurisdiction of the investor in the same control group.

See the PowerPoint presentation on the Praxity conference website for illustrative examples of problems and proposed solutions and tax treatment recommendations.

For the US, before check-the-box rules there were really tough CFC rules in place for 50 years. This would have made it a really tough process. Check-the-box made it easier for the US to compete with territorial systems, such as those used in the EU. The irony is now they want a tougher CFC system, and the US has gone the opposite way, so an interesting divergence of policy.

So, how are countries reacting to hybrid mismatch? In general, it’s a wait and see approach. There are some countries that are taking steps to eliminate some of these benefits and introduce specific measures already. Although the Netherlands has started reviewing hybrid structures before BEPS concludes, the general view in the Netherlands and Luxembourg is it should be a global approach and measures should not be implemented before BEPS is done.

As an observation, panel member Todd Hedgepeth said: “On some of these transactions you are using 3 jurisdictions, and the OECD doesn’t have any specific enforcement mechanisms, so if you’re going to use a 3rd country that is not in the OECD and has no incentive to be in the OECD how are you going to police the use of that going forward? It seems so easy to get around these rules.”

24


Specific territorial reactions include:

UK Issued consultation recommending that new rules be drafted in line with OECD’s recommendations:

• Including a recommendation to no longer use a “purpose test” as in the current anti- arbitrage rules, but instead use automatic objective triggers.• Proposed rule that any UK deductions be disallowed unless they are matched by dual inclusion income. Exception: Agreement between the two jurisdictions regarding which will allow the deduction.

US• Robert Stack, Deputy Asst. Secretary for Int’l Affairs stated that the US is not interested in subjecting previously established transactions to hybrid mismatch rules, particularly as they relate to repos.• Denial of deductions for interest and royalty payments with respect to certain hybrids.• Limited exceptions to Subpart F for certain transactions involving reverse hybrids.

Spain• Deductions for expenses incurred in related party transactions will be disallowed if the transactions results in: (1) no income generated, (2) income is not subject to tax, or (3) income will be subject to a nominal tax rate of less than 10%.• Additional interest deduction limits beyond the earnings-stripping limitation for interest deduction equal to 30% of operating profit.• Anti-abuse debt-creation rule to characterize intragroup profit participating loans as equity instruments and not debt, thus nullifying “interest” payments as deductible.

Switzerland Proposed new legislation to: • Disallow deductions for net interest and other financial costs, but instead providing a deductible finance allowance equal to 25% of taxable income.• Alternatively, the proposal contains an approach for net financial costs including interest to be capped at 20% of taxable income.

France• Changed their laws to deny deduction for interest that is not includible in income on the other side.

EU• Denial of dividend exemption if payment is deductible to the payer.

25


Germany• Taxation of proceeds received from outbound hybrid financial instruments in which the foreign payer deducted payments.

Mexico• Changed their laws to deny deduction for interest that is not includible in income on the other side.

Ireland• Changed residency rules and to require companies to be Irish tax residents with previously established firms being grandfathered in.

Austria• Proposing to deny deductions for intragroup interest payments that are not taxed in the hands of the beneficial owner.

The Netherlands• Established an interest deduction limitation as it relates to hybrid mismatch.• Conversion of debt into equity through tax requalification.

Australia• Came out in support of the BEPS project, but noted a need for time and individual choice by G20 countries.• Currently investigating to identify and consolidate examples of hybrid mismatch in order to determine whether their current anti-avoidance rules are sufficient.

New Zealand• Intends to be one of the leaders in BEPS reforms.• Already taxes dividends from a foreign country if the dividend is deductible in its home country, but they do not deny deductions for payments not taxable in the foreign jurisdiction.• Will release a government discussion document related to hybrid mismatch in late 2015, to target payments not taxable in other jurisdiction

JapanStarting April 1, 2016:• Dividends paid by a qualifying foreign subsidiary will be excluded from Japan's foreign dividend exclusion (FDE) regime if the dividends are wholly or partially deductible in the country where the foreign subsidiary is located.• Foreign tax credits will be available for the amount of withholding taxes imposed on the dividends excluded from FDE.

26


Action 5 - Harmful Tax Practice

Executive summary by Noel Cunningham - Action 5

What is Action 5?

Action 5 is concerned with combatting harmful tax practices specifically in relation to companies that can easily establish operations in another jurisdiction. Many of these companies are involved in technology and have a large IP component.

It is also concerned with improving transparency and seeks to develop a framework for the compulsory spontaneous information exchange of rulings. It is hoped that increased transparency surrounding favourable tax regimes and rulings will bolster certainty and predictability.

IP regimes and the Modified Nexus Approach

It is significant in that for the first time there is an attempt to define substance and substantial activity. In a way, expenditures act as a proxy for substantial activities. Accessing favourable IP and patent box regimes will, in the future, depend on the extent that a claimant company carries out R&D activities.

The concept of a “Modified Nexus Approach” is being introduced. This approach makes it a condition that there is a direct nexus between the income receiving favourable tax benefits and the expenditure contributing to that income. In this way, benefits are aligned with the underlying purpose of IP regimes by ensuring that the company must incur R&D expenditure in order to benefit from the patent box regime. The purpose is to only grant benefits to income that arises from IP where the actual R&D activity was undertaken by the taxpayer itself.

The patent box regimes in the UK, the Netherlands and Luxembourg are currently under review by the EU. It is hoped that there will shortly be an agreement on a preferential patent box regime that will not be considered harmful, as there are a number of countries, including Ireland and Australia, eagerly awaiting the outcome of this review before deciding on the type of regime to introduce.

Planning in a changing IP regime landscape

Companies that are presently benefiting from IP regimes should be aware that these regimes are going to end. No new entrants will be permitted to these old schemes after 30 June 2016 and no benefits will accrue after 30 June 2021. There are many difficulties with the new Modified Nexus Approach. The definition of IP, for example, is limited to patents and other IP assets functionally equivalent to patents. Software is not included specifically in the definition. On a positive note, in calculating expenditure, an uplift of up to 30% of qualifying expenditure is provided for outsourced R&D and IP that is acquired.

27


Further work by June 2015There is further work to be concluded by June 2015:

• A practical approach to the tracking and tracing of R&D expenditure needs to be developed to implement the Modified Nexus Approach• Measures will be developed to mitigate the risks of new entrants seeking to avail of existing regimes in order to benefit from grandfathering• The FHTP recognises the need to provide more clarity on the definition of IP assets.


Lead presenterNoel Cunningham (Mazars Ireland)

Panel• Richard Benn (Cheetah Management Services - Portugal)• Dick van Sprundel (Mazars Netherlands)• Bill Henson (Plante Moran)

Introduction by Noel Cunningham

Noel‘s opening comment was to highlight the significance of Action 5 in addressing the key concern of mismatch, particularly with regard to companies that can move their operations quite readily across borders. The mismatch arises where the profits reported by many of these companies in particular jurisdictions are substantially out of line with the substance of their operations in those countries. Additionally, the operations are generally established in countries that levy a favourable or very low rate of tax on corporate earnings. So we have large profits and low levels of tax, with little substance.

Action 5 is also important in that, for the first time, we see the emergence of an attempt to define substance and substantial activity.

One might wonder why, in an action plan entitled ‘Harmful Tax Practices’ that the focus immediately turns to looking at IP regimes. The reason behind this is that while the remit of Action 5 is to look at all harmful regimes, the immediate focus is on mobile industries and IP regimes. The OECD does intend to examine harmful regimes in other sectors and industries but this will take place at a later date.

The second leg of Action 5 is concerned with transparency and the simultaneous exchange of rulings. Noel commented that the OECD views this aspect as being just as important as mismatch in the fight against harmful tax practices.

28


Noel said that the issues raised in Action 5 had been entrusted to the Forum of Harmful Tax Practice (FHTP). It is not new as work on this was started back in 1998.

BEPS is about revamping the work on harmful tax practices. In fact it is not really a revamp. It means going back and doing it again but doing it properly! It is about a duel mandate of improving transparency, including compulsory exchange of rulings related to preferential regimes, and trying to define substance and substantial activity.

Action 5 has three outputs - to review the work to-date, to expand the participation to non-OECD members and then after that review, to determine if the existing arrangements need changing. Noel reminded the audience that major countries such as China, India, Brazil and Russia are not OECD members.

The work on harmful tax practices has been going on since 1998 and the same concerns are still present today with mobile companies prepared to relocate to jurisdictions offering little or no taxation. The issue nowadays has shifted more to across the board corporate tax reductions and concessions and away from the ring fencing of operations. Again, the target of this is geographically mobile businesses, which with globalization and technological innovation have made this issue more pronounced and more relevant.

The work on Action 5 has been handed over to the FHTP and so it is important to understand what it is and is not meant to do. The FHTP is not there to harmonize corporate tax rates. It is not there to dictate to any country what level of corporate tax rate they should have. It is aimed purely at reducing distortionary influences of tax on the location of mobile industries.

Has the FHTP been successful? Noel argues that it has not been successful, at least not to any major degree. It has been somewhat successful in relation to transparency and the flow and exchange of information. But it has not been successful in relation to substance and defining what constitutes substantial activity. Possibly, there are a number of reasons for this. Changes in political administrations and economic priorities particularly in the US in 2001 and in the UK in the 2000’s would have deflected the impetus for change.

The first factor in considering the implications of Action 5 for any particular company is to see if it is within scope. It is not concerned with ”bricks and mortar” companies. It is aimed at companies and industries that can move quickly between one location and another. Typically they are financial services operations or companies involved in IP activities.

To determine if a regime is preferential, there are four key factors:

1. Gateway factor – is it in a location with a zero or low tax rate?2. Is it ring-fenced from the domestic economy?3. Is there a lack of transparency surrounding the rate of tax?4. Is there an effective exchange of information process?

29


There are eight further factors, including those that deal with the absence or lack of transfer pricing principals, and all of these are purely tax driven.

These factors will help identify if a particular regime is harmful. But it also must be harmful in practice. For example, it is merely shifting activity rather than generating new activity? Is the presence and level of activities commensurate with the amount of investment and income? Is tax the primary motivation for changing location?

Substance by Richard Benn

The OECD 1998 report Harmful Tax Competition: An Emerging Global Issue made no attempt to define substance nor provide any guidelines on how to identify a lack of substance. It established the FHTP to try and find a solution. This involved examining if a regime encourages purely tax driven operations or arrangements and the initial focus of Action 5 is on preferential regimes relating to intangible property.

The FHTP initially adopted three approaches to the question of substance:

1. Value creation: requiring taxpayers to undertake a set number of significant development activities. This approach received no support and was thrown out.

2. Transfer pricing: allowing the flow through of tax benefits if: • Important functions were performed in the jurisdiction, • The taxpayer was the legal owner of the IP asset,• Uses the assets that give rise to the income, and • The taxpayer bears the economic risk of the assets.

Again the majority of countries raised concerns about this solution and the OECD dropped this approach.

3. The Nexus Approach: The idea behind this is that the tax benefits on income would be connected to expenditure. That did not secure sufficient agreements, so they jumped forward and went with the Modified Nexus Approach, which seeks to make the benefits conditional on the extent of R&D activities.

The Modified Nexus Approach attempts to ensure that the expenditures and benefits are directly linked. Expenditures are used to calculate the tax benefit and allow the income earned after completion of the IP to continue to benefit from a favorable tax regime. The Modified Nexus approach also allows an up-lift of up to 30% of acquisition and outsourcing costs and these can be included as qualifying expenditure. Calculating the tax benefit is a bit of an unwieldy exercise, as the portion of IP that is acquired must be separated from IP that is developed by the claimant company.

Some items have yet to be finalized, including timing. There is a deadline of 30 June 2016 for countries that are going to adopt an IP regime. There will be grandfathering of old IP regimes up to 30 June 2021.

30


What has not been addressed is the tracking and tracing of R&D expenditure. In the case of a huge MNE that is dealing with IP all over the world, tracking and tracing of qualifying expenditures and income will be a hugely complex task. Richard doubts if the OECD will meet the 30 June 2016 deadline for this.

Also, the Modified Nexus Approach only applies to patents and IP assets, not marketing IP, such as brand names and trademarks. Another thing that the FHTP has recognized is the need for further clarification on the definition of qualifying assets. For example, software is not included in the definition.

Another problem is the conflict with EU laws. Under the Treaty on the Functioning of the European Union (TFEU), Article 49 expressly allows companies freedom to choose the legal form for the pursuit of their activities in other EU states and discriminatory tax provisions cannot limit that. The Code of Conduct prevents EU states from introducing legislation that constitutes harmful tax practice. The key one that affects IP regimes is the third criterion; namely the granting of tax benefits irrespective of whether there are activities of substance in that country. The approach adopted under the Modified Nexus rule to limit tax benefits only where in-country development has taken place might be in breach of the fundamental freedoms of the EU. For example, the UK IP box regime as it currently stands is against the EU law.

The OECD’s report proposes the Modified Nexus Approach that looks to have a direct nexus between the income and the expenditures that contribute to that income. This would then not conflict with the ‘fundamental freedoms’ as it does not concentrate on where the IP is invented. Richard thinks that we are a long way from getting this finalized and meeting the 30 June 2016 deadline.

Dick van Sprundel on patent box regimes

In September 2014, Action 5 was published. In November 2014, the UK and Germany shared some ideas and agreed to a joint proposal on preferential intellectual property regimes. Some of these ideas have been taken over by the OECD, which is really quite remarkable, especially since Germany does not have a patent box. But it is leading to some unification.

IP Box regimes in Europe apply mainly to patents. Some are wider in scope and can even contain trademarks and other marketing assets e.g. in Switzerland and Cyprus. Some countries include software, designs and models and secret formulas. Some include know-how, business secrets and processes. Some include only self-developed IP; others extend to IP that is acquired. Despite the rules, in the UK, we know from experience that one can in practice put everything in the box. In the Netherlands, the use of the patent box in practice does not deviate that much from the way it is legally drafted. Generally, 40% of the income may be allocated to the patent box. Thus, the Netherlands, much like the UK, is in practice limited.

31


Patent boxes are very attractive. Several studies have shown that it has spurred economic growth. The rates vary from 15.5% in France to 0% in Malta. In the Netherlands, the innovation box regime has a rate of 5%, which is quite attractive. However, it is not as generous as the UK scheme.

EU States with a patent box regime include Belgium, Cyprus, France, Greece, Hungary, Italy, Luxembourg, Malta, the Netherlands, Portugal, Spain and the UK. In the Netherlands, qualifying expenditure can give rise to R&D tax incentives (the so-called S&O and RDA).

So, what is the global approach for IP patent box regimes? There is a gross approach whereby expenses relating to IP income are deductible from IP income and the balance is then taxed at the regular corporate tax rate. Then there is the net approach, which is followed by most countries.

What the Netherlands does

The Netherlands Innovation Box, (formerly the patent box in 2007), was made more flexible to accommodate SMEs. On 3 March 2015, there was a meeting to discuss what should be done with this incentive even though the Netherlands still believed that it was not contrary to the EU or OECD regulations (not harmful, not considered illegal state aid, not breaching the Code of Conduct). However, the country was already thinking about what it could do to make it more attractive and still keep it open for SMEs as the OECD may have a more strict view on the Innovation Box than the EU does.

The reason for that is the OECD had opted for the Nexus Approach. But there is still a lot of debate and guidance expected on what expenditures qualify, and what will be qualifying IP in the lead up to September 2015. Much of this will not be beneficial for small companies. The Dutch Ministry of Finance wants to keep its box and is pro-actively reviewing it. More information is expected after the summer retreat by the Dutch government.

Dick is of the view that the most important thing is to engage with clients currently benefitting from the Innovation Box about the implications of BEPS. Proactively inform 'box clients' that there will be a grandfathering based on an OECD 1998 Report until 30 June 2021. Clients looking to establish a new “box” will have until 30 June 2016, so they need to hurry. Internationally active companies should properly assess their status in each country with a view to understanding the implications that Action 5 will have on their entitlement to claim the benefits of particular patent box regimes.

32


View of Bill Henson on transparency from a US perspective

Bill believes that there has been quite a bit of headway already, now that people have calmed down, and have got a little more comfortable with the notion of information exchanges in multiple directions. The US has detailed exchanges of information. He makes the case that the phone lines have been laid and now it is just a question of people picking up the phone and talking to one another in a more expansive fashion. The outlook for transparency is good. There will be a lot more free flow of information, and he thinks that this will continue. So, from that perspective a lot of the preparatory work has already been done.

With regard to the US’s reaction to BEPS and Action 5 in particular, he considers that the US, like many other countries, is somewhat uncomfortable with the multi-lateral framework. It is difficult to engage and talk about harmful tax practices, as at some point one has to call someone out, and everyone has had their finger in the pie at some stage. The US has check- the-box rules. Everyone has their own preferential regimes. But Bill thinks that all countries agree that there are problems out there that need to be remedied and this requires the cooperation of everyone.

Saying this, from a US perspective there are a couple of things that are unique. One being that certain companies are being mentioned and publicly shamed. The US Treasury sees them as distinctly US companies and believes that their profits are theirs. A lot of the mobile IP that is being discussed initially came from the U.S., or at least a large portion of it, and the US does not want to give up their right to tax that.

The technology sector is huge in the US and has a lot of political influence. There has been lots of pushback from the US business community. Companies in this sector are concerned about BEPS because ultimately it does make people anxious and nervous. It highlights the ultimate notion of ‘whose profits are they’. The US has a treaty framework that addresses this issue and it views it as a tweaking of their existing tax regime. From the US standpoint, BEPS should focus on addressing the stripping of income from higher-tax jurisdictions into low-tax or no-tax jurisdictions rather than about a fundamental re-examination of residence and source country taxation.

When looked at in terms of preferential regimes, the US has the highest corporate income tax in the world. And, ultimately that income is going to be taxed in the US, or one believes that it will be. So, even if you manage to navigate the anti-deferral rules in the US that is all well and good. Eventually, at some point that income will come back to the US and will suffer the 35% tax. The US is okay with that!

Bill can live with a territorial regime obviously but there is permanent loss with these sorts of preferential regimes. This is a huge determinant of US views, making it less concerned about how things will play out.

Ultimately, any IP that touches the US will be fully taxed. So, given these factors, the US does not find harmful tax competition as threatening as other initiatives.

33


Obama is proposing several changes in his Green Book. The biggest policy tool now in the US is the anti-deferral rules and there is a potential expansion of these with a focus on income derived from IP. There is a proposal that focuses on the digital income of a foreign-based company and its sales. There is a proposal surrounding the transfer of offshore intangibles that might be caught up in the anti-deferral rules in the US in the future. Most interestingly though, is currently the US has pretty favorable rules on intercompany payments between corporate entities and there is a proposal where a hybrid entity is involved. Some of these proposals might see the light of day despite the fact that it is not possible to pass a tax bill in the US for the next two years.

There are also some proposals to enhance the US transfer pricing rules and more tools for dealing with intangibles that have been poorly dealt with in the past, including goodwill.

Another thing that concerns the US in terms of harmful tax competition is to limit the interest deduction to a worldwide group’s total interest and allocate a share of that interest to the US.

Overall, Bill believes that the US approach has got things in hand and that it is more a question of tweaking the existing tools and rules.

Q&A

What are the three key issues emerging from Action 5?

Richard responded, saying that, for the first time, we have some form of a definition for substance. There is a long way to go on this subject, but Action 5 is headed in the right direction. He expects to see a lot more emerging on IP. Also, there is greater importance being placed on the transmission of information.

Is there anything new coming, or are we just recycling?

Dick replied that the Modified Nexus approach is new, as is the uplift for qualifying acquisition and outsourcing expenditures. We also have a good definition of IP. We expect to see more guidance coming out with regards to costs and the tracking and tracing of them. June and September are going to be important dates when more will be unveiled.

What opportunities does Action 5 and BEPS present to Praxity firms when talking to clients?

Bill responded by saying that where there are changes, there are opportunities. To have truly sustainable tax planning aligned to substantial R&D, the IP needs to stay where it is. The IRS is anticipating a lot more dispute resolutions. But they are cutting back on resources so there will be more bumps in the roads. Rules will inevitably collide and when they do, clients will take advantage of them.

34


Noel added that the latest Action 5 report brings some clarity to substance and intangible property. The Modified Nexus Approach is being adopted, and one of the most significant things to emerge recently is the move towards having a universal definition of substantial activity. Additionally, in order to benefit from an IP regime in the future, a company must do the R&D in the particular country, which means it must have substance there. This affects any clients with patents and is definitely a space to watch.

Many countries are waiting for the EU to publish their findings on the patent box schemes in certain countries. This is expected during the summer (2015). Companies benefiting from existing regimes would be advised to consider what Action 5 has to say about the Modified Nexus Approach and IP benefits. They should equally understand what Action 5 says on transparency and exchange of rulings.

South Africa viewpoint on BEPS and Action 5 Mike Teuchet (Mazars)

When it comes to BEPS, there is very little coverage in the media space in South Africa and firms are not really talking to clients about BEPS. South Africa is not a member of the OECD and is not part of the debate. South Africa is certainly not as engaged as Europe on BEPS. There is no patent box regime in South Africa as it was done away with. The Revenue Authorities, however, have been ahead of the curve and have appointed a judge that is well-versed in tax to look at BEPS and how it should be accommodated.

Anon quote from a US delegate

The IRS is strangled for resources and therefore is unable to put any resources into BEPS. It is going to really affect multinationals in the future. Because nobody in the US is minding the store, we are going to be reactive.

35


BEPS Action 6 - Treaty Abuse

Executive summary by Andrew Lam - Action 6

What are the key obstacles for adoption and issues?

The key obstacle is getting countries who are “winners” under the current system to agree to changes that generally will be detrimental to them (such as reduced foreign investment) to preserve the tax base of current “losers”. Even if countries agree to this in principle, there is a significant practical challenge in getting countries with different tax systems and laws to harmonize their approach to address these issues. For example, the U.S. is a big proponent of tackling this anti-avoidance mainly through the use of a LOB provision in a tax treaty. Other countries prefer a domestic law purpose test. The OECD has acknowledged the differences in approach and has left it to countries to adopt their specific solutions which could potentially lead a wide variance from treaty to treaty. It is possible that certain countries would take unilateral measures to address base erosion.

Uncertainty is an impediment to business. Businesses may either hold off on implementing certain actions until there is more clarity regarding BEPS or proceed in the face of this uncertainty and bear the risk that such actions may be adversely impacted by BEPS.

If not harmonised in our global approach will this create conflict?

In theory, treaties are supposed to be a harmonised solution and Action 6 was not designed to create conflict. The reality is that we could end up in cumbersome situations where different tests apply to the taxpayer, which creates uncertainty and additional costs for businesses.

How can Praxity firms help?

Given the potentially very broad reach of Action 6 and the likely increase in circumstances where a person may potentially be subject to double taxation, it is likely that there will be more work relating to competent authority. There will also be more work with respect to restructuring of some of our client’s arrangements post-Action 6 and BEPS in general. We can assist by increasing levels of communication, to help our clients prepare for the impact of Action 6 (including at tax conferences such as Brussels) so we can proactively anticipate specific issues as they arise. I anticipate us all having much more involved discussions about treaty benefits going forward.

Are there any client sectors that will be more affected than others?

Action 6 is extremely broad. It will affect all sectors with global activities. One sector that has expressed particular concern are private equity firms and pension funds.

36


Is the timeline realistic?

The timelines for coming up with specific proposals to Action 6 have been tight. They met the initial Sept 14 deadline for recommendations, and another draft following the discussion responses is due shortly. It remains to be seen how and when countries will respond.

Is it wise to preempt the rules?

It is not necessary to make changes at this time to pre-empt BEPS since a number of the proposals have not been finalized and it is unclear what proposals will be adopted by particular countries.


Lead presenterAndrew Lam (MNP Canada)

Panel• Arran Boote (William Buck Christmas Gouwland Limited, New Zealand)• Chris Clifton (BKD, U.S.)• Martin Eberhard (Falk & Co, Germany)

What is Action 6?

In a nutshell, this Action addresses the issue of whether a taxpayer can claim benefits under a tax treaty. Because the potential impact of this Action item is very broad, there are three important considerations for multinational clients:

1) Whether a particular ownership or business structure will be adversely impacted by Action 6 or whether changes will be required; 2) Whether any current planning that is being contemplated is still feasible in light of these proposals;3) What potential additional tax compliance burden (if any) will result from the Action and what additional company resources will be required (if any).

There are three main areas of focus of Action 6:

1. The development of model treaty provisions and recommendations regarding the design of domestic tax rules to prevent the granting of treaty benefits in “inappropriate circumstances”. In terms of inappropriate circumstances, there are two instances of abuse:

a. Whereby the taxpayer attempts to circumvent the provisions under a tax treaty; orb. Where the treaty itself is used to circumvent domestic law.

37


2. Clarify that tax treaties are not intended to generate double non-taxation; and3. Identify general policy considerations for countries contemplating entering into a tax treaty.

Note: An updated discussion draft was released on 22 May 2015 (after the presentation). The comments below relate to the proposals before the release of the 22 May 2015 draft.

The anti-avoidance rules could potentially adversely impact any transaction or arrangement where a treaty benefit is sought by denying those tax treaty benefits.It particularly impacts how investors structure their ownership of foreign businesses and investments.

Andrew Lam put treaty shopping into context: “Not all treaty rates or terms are the same. Without anti-avoidance rules, a taxpayer could effectively shop around and interpose a foreign intermediary company in a jurisdiction to access more favourable treaty withholding tax rates or terms vis-à-vis in the target jurisdiction. The purpose of the Limitation of Benefits (LOB) test and Principal Purpose Test (PPT) is to ensure that a foreign intermediary exists not merely to access favourable treaty rates and terms.”

Exploring the different proposed anti-abuse provisions

To tackle this anti-avoidance, countries apply, or are leaning more towards different tests. In the U.S., they already follow the Limitation of Benefits provisions. Chris Clifton explained: “It’s what we are familiar with already in the U.S. and I don’t see this changing. LOB is designed to be a series of objective tests, rather than subjective tests. The reasoning behind LOB is it is not good enough to just be a resident, you need to meet the standards of an objective test.”

Chris ran through various aspects of the proposed LOB test in the OECD Model treaty, including:

• The combined base erosion test • Special rules pertaining to related parties• Active trade of business test• Derivatives benefits test.

In addition to the LOB, Action 6 also proposes a Principal Purpose Test (PPT). Unlike the more objective, mechanical LOB test, the PPT requires an examination of an arrangement or transaction to determine whether one of the principal purposes resulted directly or indirectly in a tax benefit. If this were the case, a treaty benefit would only be provided if it were in accordance with the object and purposes of the tax treaty.

38


German view Martin Eberhard“Germany is a critic of the LOB test and PPT. Our view is the proposal will be changed and modified. One main criticism is the test should be self-executing. Also, discretionary relief should be a last resort. It’s always difficult with double taxation treaties. Germany finds it difficult to comprehend the need to have two different tests - LBO and PPT. Mainly because we are not known for being a tax haven, therefore we can live without both. If all DTTs have to be modified, this will take time. We also feel that listings on only domestic exchanges of contracting states should qualify.”

From a wider European perspective, there are a number of concerns with the current version of the proposed PPT and LOB:

• The subjective PPT criteria could create predictability issues• There’s a risk of double taxation without information exchange/ arbitration mechanism in PPT• Potential conflict with EU law, among other things vague use of wording in PPT draft about obtaining treaty benefit• Draft LOB might conflict with EU Freedom of Establishment.

U.S. view - Chris Clifton“Do we need both? For the U.S. LOB is the answer. Granted it is complicated, but it is objective. Don’t understand why you would want to couple that with PPT. We believe that PPT gives tax authorities the opportunity to deny treaty benefits when they shouldn’t.”

Canada view - Andrew Lam“The OECD draft acknowledges that different countries may have different approaches. It has left the language flexible enough in order for countries to adapt. Right now our only LOB clause in our bilateral tax treaties is with the U.S. Canada is currently monitoring developments under the BEPS initiative, but it appears that the federal government may opt for a domestic PPT solution.

Asia Pacific - Arron Boote“Overall, PPT has been accepted as a concept and Action 6 is viewed as a shield (not a sword) only now it has a sharper edge. Widely speaking, low tax is not a real cause for concern providing it is for a legitimate commercial practice. However, it does raise the issue and question, are some countries, e.g. Dubai, Singapore, HK, Malaysia, providing a platform for treaty shopping? I think that they do.

Even though New Zealand has agreed to adopt BEPS, it won’t for trusts as it’s too important to be shut down because of BEPS.

One of the key things that crops up when talking to international clients is they are more concerned about the bad media PR that comes about if using a tax haven.”

39


Action 8 - Transfer Pricing of intangibles

Lead presenterSteve Amigone

Panel• Jason Eberhardt, BKD (US)• Clemens Nowotny – LeitnerLeitner • Angeline Zioulas MNP (Canada)

Introducing the seminar on Action 8 Steve said: “As transfer pricing professionals and international tax consultants, we’re in the right place at the right time.”

Steve and the panel covered why there’s a need for Action 8 and what’s important.

The main thrust of Action 8 is to curb the use of moving intangible assets to low tax jurisdictions in order to shift profits and reduce income taxes. In order to accomplish that, the OECD has come up with a framework to prevent taxpayers from “gaming” the system. Four key areas are being addressed, including:

1. Adopting a broad and clearly delineated definition of intangibles 2. Ensuring the profits associated with the intangibles are aligned appropriately with value creation 3. Developing rules or special measures for transfers of hard to value intangibles 4. Updating guidance on cost contribution arrangements (this guidance is relatively fresh.)

Walking through 2 or 3 examples, Steve emphasized that you may well look at these and say well this happens with all MNEs, with a parent company in country X and a distributor in country S.

Example 1 showed how a parent company has all the manufacturing activities and the IP. It owns the IP, and manages and controls the marketing functions, and sets up a subsidiary in another country and enters into a contract with them to distribute and market. This is called a high value intangible, and Steve highlighted that as a classic structure these are seen all of the time.

A lot of these were set up in the 1990’s and 2000’s. What tends to happen is over time the functions and assets and risks change, as they hire new people in the distributor subsidiary, which starts to pick up new functions, new inventory or credit/financing risks and new assets. So, the planning, strategy and control of these new marketing activities begin to take place more in the subsidiary. As a result we see a change in that original marketing risk from the original example. Consequently, we start to question where a person is sitting and what types of functions are they doing. This is where a lot of our clients miss the boat. After a while you find that the original distributor entity really starts to create some outsized intangibles, taking larger market risks and penetrating the market more. This is an area where we advise our clients, because we see this migration from the parent company to the subsidiary.

40


Last, you see a move of all the expenses, functions and risks over to the subsidiary, but at the same time the subsidiary enters into a very short-term year royalty free license. So, you ask the question, why would the subsidiary invest millions into marketing or developing the brand if it doesn’t have the ability to capture the long-term gains. What it does is really an incorrect match of the functions, risks and assets in the market and this is why Action 8 is here today.

Definition of IP

The first initiative was to come up with a definition of IP. The OECD broadly defines an intangible as “something which is not a physical asset or a financial asset, which is capable of being owned or controlled for use in commercial activities, and whose use or transfer would be compensated had it occurred in a transaction between independent parties in comparable circumstances.”

Jason commented that this is a pretty broad definition. And it seems like it has accomplished what it set out to accomplish.

A few types of intangible assets include:

Marketing• Trade Names / Trademarks / Brands• Customer Relationships / Customer Lists / Proprietary Customer Data

Technology • Patents• Know-How and Trade Secrets • Formulae

Other • Rights and Licenses • Copyrights

Not noted here is goodwill, which should be given that transfer pricing involves benchmarking controlled transactions against uncontrolled transactions. Goodwill would typically be a component in transactions between uncontrolled third parties.

Now that we have a definition of intangibles, we have to examine what makes it so difficult to look at these things. Given the unique nature of intangible assets, it’s hard to find similar uncontrolled transactions, such as licensing or sales transactions, which involve similar assets and terms.

41


Furthermore, there are times when multiple parties will bring IP to the table, which makes it difficult to determine which party should be receiving what compensation.

The inability to isolate the impact of IP on the value and profitability of the company is also challenging. If you look at a business, its profitability is driven by a number of different assets, including tangible assets such as manufacturing equipment and intangible assets such as patents, trade names, workforce, etc. Accordingly, it is difficult to satisfy the OECD’s position that the IP in the controlled transaction should have similar profit characteristics to the IP in the uncontrolled transaction used as a benchmark, given the challenges in determining the profit contribution of the IP, in both the controlled and uncontrolled transactions.

Lastly, you can have multiple parties contribute to the IP: one party may develop it, one party may market it, and yet another may protect it from infringement and risk. Over the course of time, the assumption of functions and risks may change significantly. And that makes comparability very difficult.

OECD framework for transfer pricing

Clemens then covered the basic framework for transfer pricing. The main issue from a transfer pricing perspective said Clemens, is who should ultimately be entitled to receive the intangible related return and to share in the returns derived by the group from exploiting intangibles?

The basic consideration of the OECD framework is that the legal ownership of IP, by itself, does not necessarily mean it is entitled to retain the intangible related return (IRR). If the other parties contribute to the development and enhancement, maintenance, protection and exploitation of the IP, the respective members of the MNE group should be compensated for their participation, but not by fragmenting the ownership of IP among members of the MNE.

The OECD has proposed the conceptual framework for analyzing transactions involving intangibles (para 6.34 OECD-Guidance). This starts by determining who is the legal owner of the IP based upon the legal rights and the contractual arrangements.

This is supplemented by conducting a functional analysis, the main purpose of which is to identify those parties within an MNE Group that perform functions or use assets/assume risks in relation to the development and enhancement, maintenance, protection and exploitation of the IP.

As soon as the parties have performed the functional analysis, the next crucial question will focus on transactions and are they actually legal, which may not be assumed by the contractual relationships, as substance may be inconsistent with the contractual terms.

42


The final step is to determine the arm’s length prices for these transactions, ensuring consistency with each party’s contributions of functions performed/assets used/risks assumed (where possible) and recharacterizing transactions as necessary to reflect arm’s length conditions.

In order to identify the entity or entities that should be entitled to IRR the OECD differentiates between 3 concepts:

1. Legal owner of IP, which is always the starting point and is based on legal rights and contractual arrangements.2. Economic owner of IP - used if no legal owner may be identified. Applies to a member of the MNE group that controls decisions concerning exploitation of IP and has practical capacity to restrict others from using the IP. 3. Process owner the entity that performs/controls the 5 relevant functions - development and enhancement, maintenance, protection and exploitation - of the IP; provides assets, including funding necessary to these 5 relevant functions; and assumes/controls 4 particular risks related to the development and enhancement, maintenance, protection and exploitation of the IP

In identifying the controls, the OECD says that special significance should be given to the important functions that do more to create value in the IP than other functions. Therefore, MNE members making more significant contributions should also receive a relatively greater share of compensation. So, what constitutes important functions? The OECD provides some examples of these more important functions, including those that develop or acquire IP that serve as a platform for further development activities, or functions that are difficult to outsource to a third party.

Given the broad guidance from the OECD, the next question relates to the outsourcing of functions in order to develop the IPs and whether it is possible and to what extent. According to the proposed OECD control-concept, the entity is free to outsource the functions and is not obliged to perform them in-house in order to retain the whole IRR. Nevertheless, the legal/economic IP owner needs to control outsourced functions in order to be entitled to any ongoing benefit attributable to outsourced functions. So, the assumption of the OECD is if the legal IP just performs the funding for the outsourcing, they would only be entitled to a risk- adjusted rate of anticipated return on capital invested relative to the funding provided.

This outsourcing guidance is not new. It is taken from the initial OECD transfer pricing guidelines (chapter 9) ‘Control over risk’ assumption which is (1) the capacity to make decisions to take on risk (decision to put capital at risk) and (2) decisions on whether and how to manage risk, internally or using an external provider. Should the administration and monitoring of risk be outsourced, the OECD requires that the entity has the capacity to assess the final outcome.

43


This control over risk guidance has been tightened further in the recent discussion draft. While the first two points are effectively the same, there is a stronger emphasis on the control of actual performance of the functions. What is new is where risk mitigation is outsourced control over risk requires in addition the capability to assess, monitor and direct the outsourced measures which goes far beyond just receiving any report. So, there’s much closer cooperation to direct and monitor the outsourced risk.

A central dashboard option has been proposed whereby the control functions should be centralized in one location, which more or less allows local operations to focus on execution of functions rather than any level of involvement in controlling of risks.

Summing up, Clemens explained that in order to be entitled to all ex ante returns derived from exploitation of IP, the legal owner of the IP must be the process owner. This means it has to perform and control all 5 functions (including the important functions), provide all the assets, including funding, and assume and control all the risks relating to the 5 functions. So, in effect we end up with a clear-cut case if the control, funding and assumption of risks is managed by one entity.

Regarding outsourcing, it is principally acknowledged. However, it is clear that any other members that contribute to functions should be compensated for their contribution. Attribution (all or substantial part) of IRR to the service provider may be avoided if outsourced functions are performed under close direction and control of the legal IP owner (control over performance of function); and risk management is performed/controlled by the legal IP owner (control over risk).

What we can conclude from this practical guidance is the legal owner requires more substance. At the very least, there’s a need for an R&D steering committee that will have the capability to assess the functions and control everything that is outsourced.

Another crucial thing is these measures will not be applicable by a certain date. They will most probably be applied retrospectively and I see this as already being an issue for clients who want to make their value chain BEPS-proof. They will either do this by putting more substance into certain entities, or by adjusting their transfer pricing set up, which of course is not always a favorable solution for clients.

Transfers of intangible property

Angeline then spoke about the transfers of intangibles and rights to use intangibles, explaining that there are two general types of transactions to examine. The first involves the transfer of intangibles or the rights to use intangibles. The second involves the use of intangibles in the sale of goods or services.

44


When dealing with intangible transfers, what is important is to understand what is actually being transferred. Is it the IP itself, is it a right to the IP. An example of a transfer of all rights of a company to another is when you have an outright sale of IP, e.g. the sale of a customer list from one entity to another, or patents. There are also sales of partial IP (partial rights) - an example of this would be when you have a distributor model where a parent company gives a subsidiary in another country the rights to distribute products in a certain geographical location. It’s important when dealing with IP to fully understand what is actually being moved during the transfer

Action 8 emphasizes that is it important to establish the exact nature of the intangible; defining it can sometimes be very difficult. In some cases the intangibles can be combined with different transactions, such as services or trademarks combined with a patent. Another important issue is to establish whether the IP has value in the first place. Sometimes when you combine intangibles, they have considerable value as a combination, but when you separate them and look at the separate components in isolation, they don’t have as much value.

One of the other matters noted in Action 8 is the suggestion that labels are not necessarily relevant or important. The focus should not be on what you label a transaction to be - the transfer price should be indicative of what is actually happening in the business circumstance.

Another section of Action 8 deals with combinations of intangibles, which gives rise to various issues:

1. In some cases, intangibles are more valuable in combination with other intangibles, than if the intangible was considered separately. Using an example of a pharmaceutical client that is a combination of 3 different intangibles - the drug product that had a patent, the government license and the trademark/trade name with which the drug is associated. Combined for this product, it was very valuable. But if you separate them they actually have very little value, because if you don’t have the regulatory approval, you can’t sell the drug anyway.

2. Sometimes the intangibles are so intertwined you can’t separate them at all. In some cases, the CRA have tried during a transfer pricing audit to artificially separate intangibles, an example being separating a product trade name from goodwill. In this particular business, there were considerable marketing intangibles that were difficult to break down into separate components (e.g., customer list, advertising, corporate reputation, etc.) for the purpose of determining an arms length price. In this situation, the intercompany royalty payment was reduced as the CRA concluded there was no value that should be assigned to goodwill, as it was impossible to value.

45


In some cases intangibles can be transferred in combination with tangible business assets and services. What’s important in these cases is to understand whether the intangibles have actually been transferred in the particular transaction. For example, in some cases it might be appropriate to separate the transactions between the tangible goods and the intangibles. This situation is where a packaged contract has more value than if you actually broke it into its separate components. In other cases, transactions might be so closely related that it’s actually difficult to segregate the product from the service. In this regard, when you are looking to establish comparable data, it is important to document in sufficient detail and to explain the facts of each situation.

A common example of a scenario where you could be dealing with a combination of services with intangibles is a franchise arrangement. If you look at a restaurant style franchise like Burger King, it involves setting up a restaurant, the cooking process, the trade name and support services. In most cases, with a franchise arrangement you have a single fee that is comprised of charges for 4 to 5 different intangible assets rolled into that. Sometimes it is possible to break the intangibles up, sometimes it is not. When you are looking to benchmark the pricing, you have to find a similar franchise arrangement with comparable terms and conditions.

In other cases, the provision of the service and the transfer of intangibles might be so closely intertwined it is impossible to separate them. Another common example of this is in the software industry, where you are licensing software to related parties. Part of the license arrangement relates to the software created by the parties, but there might also be online support relating to the software that the distributor is receiving a benefit from.

Because the differences relating to intangibles can result in differences in economic value, the OECD Guidelines have stressed the importance of doing a comparability analysis. So, if you’re looking at your transaction versus an external transaction, there is a long list of factors that need to be considered, including:

• Functions • Risks • Assets • Business reasons for engaging in the transaction • Realistic options to each of the parties to the transaction • Profit characteristics• Market characteristics • Location • Business strategies • Group synergies

If you are unable to find external transactions to benchmark the controlled transactions, there’s a good chance that the relevant tax authorities may reach the conclusion that the subject related party transaction wouldn’t be entered into between unrelated parties. If you don’t have adequate documentation in place to support the business purposes for the subject transaction, you run the risk of the tax authorities recharacterizing the transaction.

46


The following methods may be used to analyze transfers of IP: comparable controlled price CUP method, profit split method (pretty rare, as it requires both parties to contribute valuable intangible assets) or traditional valuation approaches (i.e., cost, market and income).

The cost approach is not widely used, as the cost of an intangible asset is rarely a reasonable measuring stick for the value of an intangible asset, unless that asset is an off-the-shelf programme that can be readily purchased. The market approach is most relevant if the subject IP was recently acquired, which can be used as a benchmark. It’s pretty clear from the guidelines that the market approach is only really relevant if you have comparable data. The income approach is the preferred approach by tax authorities, but it requires the use of several critical assumptions.

Critical assumptions in the application of the income approach include: financial projections, growth rates, and useful lives/terminal growth rates. Equally important, tax authorities anticipate that the selected income approach model will reflect the economic facts and circumstances of the transaction being considered (e.g., licensing vs. cost sharing vs. outright sale).

Steve Amigone concluded the presentation with one last example whereby a client wanted to know how much of his management expenses from the US company could he run through a holding company in The Netherlands. Steve asked how many management people were located in The Netherlands; the answer none. To which Steve responded – well, that just might be your answer. “These international holding structures are still out there and sometimes they still work if you have the proper documentation and buy in, and if you have the right functions and the right risks. There has be economic substance for these transactions to be recognized.”

47


Actions 9 & 10 - Risk shifting and recharacterization of transactions (profit split)

Executive summary by David Sayers Actions 9 & 10

In broad terms, Actions 9 and 10 of the BEPS programme are focused on companies that put risk into a low tax jurisdiction. The whole point is going forward they may no longer be able to do this, as these companies often have little control over the risks when they do this.

Doing a Transfer Pricing study is about getting under the skin of the business and understanding what people do within the business and pinning down what activities are driving the profit and the value of the business and where. For example, a large company with a UK subsidiary that is making too much profit would have a lot of the risk held in the UK. Another related party within the Group’s business might offer to relieve them of the risk and in return give them a guaranteed return. The risk may be contractually isolated with the related party, but the behavior of the people in the UK business does not change.

What the OECD is attempting to accomplish through these Actions is to align a transaction’s form with its substance by providing a more accurate definition of how transactions between connected parties are handled. The OECD is trying to cater for this through a multilateral instrument to push through changes, which would enable all tax treaties to be changed at once, rather than individually which would take years. Whether this will work and create a harmonized system is still uncertain, particularly in view of recent US objections.

I’m sure that some aspects of BEPS will come into law in some form. The US has been doubtful over BEPS from the outset, but over time has come to the table. In the EU there is a willingness to take it on. All G20 countries and the European Commission are, in principal, behind BEPS.

However, the uncertainty right now makes it difficult to apply to clients. As TP professionals, we’re reading documents and trying to think where it’s going in order to better structure their affairs going forward. It’s important to speak to clients and give them advice now that is in line with the direction of BEPS.

Whatever the final outcome, much of this will become best practice anyway. A large part of this is about protecting company brands and reputation in light of the increased scrutiny on structures. An example of this is Dolce and Gabbana, who used a shell company in Luxembourg to avoid paying tax in Italy and the prospect of criminal sanctions.

Overall, I think that this will be positive for emerging economies and a fairer system. Previously, profits were stripped out of these developing countries and transferred to the parent company, for example from subsidiary oil and gas businesses located in Asia and Africa. Morally, we are no longer content for multinationals to do this.

48


One of the biggest challenges in the future is going to be valuing the brand in each territory and attributing the royalty to this. It’s not just based on where your R&D is located, but the volume of consumers and business value that is generated through marketing efforts. An example of the territorial market power can be illustrated by the case between GlaxoSmithKline and the US government over the Zantac brand. All R&D for the Zantac brand was conducted in the UK and that’s where the intellectual property was owned. However, the drug was immensely popular in the US and the IRS argued that the effort that went into marketing Zantac in the US by local sales teams was fundamental to its success. A settlement of $2.4billion was reached and paid by Glaxo to the US treasury. This case obliged other companies with R&D operations outside of the key markets to re-evaluate their transfer pricing methodologies.

The consequence of BEPS is there will be a huge amount of tax disputes/litigation and appeals. Many international companies are already embroiled in a series of disputed tax claims and this can only increase under BEPS.

Panel discussion - Actions 9 & 10

Lead PresenterDavid Sayers (Mazars UK)

Panel• Anthony Tam (Mazars China)• Carlos Burgos (Mexico)• Melinda Nguyen -Raybould (MNP Canada)

David Sayers opened this panel with a quick rock and roll question for delegates, before launching into his next message: “I have seen the future of transfer pricing and its name is residual profit split. For any transfer pricing (TP) related enquiries, this seems to be the tax authorities’ standard answer. So, what is it all about? In broad terms, one of the objectives to stop companies putting intangibles and risks into low tax jurisdictions.

An awful lot of TP is based around function and risk. The question that you have to ask yourself is would a third party have taken that risk? A parent company can’t necessarily control/manage risk from another country when they are so far removed from it.

So, what’s new?

• The special measures could be outside of the arms length principle as we know it. The focus is on accuracy. This means gathering the facts and getting it right from day one (functional analysis).

49


• Scrutiny of comparables is higher than it has ever been. We can no longer rely on the fact that comparables prepared by the tax authority are equally bad. It is a much sterner test focused on economically relevant characteristics and demonstration of value added. • The days of placing intangibles in low tax jurisdictions without substance has all but gone. This activity is disappearing completely. Companies therefore need to think how they will adapt their behaviour now in TP. • There’s more reliance on the conduct of parties and how these parties act together, rather than just the bare legal documents. You can’t assume that someone else is managing the risk; it needs to be demonstrated. • The kind of structures where one man and his dog are running a £500m principal company because the management couldn’t be persuaded to move to the jurisdiction are on their way out. These structures work even less under BEPS. There are so many fragile structures out there that we as tax professionals can fix. More so with some of the larger companies, all of which creates an opportunity for firms.• We are being encouraged to look at everything holistically. Clearly, a multinational group has interdependencies. In a third party situation, would they fragment the supply chain for non-tax reasons? Although they might have done so for the last 15-20 years, it may not last much longer.

Profits should be where the people are. Where people have control over the risks and the capability to make decisions.

In relation to moral hazard, David asked the question “would you, as a parent company, take a risk for a subsidiary if you had no control of the risk and without knowing what you were doing?”

So, how does risk versus reward fit in? David used the recent changes to pension regulations in the UK as an example. Given the choice, do you take a lump sum and purchase a Ferrari, or do you take the annuity. The whole point is the value of the risk. Do you take higher, but less certain streams of income vs. lower, safer streams? If you are looking to price risk, do you source insurance and plug into TP? What is economically rational behaviour?

For hedge funds, a run on the fund is the biggest risk. So can you legitimately place this risk in a low tax jurisdiction if the people managing the risks are elsewhere?

All this underpins the key message that identifying risks is key. The risks are broad and can include:

• Strategic and marketplace • Infrastructure and operational • Financial Risks • Transactional Risks • Hazard Risk • Allocation of risks in contracts (this is where some tend to skimp most) • Examination of conduct on forex and stock risk • The impact of taking a risk

50


It’s also important to note that many structures that purport to finance risk in fact don’t have the financial capacity to bear the risk. Therefore financial capacity alone should not be a determinative factor in considering whether a party should be allocated a risk return.

So where does non-recognition fit in, and why is it needed?

This can be contentious and lead to double taxation. In order to conform to arms length methodology, a transaction should demonstrate the fundamental economic attributes of arrangements between third parties.

When it comes to non-recognition, the UK is generally reluctant to disrupt the commercial form and substitute a different transaction where they think the original transaction may not have happened between third parties, although this is becoming more common.

Canada’s viewpoint - Melinda

Non-recognition in Canada is referred to as recharacterization. The Canada Revenue Agency (CRA) is quite active in putting transactions through the system. CRA accepts transactions as structured, so long as it is consistent with what would be observed between two arm’s length parties acting in a commercially rational manner.

Administrative guidance is in TPM13 and this deals with referrals to the Transfer Pricing Review Committee (TPRC) for non-recognition and recharacterization. In terms of the review process, it may be booted back to the auditor or require additional due diligence. One of the nice aspects about this process is the opportunity to submit additional information to the TPRC, at which point they will make a final decision. Interestingly, in the latest stats, of the 61 cases presented to the TPRC, two thirds (67%) were denied, which demonstrates the importance of presenting proper information to the people that are considering the case for recharacterization. For commodity transactions in Canada, a transaction within the same “taxation year” is what the CRA views as the tested transaction and the most comparable. Although this makes sense to me, not for commodity transactions. Melinda referenced the transaction of steel saying a transaction in June might not be as comparable. Given the new guidance, she feels it is critical to establish why is it comparable.

Also, the OECD paper referenced the use of CUP (comparable uncontrolled price), which the CRA has a strong preference for. This uses a third party price for identical goods, services, or property under identical conditions as a reliable indicator of the arms length price.

51


Anthony Tam – Mazars China - a geographic perspective on BEPS and locations savings

Although Australia, Japan, New Zealand and Korea are members of the OECD, China and India are not members. However, they would adopt some of BEPS suggested Anthony. In terms of Hong Kong and Singapore, although small on the economic world stages, he feels that would follow. He was unsure about Thailand, mainly due to their constraint in resources.

China’s view on the UN Transfer Pricing manual for developing countries is: “China must be appropriately remunerated for their location- specific advantages and should be entitled to additional profit when they improve the foreign related party’s original intangibles, global brand names, technical know-how and business process. “

Anthony explained that this means the IP royalty is apportioned based on location, net cost savings that have been derived through lower raw material costs, labor, rent, transportation etc., a relatively untapped consumer market etc. China applies the Location Specific Advantage (LSA) approach, which essentially means that investments by multinational companies in these countries are more profitable than those in other countries, as a result of LSAs.

China takes the view that the value of a marketing intangible (such as a brand name) is inextricably linked to the market in which it is sold. And therefore, China should be entitled to the additional profits and should be remunerated for its local advantages.

China, as with India, is concerned that multinationals tend to characterize subsidiaries in their economies as exploiting foreign-owned intellectual property, on which they must pay royalties, in order to deflate the profits made there. He referenced the example of a Japanese automotive company. Because Chinese people like Japanese cars, this increases demand and therefore it makes the foreign-owned intellectual property more profitable.

Another example referenced was the cost of technology engineers, which is much lower than elsewhere in the world. Under the arms length principle, China feels that they should be compensated for the assets created and if this has contributed to the improvement of the MNEs intangibles, they should be entitled to additional profit.

China starts by identifying if an LSA exists. And then determines whether the LSA generates additional profit. If it does, they quantify and measure the additional profits arising from the LSA, and then determine the transfer pricing method to allocate the profit arising from the LSA.

52


Views from Mexico - Carlos Burgos, Mazars Mexico

Mexican Income Tax Law (MITL) authorizes the application of six of the methods described in the OECD Guidelines. CUP (comparable uncontrolled price) is the preference and should be the first method to be applied. If CUP is not applied as the method you have to provide a huge explanation as to why is hasn’t been applied in the Transfer Pricing study. The Profit Split and Residual Profit Split Methods are fourth and fifth in the hierarchy, respectively. The last method authorized under MITL is the TNMM.

Mexico has used third party financial information for comparables. The Mexican Tax Authorities (Mexican TA) prefer the use of publicly traded companies as comparables. But as there are fewer than 300 listed companies in Mexico, we use external company and transactional comparables, mainly from the US and Canada. However, because these two economies are not the same as Mexico, adjustments have to be made. It’s important to note that Mexico and other Latin American countries are adopting IFRS, which will increase comparability in the future.

In order to get location savings, a Maquiladora can be established. A Maquiladora is a manufacturing company that does not pay tariffs for importing raw materials, machinery, or equipment to Mexico, as long as the finished product is returned to the country from which the raw materials originate. This type of entity experienced a boom in Mexico’s economy after 1985 - it came to represent the country’s second largest source of income, behind petroleum.

The main advantages of a Maquiladora are reduced production costs (due to lower price of labor, raw materials, leasing of plan and suppliers compared to Canada and the US). Also, given the proximity (most Maquiladora’s are located on the Mexico/US border) logistical costs and delivery times are reduced.

With China’s manufacturing industry flourishing, a large number of Maquiladora’s left Mexico for China in recent years. However, this trend is reversing as Mexico is offering more competitive labor costs, coupled with the proximity to the US. For example, shipment time can be 3-4 days from Mexico, compared to a month’s wait from China.

As a result, Mexico is now the 7th largest automotive manufacturer in the world. Aerospace also grew significantly in the last decade - it has increased fivefold in the last 10 years. There are now 300 companies in Mexico engaged in aerospace manufacturing and Mexico is entering the top 10 locations for aerospace.

In terms of intangibles for a Maquiladora, qualified labor has to be considered. What a worker in the US earns in 1.5 hours is what a Mexican worker makes in a whole day. The proximity to the US and Canadian markets is also an advantage and an intangible. Ease of providing prime materials and fiscal benefits are also intangibles.

53


A Maquiladora’s taxable base may be calculated in one of two ways:

• Safe Harbor: 6.9% of the Maquiladora’s total assets or 6.5% of costs and expenses (whichever is greater). • APA (Advanced Pricing Agreement). A contract signed by the taxpayer and the Mexican TA that defines the profit margin that the maquiladora (or company) should obtain. It has a five-year term and is renewable.

With regard to BEPS in Mexico, we generally follow the OECD’s recommendations for transfer pricing and these are being gradually implemented. As an example, the Mexican tax authority could previously use secret comparables in Transfer Pricing reviews. Now it’s CUP. Another change is all invoices must be produced electronically, and from 2013 they have had to be certified by the Mexican tax authority. As a result, the authorities now strongly question the transferring of an intangible asset to a country identified as a “tax haven” and the subsequent royalty payments.

To sum up, David concluded that when it comes to taxation of intangibles, status quo is not an option.

54


Action 13 Transfer Pricing documentation & CbC reporting


Lead presenterWill James (BKD, Principal, Transfer Pricing)

Panel • Greg Travers (William Buck, Director Tax Services)• Mike Schwartz (WeiserMazars, Director Tax Services)• David Prestwich (Mazars London Head of Tax)

Opening the presentation, Will drew immediate attention to the proliferation of varying documentation rules that have emerged from Action 13, noting that a lot of governments have realized that documentation in relation to transfer pricing is not up to scratch.

Providing an overview of what has emerged from the OECD White Paper, Will ran through some of the documentation issues:

• The variation in local country rules make it hard for taxpayers to prepare documentation in a cost effective and efficient manner .• The proliferation of varying documentation rules.• How the local country focus of many countries’ documentation requirements makes it difficult for tax authorities to easily obtain a “big picture” view of the MNE group’s transfer pricing practices and results. This lack of broad perspective may lead to countries’ tax authorities pursuing matters of less importance in great detail, while missing matters of greater importance or higher risk.• Why international efforts to create uniformity in documentation practice have not been particularly effective. E.G. Chapter V of OECD guidelines, EU Code of Conduct, PATA, and ICC.

Within the latest whitepaper (Feb 2015), the CbC template got a lot of people excited claims Will, but not in a good way. Another key development has been the replacement of Chapter 5, which solidifies what needs to go into a transfer pricing study.

From a US perspective, this is a real game changer. Before, we tended to write one study covering many different areas. Now, there are three tiers comprising a master file, a local file and a CbC template. The implication for clients, emphasized Will, is they will now need to have an ample budget in order to prepare such comprehensive transfer pricing documentation.

55


Master file content

In the US, we are talking to clients about the master file format, which will require more information than ever before, including more financial information as well as detailed overview of their transfer pricing policy. The intent of the master file is to provide a high-level overview in order to place the MNE group’s transfer pricing practices in their global economic, legal, financial, and tax contexts. Many of our clients did not provide information on their transfer pricing policies or haven’t even implemented them properly, as their perspective was more about pulling together some sort of documentation to placate the tax authorities. In essence, they didn’t particularly care about how they got there as long as the overall result was arm’s length. Now, they need to be able to show what the transfer pricing strategy is at the outset and the rationale for this, as well as showing the MNE’s global operations and policies. The master file is ideally prepared by the head office, with the local country files drilling down into the detail.

The purpose of this master file is if the MNE were subject to an investigation, they would be able to provide tax authorities with information necessary to conduct an informed transfer pricing risk assessment. They would also be able to provide tax administrations with useful information to employ in conducting appropriately thorough audits of the transfer pricing practices of the entities subject to tax in their jurisdiction, although it may be necessary to supplement the documentation with additional information as the audit progresses

Some clients may prepare more than one master file, for example one or more for each line of business if the LOB operates autonomously, or has been recently acquired.

The master file will contain:

• The organizational structure, illustrating legal and ownership structure and geographical location of operating entities• Description of the MNE’s business, including important drivers of business profit; a description of the supply chain for the group’s 5 largest products/ services by turnover; a list or brief description of important service arrangements between members of the MNE; the main geographic markets for the group’s 5 largest products/services; analysis of the principal contributions to value creation by each entity within the group; and relevant restructurings, acquisitions or divestitures occurring during the year• The MNE’s intangibles - a big aspect of this will be who developed the intangibles• The MNE’s intercompany financial activities, this information is generally lacking in current documentation formats. The master file will make the group financials much more transparent. The MNE will also have to disclose private rulings and advance pricing agreements in specific countries.

56


Local file content

The local file is intended to provide detailed information relating to specific intercompany transactions and focus on information that’s relevant to a specific jurisdiction. It supplements the master file and helps meet the objective of assuring that the taxpayer has complied with the arm’s-length principle in its material intercompany transactions affecting that specific jurisdiction. At BKD, we generally cover this information in one file, so our format will need to be revamped. The result is an MNE will need to prepare more local country files, which presents Praxity firms with more opportunities. Also, all controlled transactions will need to be disclosed and documented from a local country perspective even though they may appear de mininis to the head office, which means using more local comparables and explanations about the transfer pricing methodology selected. Although good for us firms, it’s going to be a headache for clients highlighted Will.

CbC reporting

The CbC template is probably the most contentious with clients ill prepared for its introduction. However, it applies to MNEs with revenues that exceed €750 million (approximately $850) for fiscal years beginning on or after January 1, 2016, so its not applicable to all MNEs. The CbC report will be filed by the parent company in their local tax jurisdiction and the CbC report will be included in their tax return.

The report requires information by:

• Jurisdiction - aggregate tax jurisdiction-wide information relating to the global allocation of the income, taxes paid and certain indicators of the location of economic activity among tax jurisdictions in which the MNE group operates.• Constituent entity - a listing of all the Constituent Entities for which financial information is reported, including the tax jurisdiction of incorporation (where different from the tax jurisdiction of residence), as well as the nature of the main business activities carried out by that constituent entity.

A CbC report will quickly identify structures where profits have been shifted and how these have been audited. It would enable a tax authority to apply formulary apportionment, which is a big concern, especially in the US. The US tax authority is likely to reject formulary apportionment, whereas European tax authorities are likely to adopt some aspects of it.

The panel then went on to discuss the implementation process and the dangers of adopting aspects of BEPS in advance, raising the question that it may mean having to roll back some regulations. Australia was cited as an example of adopting in advance.

57


Views from Australia - Greg Travers

Greg Travers explained that after the G20 talks in Australia which discussed global consensus for transfer pricing documentation, Australia completely rewrote their approach to transfer pricing and so is acting independently.

Explaining the rationale, Greg said: “They have taken key principals and are referencing back to the OECD recommendations. So, now Australian tax laws can evolve as the OECD BEPS programme evolves. The concern is that the interpretation may deviate from the OECD’s recommendations. However, Australia’s tax authority has made it clear that they intend to exercise that power. We have robust anti-avoidance measures in place in Australia and the transfer pricing laws are linked to these. Following the budget announcement yesterday, further amendments are anticipated.

“So, if you are a non-resident doing business in Australia and if a significant portion of your business was avoiding tax in Australia, you will be taxed anyway. It’s a targeted approach. To the extent that the ATO has embedded people into MNEs already to target a lot of structuring issues, for example in marketing hubs in Singapore.

“Australia will adopt CbC reporting, no doubt about it. Some of this information is already being provided in current disclosures. We will also look to the US and Europe for their approach. Some Australian-based companies are taking the initiative already and putting the information out there. What’s more, there’s a strong belief that the CbC threshold will be lowered to include more countries.

“In time, Australia’s documentation will move to master and local files and there is a big push for companies to have proper characterization and comparables. The expectation is you will start with local comparables, and if these are not available, US comparables are preferred. Jumping straight to international comparables could end up in disputes.”

More views from US - Mike Schwartz

“In terms of CbC, the US strongly supports the measures, solely as a risk assessment tool. Local countries will have to go to the IRS to request information on a MNE. The biggest concern is privacy - these companies don’t want their secret data being passed around the world.

“On some levels we are seeing the IRS retreating - taking a step back to think about it. They are wanting to see where the dust settles, although some countries are going ahead and changing their laws before the OECD finalizes. In the US we won’t roll the threshold for CbC reporting down. It will work very differently in the US compared to the rest of the world. Unlike Australia, US companies don’t want CbC reporting - they don’t want their information out in the public domain.”

58


Views from the UK - David Prestwich

“UK-based MNEs are used to providing this level of information and have consequently been quick to endorse Action 13. There is a massive focus in the UK on anti-avoidance and putting information in the right format.

“HMRC will follow the threshold in full and it’s expected to affect 1,400 UK-based MNEs. There is no indication to suggest that the threshold for the CbC template will be rolled down to smaller companies.

“HMRC is comfortable with the CbC reporting documentation. The worry is where does it end? We could end up with more levels of data on top of more levels of data!”

What does this mean for Praxity firms?

Will concluded the panel discussion by saying that from a client perspective, CbC reports and dispute resolution certainly presents more opportunities for Praxity participantfirms to collaborate. It’s a real advantage to be able to tap into local teams to handle the local aspects.”

The authors have made every effort to ensure commentary and factual information contained within this publication is accurate and current. The information/ views expressed are not official statements of position, and should not be considered as commercial or technical client advice without seeking professional guidance. This publication has been prepared only as a guide. No responsibility can be accepted by Praxity for loss occasioned to any person acting or refraining from acting as a result of any material in this publication. Any views expressed, or advice given, are those of the author/authors only and Praxity cannot be held responsible for them.

Praxity is a global alliance of independent firms. Praxity is organised as an international non-profit entity under Belgium law (a so-called IVZW or AISBL), with its registered office in Gent (Belgium), Bellevue 5/ b 1001. Praxity does not practice the profession of public accountancy or provide audit, tax,consulting or other professional services of any type to third parties. The alliance does not constitute a joint venture, partnership or network between participating firms.

The firms that participate in the alliance are independent separate legal entities, and Praxity does not guarantee the services or the quality of services provided by participating firms. Praxity does not deliver services in its own name or at all. Services are delivered by the member firms. Praxity and its member firms are not agents of, and do not obligate, one another and are not liable for one another’s acts or omissions.

Copyright © 2015, Praxity – Global Alliance Ltd.All rights reserved.

(beps) initiative

Documents