International Taxation of Economic Substance Sol Picciotto - - PowerPoint PPT Presentation

European Parliament TAXE2 and DEVE Committees Public Hearing, 24th May 2016

International Taxation of Economic Substance

Sol Picciotto

Emeritus Professor, Lancaster University International Centre for Tax & Development BEPS Monitoring Group

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The Consequences of Aggressive Fiscal Practices for Developing Countries

Flaws in the System & Responses

 Treaty principles allocating tax rights

Portfolio investment: active income @ source, passive returns @ residence MNEs: power to adjust, but based on ‘independent entity’ principle no obligation to tax, may exempt

 MNE exploitation of independent entity principle

Traditional: ‘stepping-stones’ deductions for fees/royalties/interest flow through tax-exempt conduit to base Newer: corporate value-chain fragmentation ‘stripped risk’ production/R&D/distribution in high-tax countries ‘high-value’ control/design/management functions where low-taxed

 State Competition to Attract ‘High-Value’ Functions

Exemption of foreign income Special rulings CFC rules abandoned, ‘territorial’ taxation

 The BEPS Project: G20 Mandate

Tax MNEs ‘where economic activities occur and value is created’, ‘while … respecting the sovereignty of each country to design its own rules’ Contradictory

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BEPS Project Outcomes

 Deductibility of central costs

services: ‘low value’ may be apportioned subject to benefit test interest: cap @ 10-30% of EBITDA

• ptional GRR for 20% of MNEs disadvantaged

 Anti-Treaty Abuse

Who can be bona fide resident? Investment funds? LoB: even modified version is complex PPT: hard to apply, especially if recipient has (some) substance

 Profit Allocation - Transfer Pricing Guidelines

Functional Analysis Intangibles: R&D ‘design and control’, ‘direction of and establishing priority’, ‘management and control’ (para. 6.56), Risk: ‘capability and authority to control’ (para. 1.67) ‘stripped risk’ affiliate still gets routine profits (Google UK settlement) Can ‘cash box’ show it fulfils control functions?

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Responses

 Unilateral ‘anti-abuse’ measures

Diverted Profits Tax: UK, Australia if payments made to low-taxed recipient

 ‘Reform’ of Conduit Regimes

NL ‘substance’ requirement: 50% resident Board members, meetings in country

 Pressures on source countries

Inclusion of (optional?) arbitration in treaties – NL Uganda-NL MAP over Zain/Bharti case modification of anti-abuse test for conduits to add ‘substance’ Uganda – 2016 amendment to ITA 88(5)

 Restricting Harmful Tax Practices?

Forum now global, peer-review includes ‘relevant’ countries Key test is ‘substance’, developed for Patent Box, to be extended ‘reformed’ regimes will be generalised Patent Box: UK >> Ireland, Switzerland >> Germany, USA

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Problems for Developing Countries

 Ad Hoc & Discretionary Methodology

‘capacity building’ may generate increased revenues but is it suitable for all, or sustainable in the long-term?

 Alternative Approaches

Brazil: fixed margins:

easy to administer, but blunt instrument

Safe Harbours

OECD version: taxpayer’s option

 Durst – ICTD WP 44

Modified Net Margin Method Benchmark Affiliate’s profit as % of Group profit rate – pre-tax revenue minimum of e.g. 25% of sales or of costs Different type of Safe Harbour

 Simple, easy to administer, comprehensive solution

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Muchas Gracias Ahsante Sana Dank u Wel Vielen Dank Thank You Obrigado Merci

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