On October 5, the Organization for Economic Cooperation and Development (OECD) presented its final reports under fifteen “Action Items” that are intended to be a foundation for the reform of worldwide international tax rules. These reports, under the Base Erosion and Profit Shifting (BEPS) project, originated with a 2013 request to the OECD by the G20 Leaders to focus on recommendations to prevent tax avoidance practices. The final reports provide governments with recommendations for addressing “gaps” in existing international rules that have resulted in the shifting of income to low-tax jurisdictions. Although the OECD is not a legislative body, its guidelines on international taxation have been followed or adopted in many countries, so that the BEPS reports likely will translate into changes in tax legislation in individual countries around the globe, including the US.
Background on BEPS
The OECD estimates that “tax avoidance” practices that the BEPS reports address have resulted in tax revenue losses of $100-$240 billion annually, or 4 to 10% of global corporate income tax (CIT) revenues. The impact is particularly large on developing countries that derive a relatively larger portion of revenues from CIT.
The OECD’s task was built around three pillars: introducing coherence in domestic rules that affect cross-border activities; reinforcing business substance requirements in existing international standards, to ensure alignment of taxation with the location of economic activity and value creation; and improving transparency and certainty for businesses and governments.
What do the BEPS reports address?
The final package of BEPS measures includes recommendations on:
- Country-by-country reporting for transfer pricing purpose, giving tax administrations a global picture of the operations of multinational enterprises;
- Curbing “treaty shopping,” to limit the use of “conduit” companies to channel investments;
- Curbing “harmful tax practices,” particularly in the area of intellectual property;
- Effective Mutual Agreement procedures between tax administrations of different countries, to prevent the occurrence of double taxation;
- Ending the use of “Cash box” entities that shelter profits in low-or no-tax jurisdictions;
- The concept of Permanent Establishment (under tax treaties,) to curb arrangements which avoid the creation of a taxable presence in a country by reliance on outdated definitions;
- Strengthened rules on Controlled Foreign Corporations;
- A common approach to limiting base erosion through interest deductibility, and
- New guidelines to prevent “hybrid mismatch arrangements” from making profits “disappear” for tax purposes through the use of complex financial instruments.
What happens next?
After reporting the BEPS Action Plans to the G20 Leaders during their summit on November 15-16 in Turkey, the OECD will shift its focus to designing and putting in place a framework for monitoring BEPS, as well as supporting implementation of the fifteen Actions items. Since many of the Action items need to operate in the context of bilateral income tax treaties, nearly 90 countries are working together on the development of a multilateral instrument that can incorporate the tax treaty-related BEPS measures into the existing network of over 3000 bilateral income tax treaties.
With the BEPS guidelines in place, various countries have begun to adopt portions of the BEPS recommendations into their laws. In particular, a number of countries are moving forward on the adoption of the Country-by-Country Reporting recommendation, which will increase materially the workload for companies that are affected.
Although it may take some time before the United States adopts the BEPS recommendations, any company with multinational operations will be impacted by the scope of the BEPS recommendations as these are incorporated into tax rules around the world. Corporate tax directors, CFO’s and controllers have begun to assess their international structure and transactions to determine how the BEPS recommendations may affect them.
Fuad Saba, Managing Director, FGMK LLC, can be reached at fuad.saba@fgmk.com or on (312) 818 4305.
