A Mountain in Labour
What will be the practical impact of BEPS for treasurers?
by David Ledure, International Tax and Transfer Pricing Director, PwC Brussels
“A mountain had gone into labour and was groaning terribly. Such rumours excited great expectations all over the country. In the end, however, the mountain gave birth to a mouse.”
Phaedrus (Aesop’s Fables, Perry Index, 520)
The OECD’s project on ‘Base erosion and profit shifting’ (BEPS) is entering its last phase. When the OECD launched its ambitious 15 action points in July 2013, it aimed to repair many cracks in the international tax system. A lot of these action points focused on multinationals’ treasury activities. The OECD labels them as ‘portable activities’ which would make them instrumental for tax planning purposes. Since then, the OECD has published a number of papers. But the question remains - will BEPS give birth to an elephant or a mouse?
Interest deductibility limitations
One of the OECD’s frustrations is that groups’ external interest charges are typically lower than the aggregated interest charges their subsidiaries deduct for tax purposes. To combat this, the OECD issued a consultation document in which it formulates recommendations for local tax rules.
Under group-wide rules, each subsidiary would be able to deduct only a proportion of the group’s external financing costs. Such proportion would then be based on an allocation key (e.g., EBITDA). The OECD leaves it open as to whether such group-wide rules would be implemented as a cap to local interest charges or as a mere allocation irrespective of the interest cost reported in the accounts.
The OECD also recommends the use of ‘fixed ratio’ rules similar to the ones that many countries already have (e.g., debt/equity and interest/EBITDA limitations). However, based on - debatable - open market information, the OECD claims that the existing rules are not sufficiently stringent and therefore recommends to lower the thresholds. According to the OECD, countries should not select one interest limitation rule. They can combine the above ideas, and supplement them with additional rules combating specific financing transactions like internal debt push-downs.
The current consultation document is subject to further changes and one could think that most of the novel ideas might not survive in the final recommendations. Unfortunately, this is not the right question. There has already been an avalanche of all sorts of interest limitation rules and more are to come. It seems that countries will not wait for the OECD to finalise its work, nor strictly follow these recommendations. Treasurers who have operations in France know what this means.
Substance and terms & conditions
Other BEPS action points make explicit or implicit reference to substance, especially with regard to low-taxed entities or tax-friendly schemes. Hereto, substance is not limited to counting headcount, but rather looking at true roles and responsibilities. If there is no adequate substance, treaty benefits could be denied (e.g. for withholding tax exemptions). Likewise, if certain terms and conditions would not be in line with the actual conduct of the parties involved, tax authorities could change the characteristics of a finance transaction or simply ignore that transaction. These ideas are likely to survive and reinforce the importance tax authorities attach to substance.
Disclosure and transparency
The OECD wants groups to provide more information so that tax authorities can better select files for audit. The Country-by-Country Report will provide a snapshot per country of revenues, taxes due and employees. Based on such information, some treasury set-ups will attract attention even if valid economic reasons exist for them. Under the ‘Transfer Pricing Masterfile’, the OECD wants to give tax authorities a holistic picture of a group’s financing set-up and recommends that groups disclose their external financing set-up as well as their internal financing policy. Finally, tax rulings will more easily be shared between tax authorities.