TaxTalk—Insights BEPS www.pwc.com.au Australian perspective on 2015 BEPS package 8 October 2015 In brief The Organisation for Economic Co-operation and Development (OECD) has released the 2015 Base Erosion and Profit Shifting (BEPS) package this week. Australia has been an early mover in relation to the BEPS project and there are a number of “BEPS inspired” measures currently in motion. Multi-national companies should consider how these changes might affect their business operations. The BEPS package does not constitute an overhaul of the current international tax system. In some areas, like transfer pricing, they are modernising existing rules. In some areas, like permanent establishment and treaty abuse, they are responding to specific concerns, and in others, like interest deductibility and hybrids, they are proposing to address perceived gaps in the current rules. Overall, the approach proposed is pragmatic and incremental. The 2015 BEPS package also provides signals about what to expect in coming months and years as national governments consider how best to respond to the OECD’s recommendations. Multi-national companies will need to consider the potential impact of the recommendations, and possible national responses, on their business. In detail In a press release on 6 October 2015 responding to the BEPS package, the Australian Treasurer stated that “The strong measures already taken by the Australian Government are entirely consistent with the final OECD recommendations. The Government’s measures attack the heart of the multinational tax avoidance problem, whilst ensuring Australia remains an attractive and competitive place to do business.” In terms of implementing other measures announced by the OECD, the Australian Treasury explained that “…the Government will be consulting with stakeholders, foreign governments and the OECD and will pay close attention to ensuring investment activity is not compromised and that Australia remains an economically competitive place to do business.” It remains to be seen how the Australian Government will deal with this delicate balance between global alignment and the Australian national interest. A snapshot of the key developments affecting Australia is set out below. PwC Page 2 Senate Economics References Committee on Corporate Tax Avoidance This enquiry was commissioned in October 2014 and was originally due to report in June 2015. However, after five days of hearings and two extensions, the Committee is now due to report by 30 November 2015. The August interim report followed several hearings in which evidence was heard from taxpayers in a number of sectors (such as resources, information technology and pharmaceuticals), the Australia Taxation Office (ATO) and some others. The interim report had a strong focus on tax transparency whilst the Committee has advised that the final report will centre on further scrutiny of cross border transactions with a specific focus on transfer pricing. Further hearings, flagged for the oil and gas sector, have not yet been scheduled. Transparency Before we consider the latest OECD recommendations, on a standalone basis, Australia is likely to be amongst the world’s most transparent tax systems in view of the following: The ATO to publish certain tax data on companies with turnover in excess of A$100 million in December this year. The adoption of the OECD Action 13 country-by-country (CbC) reporting requirements in a Bill before Parliament. This Bill proposes that Australian taxpayers with global revenue over A$1 billion be required to maintain and/or provide to the ATO CbC, master file and local file reports unless the Commissioner grants an exemption. This is scheduled to commence from 1 January 2016 with the first reporting due 12 months after the close of the reporting year. The Board of Taxation (BoT) has been asked by the Government to lead the development of a new code on greater public disclosure of tax information by businesses, particularly large multi-nationals, by May 2016 (a discussion paper is due by the end of 2016). Calls by the Senate Economics References Committee on Corporate Tax Avoidance in its interim report in August for more transparency measures. Also under consideration by the ATO is the merit and value of the so called ‘effective tax borne’ methodology. The methodology is intended to provide a standardised approach to identifying an economic group's worldwide profit from ‘Australian linked business activities’ and the Australian and offshore tax paid on that profit. In its report on ‘Transparency – disclosure by taxpayers of aggressive tax planning arrangements’ (Action 12), the OECD recommends the introduction of mandatory disclosure of particular aggressive tax planning arrangements. The OECD report takes an approach that is found in a number of countries including the United States, United Kingdom and Canada and advocates that a standardised disclosure regime should be adopted globally. No doubt revenue authorities will share such disclosed information. Australia does not have such a disclosure regime at this time. However, since 2006 there has been a civil penalty regime for promoters of tax schemes, deliberately put in place in preference to a disclosure regime as now recommended by the OECD. Whilst such a disclosure regime could co-exist with the promoter penalty rules, it is questionable whether the ATO will learn more than it already does by existing methods. This is because the promoter penalty rules provide a strong incentive to either seek ATO rulings or to not engage in schemes which could be penalised. In addition, there are extensive reporting obligations on certain corporate taxpayers already such as the reportable tax position requirements. PwC Page 3 The Treasurer has announced that the mandatory disclosure recommendation will be referred to the ATO to consider the costs and benefits of adopting it for Australia Multinational Anti-Avoidance Rules On 16 September 16 2015, Tax Laws Amendment (Combating Multinational Tax Avoidance) Bill 2015 (the Bill) was introduced into Australian parliament. This Bill includes the Australian Government’s own version of the UK’s diverted profits tax and is scheduled to commence from 1 January 2016. In essence, it seeks to tax certain non-residents as if they have a permanent establishment (PE) in Australia where certain conditions are satisfied. The Government has explained that the rules are specifically targeted at 30 large foreign multinational corporations. However, we expect that other taxpayers will be inadvertently caught and that many more will need to examine and document why the MAAL is not expected to apply in their circumstances. The Bill also doubles the penalties to 100% of the tax shortfall to be paid by ‘significant global entities’ (members of a group with annual global income of A$ 1 billion or more) that enter into tax avoidance or profit shifting (i.e. transfer pricing) schemes in circumstances where a taxpayer adopts a position that is not reasonably arguable (from 1 July 2015). This Bill has been referred to the Senate for review and is due to report by 9 November 2015. Hybrid Mismatches In response to the work by the OECD on hybrid mismatch arrangements (Action 2) the Australian Government released, on 14 July 2015, the terms of reference for the BoT to consult on implementation of the anti-hybrid rules developed by the OECD. The BoT has been requested to report to the Government by March 2016 to allow the issue to be considered as part of the 2016 Federal Budget (expected to be 12 May 2016). The BoT will be conducting consultation with stakeholders over the coming months regarding issues associated with implementation of the OECD anti-hybrid rules into the Australian law to inform its report to the Government. While a commencement date has not been announced, at this stage, we would anticipate a commencement date being announced in the Federal Budget next year. Transfer Pricing The BEPS measures embodied in Actions 8, 9 and 10 revise guidance within the OECD’s Transfer Pricing Guidelines. The changes align the OECD position more closely with Australia’s current law and ATO practice. It is therefore likely the new OECD guidance will be adopted quickly in Australia. It is possible for new guidance materials for interpreting the Australian transfer pricing laws to be incorporated by regulation rather than by law change. The revised transfer pricing guidance will be of particular note to Australian taxpayers in respect of the following: Non-recognition and recharacterisation: Recharacterisation is a controversial and uncertain element of Australia’s existing transfer pricing legislation as it was out of step with previous OECD guidance. The changes included in the revised OECD transfer pricing guidelines are now broadly consistent with the Australian law. Under the new OECD guidance, and similar to the reconstruction provisions in the Australian law, non-recognition of transactions is permitted where the totality of arrangements differ from those which would be adopted by independent enterprises behaving in a commercially rational manner in comparable circumstances. PwC Page 4 Intangible property (IP): The BEPS guidelines place a greater emphasis on rewarding parties that make an economic contribution to intangibles, rather than assuming the legal owner of the IP is entitled to all non-routine profits generated by the IP. In practice this will act to reinforce the ATO’s current interpretative approach whereby a strong focus on both economic ownership and management oversight by the IP owner and other parties are seen as important in evaluating the arm’s length return. Substance: The BEPS package contains a strong focus on preventing the use of so-called ‘cash-boxes’, described as companies with few if any employees and little or no economic activity. An example is provided whereby a capital-rich member of a group provides funding for the development of intangibles by an operating company. The guidance concludes that unless the capital-rich member controls the financial risks associated with its funding, then it will be entitled to no more than a riskfree return from the development of the intangibles, or less, if the transaction is not commercially rational. Such an outcome is already likely under the Australian law. Commodity transactions: The ATO has significant interest in cross border commodity transactions because of the high volume and dollar value these transactions have in connection with Australian taxpayers. While the OECD has provided some basic guidance it does not resolve the areas of greatest contention such as determining an arm’s length value for a related party marketing and sales function – specifically distinguishing between a low value service function and trading via agency or buy sell activities. Profit splits: There is some limited commentary throughout the BEPS guidance on the revised application of profit splits. The OECD intends on issuing detailed commentary on this next year. However, in practice we expect the ATO (and other tax authorities) will increase the use of profit split methods in implementing the transfer pricing recommendations from the BEPS project. Today it is common practice for multinational taxpayers to adopt a one sided transactional net margin method (TNMM). In some cases this approach many leave a large relative share of transaction value with international related parties (which will be visible under a CbC report). The ATO and other tax authorities are increasingly questioning whether such a one-sided approach is appropriate and we expect this to continue ahead of the OECD’s detailed profit split guidance being released. Permanent Establishments The BEPS proposals in relation to PEs (Action 7) lower the threshold for a source country to obtain taxation rights. For example, a dependant agent PE can arise where a person in Australia “habitually plays the principal role leading to the conclusion of contracts that are routinely concluded without material modification.” It is planned that these measures will be implemented through the proposed multi-lateral instrument (Action 15). This change is likely to expand the circumstances in which a non-resident establishes a PE in Australia and may also expose Australian exporters to foreign tax liabilities. It will be necessary to determine the profit attributable to such PEs under the transfer pricing rules. The OECD will provide further guidance on PE profit attribution next year; however, it is important to note that Australia’s current approach for attributing profits to PEs is out of step with current OECD guidance. This has the potential to result in disagreements between the ATO and other tax authorities on how profits should be attributed to a PE that arises as a result of the proposed changes. Of course, this change may overlap with the MAAL proposal outlined above which has been designed as an anti-avoidance provision in an endeavour to overcome Australia’s existing tax treaty obligations. It is unclear how this conflict will be resolved. PwC Page 5 CFC A review of Australia’s CFC rules was announced in October 2006 and in May 2009 the then Labor Government announced plans to ‘modernise’ those rules. In November 2013, the Coalition Government announced a delay of further consultation until July 2014 pending the work of the OECD on BEPS. The work on CFC (Action 3) did not achieve consensus on a minimum standard principally due to tax competition concerns (that is, CFC rules may discourage investment by multi-national companies). However, the work on this action item highlights how complex and uncompetitive the Australian CFC system remains. We remain hopeful the Government will look to address this issue which puts Australian based multi-nationals at a competitive disadvantage in relation to offshore investment. Thin Capitalisation Australia has robust rules in relation to debt deductions (viz, debt/equity, taxation of financial arrangements, thin capitalisation and transfer pricing). The Australian thin capitalisation rules were most recently tightened from 1 July 2014. Recommendations contained in the draft OECD report, issued on 18 December 2014, relating to the design of thin capitalisation rules (Action 4) would have required Australia to tighten these rules even further. There was a concern that this would have a material impact on the cost of foreign capital which Australia heavily relies upon. However, the final report does not stipulate the global debt allocation approach as a minimum standard. It is pleasing that the OECD reacted to strong submissions from the business community that the draft proposals were impractical and prone to double taxation outcomes. This is welcome news for Australia. Action 4 also refers to the development of transfer pricing guidance for related party transactions but this will now be carried out as a separate project to be completed by 2017. Dispute Resolution The OECD recommends strengthening mechanisms to improve the resolution of cases under the existing mutual agreement procedure (MAP). The OECD observes a breakdown in confidence in MAP, with a trend for an escalating number of MAP cases and longer periods before these are resolved, together with MAP being a process in which taxpayers do not formally participate. However, the outlook is for more disputes and this will affect both inbound and outbound taxpayers, caused by the widespread expectation on revenue authorities, including on the ATO, to be more vigilant in dealing with multi-national companies and as a result of rule changes resulting from the OECD BEPS recommendations which create uncertainty. Of most concern are changes to PE and transfer pricing rules which may result in double taxation if revenue authorities cannot agree on which jurisdiction has taxing rights. The takeaway The 2015 BEPS package is a significant milestone in the long journey of reforming the international tax rules. The timing and extent of changes across the globe are difficult to predict but change will be constant. Businesses should assess the likely longer term impact of the proposals that have been announced by the OECD. PwC Page 6 Let’s talk For a deeper discussion of how these issues might affect your business, please contact your usual advisor or: Tom Seymour, Managing Partner +61 (7) 3257 8623 email@example.com Pete Calleja, Partner Transfer Pricing +61 (2) 8266 8837 firstname.lastname@example.org Peter Collins, Partner International Tax Services +61 (3) 8603 6247 email@example.com Michael Bersten, Partner Tax Controversy +61 (2)8266 6858 firstname.lastname@example.org © 2015 PricewaterhouseCoopers. All rights reserved. In this document, “PwC” refers to PricewaterhouseCoopers a partnership formed in Australia, which is a member firm of PricewaterhouseCoopers International Limited, each member firm of which is a separate legal entity. This publication is a general summary. It is not legal or tax advice. Readers should not act on the basis of this publication before obtaining professional advice. 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