The OECD BEPS Action Plan – Status And Potential Implications For Luxembourg

On 19 July 2013, the OECD issued its much-anticipated Action Plan on Base Erosion and Profit Shifting ("BEPS"), with a view to bringing international economic integration and national taxing rights more closely into line. The 40-page BEPS Action Plan contains 15 separate action points, some of which are further split into specific actions or outputs. The BEPS Action Plan aims to address these issues in a coordinated, comprehensive manner, and was endorsed by the leaders of the "G20" economic grouping in September 2013.

While it may take considerably longer for the impact of these changes to be applied fully in practice, there are indications that the BEPS project and related developments are already leading to material shifts in the behaviour of many tax authorities.

Status

At the date of this summary, 28 May 2014, the OECD has so far successfully followed the timetable running through to the end of 2015 as set out in the BEPS Action Plan, and has published four initial Discussion Drafts of various Reports, each as proposed in the BEPS Action Plan. The Discussion Drafts are as follows.

These Discussion Drafts have each since been the subject of public consultation by way of both written submissions and public meetings, as outlined further below. Input from this consultation process, and from further consultation with the tax authorities of all OECD member states (including Luxembourg), will be taken into consideration by the OECD before it publishes the final versions of its work in these areas. In each case, this is anticipated as occurring before the end of September 2014.

Other output noted in the BEPS Action Plan timeline as "to be produced by September 2014" is tabulated on the next page. The OECD also publishes regularly a "Calendar for planned stakeholders input" (see www.oecd.org/ctp/discussiondrafts.htm) - the most recent (13 May 2014) version does not give any more precise guidance on the likely issue dates of draft output for these yet-to-be-produced deliverables. Nothing else is now expected to be published until after the summer.

On 26 May 2014 the OECD ran a BEPS webcast, at which OECD senior BEPS project officials gave an update on progress on each of the currently-active workstreams. They remained optimistic that all output due to be finalised in September 2014 would be completed on schedule. Also, work to date had indicated that the "multilateral instrument" approach to amending a large number of bilateral tax treaties at once was feasible, with work on a framework set to start in early 2015.

Transfer Pricing Documentation and CbCR

The Discussion Draft of the report essentially comprises the draft for a complete rewrite of Chapter V ("Documentation") of the OECD Transfer Pricing Guidelines, annotated with questions for further consideration. The revised Guidelines would require all MNE groups to prepare and maintain contemporaneous TP documentation in the form of a group "master file" and "local files", with OECD-specified detailed content set out in Annexes 1 and 2 to the rewritten Chapter. The "master file" was to contain information on and note the base location of (but not the names of) the 25 most highly-paid employees of the MNE group.

The Discussion Draft also requires MNEs, as one component of the "master file", to collate financial data in a standard format, referred to as the "CbCR template". (Many MNEs would have to adapt their financial systems significantly in order to be able to generate this data efficiently.) This CbCR template (a pro-forma, together with instructions for completion, comprises Annex 3 to the rewritten Chapter) would have to show – line by line, on a per group company basis – sales, profits, intra-group flows, as well as "economic indicators" including fixed assets, employee numbers, and total salary bills.

The Discussion Draft suggested alternative approaches for achieving a high level of transparency to tax authorities, this being seen as a core objective of the BEPS Action Plan. One proposal was that the "master file", including all the CbCR template data covering all countries, would be filed automatically with the tax authorities in every country where the MNE has a presence. An alternative was for the "master file" to be filed with the tax authorities in the country where the MNE group parent company was based, with it being available to other tax authorities under "exchange of information" mechanisms.

Public responses to the Discussion Draft had to reach the OECD by 23 February 2014, and there was a public consultation meeting at the OECD on 19 May 2014. There has already been much opposition to the proposals, including indications that US IRS has concerns that "global formulary apportionment" could in practice arise. The OECD are hence now considering moderating the stance initially taken, notably through

Excluding the CbCR template from the "master file" contents, and recognising that it is a "high-level" document intended mainly for risk assessment. Removing a number of columns from the CbCR template that detail specific intra-group flows such as royalties. Allowing the CbCR template to be prepared on an aggregate territory basis, rather than entity by entity. No longer requiring the "master file" to give any "25 highest paid" details. Reflecting further on how increased transparency to tax authorities is to occur (this having been the subject of heated debate at the public consultation meeting). Treaty Abuse

The Discussion Draft focuses heavily on the OECD's concerns over "treaty shopping", taking a far-reaching approach that in effect sees ANY inclusion of any intermediate country in an income flow as "treaty shopping". The proposed text of a new Model Treaty clause is set out, with this containing:

A very restrictive, US-style "limitation of benefits" ("LoB") regime set out over more than two pages of text – with no "derivative benefits" rules, and only limited let-outs for "active trade or business" flows; and A much shorter "main purposes" test for denial of benefits (i.e. no treaty benefits granted if one of the main purposes of an arrangement was getting treaty benefits). The Discussion Draft also addresses other areas where a taxpayer might "seek to circumvent treaty limitations". Notably, a blunt, overall "effective rate of tax" rule is proposed, to deny treaty benefits to flows to "low-taxed" branches. Also, the treaty status of any "dual resident" company would be decided solely via "competent authority" deliberations.

The public consultation period ended on 9 April 2014, and a public consultation meeting was held at the OECD on 13/14 April 2014. The proposals have received a strongly negative response. Many bodies pointed out that the proposals would deny treaty benefits to most non-publicly traded groups with foreign shareholders, and almost all private equity and similar fund structures. One body felt that the proposals would be "turning the clock back more than 50 years", and many felt that the proposals would serve to hinder rather than encourage international trade and investment. The proposals are also regarded by many as being in conflict with EU treaties, and there were some indications at the public consultation meeting that the OECD accepts that it needs to work further on this aspect.

The consensus in the business community appears to be that the OECD needs to get back to a situation where holding companies with "genuine economic activity" unequivocally still get treaty benefits.

It is understood that the US Treasury feel that the "main purposes" test proposed is a blunt instrument that could result in tax authority overreach, and would resist its inclusion in further OECD discussions as this Report moves towards being finalised. Conversely, the OECD working party remains convinced that a "main purposes" test, as well as LoB provisions, is required to deal with issues such as "conduit" financing. In any event the OECD still needs to draft a section to go into the Model Commentary that would seek to clarify how any "main purposes" test would operate. The OECD has noted a need for flexibility, to deal with the interaction of domestic and Model Convention treaty anti-abuse measures.

The OECD's progress update webcast on 26 May 2014 suggested that the Report is being redrafted in some areas. Within the LoB text, "derivative benefits" rules, which would allow treaty entitlement in situations where a group has a "third country" parent but does not secure a treaty-shopping advantage via the insertion of an intermediate entity in a treaty partner territory, may well become part of the new Model text rather than a Commentary option, although this is still felt to give rise to difficult issues.

Also, importantly, the "design" of the LoB provisions is understood to be being moderated, to address some of the issues raised in public consultation regarding treaty access for "collective investment vehicles" ("CIVs"), pension funds and "dual-listed" companies.

Lastly, the OECD sees a need for the text of the report to retain flexibility while other interacting BEPS workstreams, such as that on interest deductibility, develop their measures.

Hybrid mismatches

The OECD has issued two Discussion Drafts on this topic. The longer one is complex, recommending very detailed changes to domestic laws. The shorter one covers possible Model treaty changes, having less impact and referring primarily to other BEPS Action Plan deliverables.

The "domestic law changes" Discussion Draft identifies specific situations that it believes should be caught, distinguishing between "D/NI" (deduction/no inclusion) and "DD" (double deduction) situations. The text covers individual financial instruments with hybrid characteristics, hybrid entity payments, and "imported mismatches" and "reverse hybrids". The overall approach recommended is for the "paying country" to deny a deduction if the recipient country does not...