Maybe your company has people selling your goods or services in another country or it has a warehouse abroad? If so, read on as the OECD has published its far reaching discussion draft on determining profits of permanent establishments and the rules on the taxation of companies trading in other countries are changing significantly. In particular, don't be caught out by foreign tax authorities who are aggressively applying these revised rules to tax the unwary.
What is happening?
The OECD has been publishing recommendations over the last year or so to overhaul international tax rules as part of its Base Erosion and Profit Shifting (BEPS) action plan. As a result, if your business is deemed to be trading through a branch (or ’permanent establishment’ (PE) as it is sometimes called) then it may be taxed in the overseas country as well as back in the UK. Fortunately double tax relief and available exemptions usually prevent double taxation, but this should not be assumed. Examples of where the threshold for triggering a taxable PE has been lowered include dependent agents who are negotiating (as opposed to completing) sales, or a warehouse that forms a key part of a sales supply chain.
The OECD has now published a further discussion paper, the aim of which is to determine the amount of profit that should be attributed - and taxed - in a PE. In other words, once a taxable PE has been triggered, how do you calculate how much profit should be attributed to it? The OECD proposes that the profit should be determined as if the PE was a distinct and separate enterprise from its overseas head office and also that risks and assets should be attributed to the PE or head office in line with the location of ‘significant people functions’.
Critics might argue that these concepts have been discussed by the OECD for a number of years and that there is little new in their latest draft. The document is important, however, as the recommendations are unlikely to change significantly and will be adopted by countries all over the world in determining how much profit should be taxed in their jurisdiction.
The key messages that arise from the discussion draft are that transfer pricing principles need to be adopted in determining profits of the PE – ie how much profit the PE would earn if it were an independent entity. This may sound straightforward, but in practice can prove complex. What is clear, however, is that tax administrations will be focussing on economic value creation and the roles and responsibilities of people on the ground. What is helpful is that examples have been provided which focus on the two key issues where the threshold for triggering a taxable PE has changed significantly – dependent agents undertaking selling operations and warehouses as a fixed place of business.
The discussion draft is likely to be used widely by tax authorities worldwide in this often contentious area. If your business has overseas operations , then the concepts discussed could have a significant bearing on how much tax you may pay on these activities in future.
For more information please get in touch with Ken Almand, or your usual RSM contact.