International tax rules, many of them dating back to the 1920s, provide for the elimination of double taxation, but in the light of the new changes in the economy (the impact of digital economy, transfer of intellectual property, services) these rules are now being abused of, thus permitting double non-taxation, meaning double exemption from taxes. In other words, multinational enterprises (MNEs) take advantage of the outdated provisions of double taxation treaties in order to avoid taxation.
In response to all concerns related to base erosion and profit shifting practices, the Organisation for Economic Co-operation and Development (OECD) has issued the Action Plan for the Base Erosion & Profit Shifting Report on 19 July 2013. The Plan aims to reduce the artificial transfer of profits by MNEs which use aggressive tax planning schemes. Basically, the measures aim to eliminate the provisions of international double taxation treaties which allow for companies to adopt aggressive tax avoidance policies or in other words, to eliminate the provisions permitting multinational groups to pay no taxes in the countries where income has actually been generated, and to artificially transfer profit to favourable tax jurisdictions where no real activity is carried out (usually off-shores), thus paying tax at low rates or no taxes at all.
The Plan identifies 15 key actions to be implemented, resulting in dramatic changes to the landscape of tax planning in the international arena. An underlying theme is tackling the artificial separation of taxable income from the activities that generate it. Going forward, the focus will be much more on the underlying substance, as well as on where value is really created within an international business.
The Action Plan sets out from the tremendous changes occurring in the way multinational enterprises (MNEs) operate in the 21st century, highlighting particularly the impact of digital economy and of such changes in tax avoidance. Other changes over the years which have also exerted an impact thereon include the elimination of trade barriers, the free movement of capital, the exploitation of intellectual property and the manner in which risk is managed. As international standards and bilateral tax treaties have not kept pace with these changing business models, aggressive tax planning could not be hindered.
The actions proposed by OECD will focus on various problems, such as: tax challenges of the digital economy, limitation of base erosion by excessive deductible payments such as interest and other financial payments, prevention of treaty abuse, prevention of the artificial avoidance of PE status by updating the PE definition, assurance that transfer pricing outcomes are in line with value creation (rules regarding the transfer of intellectual property rights, the allocation of risks between group members and high risk transaction rules), re-examination of transfer pricing documentation requirements to enhance transparency for tax administration, strengthen CFC rules, etc.
OECD has mentioned that the project must be developed quickly so as to ensure that the actions are to be implemented as soon as possible. The Action Plan is to be finalised within two years. However, some actions will be implemented sooner, while others will require more time.
In conclusion, this Plan should provide countries with domestic and international instruments that will better align taxation rights with economic activity.
TAX ALERT by Mazars Consulting / MAZARS ROMANIA
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