The OECD has released the first batch of recommendations (deliverables) from its 2013 OECD-G20 Action Plan to combat international tax avoidance (more formally known as Base Erosion and Profit Shifting or BEPS).
The reports address seven of the 15 Action plan areas, with the other eight to follow in 2015. By and large these reports represent the consensus of the G20 and OECD.
This comprises 44 countries including New Zealand.
While the level of consensus to date is impressive, there are clearly areas where consensus has yet to evolve and others which are interdependent with other deliverables and action items (including the eight remaining Action Plan items set for release in 2015).
The seven reports must therefore be viewed as a package of measures rather than in isolation. Each of the reports, while agreed, has not been formally finalised. They are therefore technically still drafts.
A number of the action items require more work to be done. The measures and options suggested should therefore be read in that light.
Interim step
Further evolution, if not revolution, of the recommendations seems likely.
This package is therefore an interim step, not the finished product.
That is unlikely to be known until the full set of measures is reported on late next year, and further work will be done on the 2014 deliverables.
The detail of the proposals will be important to determining whether consensus, to the extent it exists, continues to hold.
Importantly, while consensus has been reached at a technical level, each country must still follow its processes to implement the recommendations. This adds a political dimension and risk to implementation.
However, there is no doubt that some action will be taken.
As the KPMG Australia summaries show, the reports should be used to test the efficacy of existing structures and systems.
Policy approaches
Countries differ on tax policy, which colour how BEPS issues are approached.
For example, not every country in the G20 and OECD taxes on the same basis. Some, like the US reserve the right to tax on the basis of citizenship while others, like New Zealand, use a concept of tax residence. Companies and other entities and business structures also have differing tests.
Double taxation
In the absence of bilateral treaties, this can lead to overlaps and double taxation. This means that different countries will have different objectives.
These differences will also have implications for the design of some of the OECD’s recommendations.
OECD has developed a common reporting standard for the automatic exchange of information between tax authorities. For those at the coalface of implementing this standard, an apparently simple question, such as the tax residency of the customer, will not be straight forward. This will make it difficult to make the reporting work.
However, there seems to be no move to a common basis of taxing.
Taxing profits
How should a company’s profits be taxed?
Countries also take different approaches to how they view tax bases.
In New Zealand, we tend to view company tax as effectively a ‘down payment’ for the shareholder. This is due to our imputation system. This has implications on how the company tax rate is set.
Ultimately, corporate profits are taxable at shareholders’ marginal tax rates and company tax preferences are generally clawed back when profits are distributed.
Other than Australia, the rest of the OECD (and G20) operate classical tax systems, where the company and shareholder are different taxpayers. This leads to double taxation of company profits and creates an incentive for companies to reinvest rather than distribute.
However, typically, these countries have capital gains taxes. If a company does not distribute its profits, tax will be paid by the shareholder when shares are sold.
Differing views
This difference in approach also affects how company structures are viewed. If tax is paid at some level on the economic profits of a company, a particular country may have less concern that the company itself does not pay the tax.
The OECD reports assume that the company itself should pay the tax rather than taking a holistic view of the tax system that applies to the particular entity and its economic/beneficial owners. This may not be in the best interests of all countries.
A tax policy in one country may be considered a ‘harmful tax practice’ in another.
The OECD’s review of preferential tax regimes across member nations is one of the seven focus areas. It has a particular emphasis on the tax treatment of intangibles (i.e. intellectual property, such as patents). These regimes are aimed at attracting particular activity to a country. They can be viewed by others as unfairly using the tax system to incentivise a shift to that country.
The other area of focus, the use of hybrid arrangements, can produce similar results by lowering the cost of investment to or from a particular country. Their effects are now so well known that they can be seen as deliberate design features of a country’s tax system.
The reports confirm there is a continued focus on reducing the effectiveness of such regimes. However, there is as yet no timetable for their removal.
Ironically, some of the strongest supporters of the BEPS project may find themselves falling foul of rules to counter harmful tax practices.
The overall objective is aligning tax to economic activity.
Dinesh Naik is Tax Partner at KPMG based in Auckland. KPMG is the Sponsor of the ‘Business Excellence in ICT Category’ of the Indian Newslink Indian Business Awards 2014.
