Einde inhoudsopgave
Treaty Application for Companies in a Group (FM nr. 178) 2022/6.2.3.4
6.2.3.4 Business profits (art. 7 and art. 9 OECD MTC)
L.C. van Hulten, datum 06-07-2022
- Datum
06-07-2022
- Auteur
L.C. van Hulten
- JCDI
JCDI:ADS659514:1
- Vakgebied(en)
Omzetbelasting / Plaats van levering en dienst
Voetnoten
Voetnoten
This should explicitly include losses. It should be mentioned that it could be argued that the current art. 7 OECD MTC does not object against foreign loss recognition (C. Staringer, ‘Chapter 8: Business income of tax groups in tax treaty law’, par. 8.6, in G. Maisto (ed.), International and EC Tax Aspects of Groups of Companies, Amsterdam: IBFD 2008). However, it is clear that it was not intended that the article would apply in that manner.
In this sentence deliberately the wording ‘may be taken into account’ rather than ‘should be taken into account’ is chosen, as this corresponds with the wording generally used in tax treaties. This wording is chosen as it implies that tax treaties solely restrict the application of domestic legislation.
Compare the issues with respect to CFC legislation, as described, e.g., by D. Cane, ‘Controlled Foreign Corporations as Fiscally Transparent Entities. The Application of CFC Rules in Tax Treaties’, World Tax Journal 2017, vol. 9, no. 4. See also the issues with respect to cross-border group regimes in par. 5.2.4.5.
As described in chapter 5, the former art. 7 OECD MTC included a specific paragraph about formulary apportionment. However, this paragraph only applies if formulary apportionment is a customary profit attribution method. Additionally, it requires that the result must be in accordance with the principles as included in the business profits-article. Therefore, it does not seem a viable option to use this wording.
R.S. Avi-Yonah, ‘Between Formulary Apportionment and the OECD Guidelines: A Proposal for Reconciliation’, World Tax Journal 2010, vol. 2, no. 1, par. 3.
Assuming there is a sufficient economic nexus in that state.
The proposed changes in light of the Pillar One project would be in breach of current bilateral tax treaties. Therefore, it is envisaged to implement these measures via a multilateral tax treaty (OECD, Tax Challenges Arising from Digitalisation - Report on Pillar One Blueprint: Inclusive Framework on BEPS, Paris: OECD Publishing 2020, p. 203).
R.S. Avi-Yonah & K.A. Clausing, ‘Chapter 11: Reforming Corporate Taxation in a Global Economy: A Proposal to Adopt Formulary Apportionment’, p. 338, in J. Furman & J. Bordoff (eds.), Path to Prosperity: Hamilton Project Ideas on Income Security, Education, and Taxes, Washington, DC: Brookings Institution Press 2008.
Under art. 7 of the OECD MTC, the taxing rights are allocated to the country of source if the permanent establishment threshold is met. If the various foreign entities would be seen as part of the head office, art. 7 OECD MTC would play an important role for the application of tax treaties under unitary taxation. In this regard it should be made clear that the worldwide profits1 may be taken into account2 at the level of the ultimate parent company of the unitary business, before allocation takes place. This would be the profits of other legal entities (including the profits that are currently allocable to a permanent establishment) and profits allocable to any other body of persons. If it would not specifically be included in the OECD MTC that the worldwide profits may be taken into account at the level of the ultimate parent company of the unitary business, this could lead to conflicts with tax treaties.3
It depends on the chosen profit allocation method (e.g., formulary apportionment or a profit split method) whether and how art. 7 OECD MTC should be rewritten to properly reflect the unitary business approach. The choice for a profit allocation method would be influenced by the tax policy objectives of countries. If the chosen profit allocation method4 would be seen as an acceptable transfer pricing method, it does not seem strictly necessary to change the article.5 Still, it would seem more logical to change it, to ensure that there will be no ambiguity about this point. The article should determine that the profits are in principle solely allocable to the country of the ultimate parent company of the unitary business,6 except if there is a sufficient economic nexus in another state. In that case taxing rights should be allocated to the other state or states. Situations in which there is no group of companies (i.e., a single legal entity with a sufficient economic nexus abroad) would also be covered by this new variant of art. 7 OECD MTC. Moreover, in the profit allocation method used for the newly designed art. 7 OECD MTC attention should be paid to the digitalisation of the economy, to make sure allocating profits to the market jurisdictions is in line with tax treaties.7
Art. 9 OECD MTC would become irrelevant for transactions within the unitary business, because those transactions would not be visible.8 For transactions between the unitary business and associated non-unitary business entities, the article would remain of relevance. In this regard the article should be amended to bring these transactions within its scope. The underlying profit allocation method would have to reflect the digitalisation of the economy.
Example 1
The aforementioned can be illustrated by a simplified example. The facts of the example are as follows (see figure 6.1):
an entity is established in state A that is not part of a unitary business (because there is, e.g., no economic integration);
this entity holds the shares in an entity in state B, the ultimate parent company of the unitary business;
the ultimate parent company of the unitary business conducts business activities in state E with a sufficient economic nexus, and holds the shares in a unitary business subsidiary established in state C; and
the unitary business subsidiary conducts business activities in state F with a sufficient economic nexus, and holds the shares in a non-unitary business subsidiary established in state D.
Under a full unitary taxation approach, all profits and losses of the unitary business entities would be consolidated at the level of the ultimate parent company of the unitary business in state B. The unitary business as such would be seen as a tax treaty resident (see figure 6.2). The consolidated profits would subsequently be allocated to all the states where the unitary business has a sufficient economic nexus (presumably state B, state C, state E and state F) in line with the amended version of art. 7 OECD MTC. For transactions between members of the unitary business (i.e., intra-unitary business transactions) art. 9 OECD MTC would not be of any relevance. However, transactions between the unitary business and non-unitary business entities would still be governed by art. 9 OECD MTC.