By Mayur B. Nayak / Tarunkumar G. Singhal / Anil D. Doshi
Chartered Accountants
In recent years,
there has been a flurry of developments in the International Taxation field in
the arena of taxation of Digital Economy, Preventing Base Erosion & Profit
Shifting (BEPS), particularly after publication of BEPS Reports in October 2015
and signature of Multilateral Instruments by various Tax Jurisdictions.
Investigations are being conducted by various affected Tax Jurisdictions
particularly into tax evasion and tax avoidance through the use of Offshore UK
Jurisdictions and other Tax Havens. In this issue, we have attempted to capture
such major developments of particular interest to Indian Tax payers and their
tax Advisors.
1. GOOGLE, APPLE, FACEBOOK AND AMAZON (GAFA) TAX- FRANCE’S NEW DIGITAL TAX ON TECH GIANTS
The French
government’s GAFA tax is being introduced to combat attempts by the firms to
avoid paying what is considered a “fair share” of taxes in the
country, by taking advantage of European tax laws.
With efforts to
reform a European Union (EU) tax law not bringing the desired results, France
is going to introduce from 1st January 2019 a digital tax on
technology giants such as Google, Facebook, Apple and Amazon. The new tax
regime is expected to bring in an estimated 500 million euro ($570 million) to
the country’s coffers for 2019. Major technology companies have come under the
scrutiny of lawmakers in countries like France and Britain for allegedly
routing profits through operations in countries with extremely low tax rates or
other arrangements. Earlier this year, the European Commission published
proposals for a three per cent tax on the revenues of major tech companies with
global revenues above 750 million euro a year and taxable EU revenue above 50
million euro.
But to become law, EU tax reforms need the support of all member states. And
some countries, including Ireland, the Czech Republic, Sweden and Finland are
yet to come on board to bring the reforms.
2. EU’S EXPANDED TAX HAVEN BLACKLIST COULD APPLY TO US.
2.1 Black List
The European Union
plans to update its year-old blacklist of tax havens to include new criteria
and an expanded geographic reach—possibly all the way to the U.S. The bloc has
previously threatened that the U.S. could end up on the blacklist, along with
the likes of Guam and Trinidad and Tobago, unless it adopts stricter financial
reporting standards and agrees to share that information with other tax
authorities.
The 2019 blacklist
of tax havens will include those that haven’t adopted the Organisation for
Economic Cooperation and Development’s Common Reporting Standard, like the U.S.
The standard calls on countries to obtain information from their financial
institutions and automatically exchange it with other countries every year.
The EU’s goal is to
flag jurisdictions that have failed to make sufficient commitments to
increasing tax transparency and reducing preferential tax measures. Its overall
goal is to eliminate tax avoidance and fraud. Countries on the blacklist could
face sanctions—measures the EU has discussed include imposing withholding taxes
on any funds moved from the EU to a country on the list.
What started out as
a list of 17 countries in December 2017 is down to six. Besides the U.S. Virgin
Islands, the others, including Samoa, American Samoa, Guam and Trinidad and
Tobago have insignificant financial centers.
The new criteria
for the blacklist adopted for 2019 will require countries to apply the OECD’s
base erosion and profit shifting minimum standard—requiring companies with a
$750 million global turnover to report country-by-country tax and profits to
national tax authorities. The EU is also negotiating new rules to require
countries or independent territories to apply transparency standards to publish
the beneficial owners of companies. Most EU officials, tax experts and advocacy
groups expect 2019 to be crucial because the bloc must decide how to deal with
the U.S. There were several other tension points between the EU and the U.S. in
2018. The bloc accused the U.S. of violating trade rules through some of its
international tax reform provisions, and the U.S. opposed the bloc’s proposal
to tax digital companies.
Some EU politicians
and tax advocacy groups insist that the EU gets either a failing grade or an
“I” for incomplete in its tax haven blacklisting process. For others, the first
year of the EU tax haven process has made a mark as part of an overall trend
away from the use of offshore financing centers in places like the Channel
Islands or the Caribbean. There is a general pressure on companies using
offshore financial centers, driven by politics, popular media and multinational
organisations such as the OECD.
So far, the process
has been an overall failure because the process has been unfair or
inconsistent. When there are tax havens within the EU and they are not on the
list it makes, it hard to go after others outside the EU.
The EU Code of
Conduct Group for Business Taxation, made up of officials from EU member
nations, has the final say on which countries end up on the EU list. It
excludes members of the European Parliament. There is a situation where the
United States does not meet the transparency criteria but the EU member states
have decided to ignore that. This goes to show that the process is political.
2.2 Grey list
Although the
current EU tax haven blacklist only contains six countries and jurisdictions,
the EU member states agreed a year ago to establish a grey list. This is a
roster of countries, which include more than 50 countries, that currently don’t
comply with EU transparency and fair corporation criteria but made commitments
to do so by the end of 2018. EU member nations are due to decide by March 2019
whether the gray list countries have either met their commitments or should be
placed on the blacklist.
The gray list has
been positive in pushing countries to reform harmful tax practices and has for
the first time addressed the issue of zero tax regimes. Indeed one of the most
critical issues the EU must decide in the coming months is whether countries or
jurisdictions with zero corporate tax rates have substantial “economic
substance” on the ground to justify the multinational corporations using their
territory as a headquarters. The goal is to clamp down on letterbox companies.
2.3 Economic
Substance Requirements
The EU is
succeeding in the Channel Islands and in other territories as of 1st January
2019. Guernsey and Jersey are introducing substance requirements for tax
resident companies carrying out relevant activities.
The Cayman Islands,
one of the world’s largest offshore centers for fund management, is another
territory on the EU gray list. It has also recently adopted “economic substance”
requirements for any company that uses its territory for its headquarters.
2.4 The Isle of Man (IOM)
The IOM Parliament
has approved tax legislation that will allow the jurisdiction to avoid being
put on the European Union’s blacklist. This means that from January 2019,
companies engaging in “relevant activities” will have to demonstrate
that they meet specific substance requirements, to avoid sanctions.
Its focus will be
on business sectors identified by the EU including banking, insurance, shipping,
fund management, finance and leasing, headquartering, holding companies,
distribution and service centres and intangible property.
This Order follows
a comprehensive review that was carried out by the EU Code of Conduct Group on
Business Taxation (COCG) in order to assess over 90 jurisdictions, including
the IOM against standards of tax transparency, fair taxation and compliance
with anti-BEPS Reports.
The review process
took place in 2017 and although the COCG were satisfied that the IOM met the standards
for tax transparency and compliance with anti-BEPS measures, the COCG raised
concerns that the IOM, and other Crown Dependencies did not have “a legal
substance requirement for entities doing business in or through the
jurisdiction.”
The IOM is currently
on the EU’s greylist of jurisdictions that have committed to undertake specific
reforms to their tax practices before the end of the year. Without this Order
it would have been placed on a blacklist and faced sanctions as well as
reputational damage.
The legislation
will require companies that are tax resident in the IOM and which operate in
these business sectors to demonstrate a minimum level of substance here.
Substance requirements are set out in the legislation and some of the
requirements vary according to the business sector.
2.5 Economic Substance Legislation in Jersey
Jersey has tabled
new laws to address the EU’s concerns over ‘economic substance’, the degree of
real business activity carried out by companies registered in the Island.
The new proposed requirements for an economic substance test for Jersey
tax-resident entities have been published and are set to come into force on 1st
January 2019 subject to States approval. The reforms include establish
new tests for certain tax resident companies carrying on “relevant activities”
in respect of demonstrating that they are “directed and managed” in Jersey, and
that their “core income generating activities” are undertaken here.
Last year the
Island avoided being placed on a new ‘blacklist’ of non-cooperative
jurisdictions drawn up by the EU Code of Conduct Group on business taxation,
but was among more than 40 regimes asked to reform their tax structures to
ensure compliance with standards, which was dubbed a ‘grey-list’ by some
commentators.
The EU wants Jersey
to show it has economic substance by ensuring the taxes it collects within the
financial services sector were generated through real economic activity in the
territory. In other words, proof that an offshore company is paying taxes in
Jersey because it largely does its work and earns its profits in/from Jersey.
The EU list, first
published in December 2017, was divided into three sections: i) cooperative
jurisdictions ii) non-cooperative jurisdictions and iii) jurisdictions that had
undertaken to modify their tax regimes to comply with the rules set by COCG.
Many of these ‘grey-listed’ jurisdictions operate tax transparency
regimes that are at least as good as the white-listed ‘cooperative’
jurisdictions, but fell foul of the COCG’s additional criterion that businesses
should only be granted tax residence in a jurisdiction once they demonstrate
they have adequate economic substance there.
The blacklist is to
be revised at the end of this year, and grey-listed jurisdictions such as Jersey
are at risk of being moved onto it if they do not act soon. Jurisdictions which
are blacklisted could face sanctions and risk reputational damage.
The other Crown
Dependencies, Guernsey and the Isle of Man, were also consulted and are due to
table similar draft laws soon. Affected companies should review outsourcing
arrangements (where relevant) in respect of Jersey tax-resident companies that
fall within the scope of the new law and whether the third-party service
provider agreements in place meet the tests set out therein.
3. OFFSHORE UK JURISDICTIONS REACT TO LATEST TAX AVOIDANCE INQUIRY
Officials from
Britain’s overseas territories and Crown Dependencies said they were prepared
to cooperate with the latest UK government investigation into tax evasion and
avoidance, but some expressed surprise that it was felt necessary. They pointed
to a raft of new regulations, including the Common Reporting Standard – an
automatic information exchange regime currently coming into force globally –
new and pending additional rules on beneficial ownership registers, and the
UK’s Retail Distribution Review, which they argue have transformed the
so-called offshore financial services industry over the last few years.
The UK Parliament’s
Treasury Sub-Committee has announced a “Tax Avoidance and Evasion inquiry” into
“what progress has been made in reducing the amount of tax lost to avoidance
and offshore evasion”, and whether HM Revenue & Customs (HMRC) currently
“has the resources, skills and powers needed to bring about real change in the
behaviour of tax dodgers, and those who profit by helping them”.
In his piece for The Guardian, John Mann, a Labour Party MP who
is Chairman of the Sub Committee overseeing it, noted that the British Virgin
Islands, Jersey, Guernsey, the Isle of Man, Bermuda and the Cayman “are on the
EU greylist of uncooperative tax jurisdictions”, and added: “We should regard
it as a matter of national shame that the crown dependencies and overseas
territories that fly our flag give shelter to the wealth of the world’s
financial elite.”
In a document
posted on Parliament’s website, the Sub-Committee investigating the tax haven
matters invites comment on six questions as follows:
i) To what extent has there been a shift in
tax avoidance and offshore evasion since 2010? Have HMRC efforts to reduce
avoidance and evasion been successful?
ii) Is HMRC adequately resourced and
sufficiently skilled to identify, challenge and counteract existing and new
avoidance schemes and ways of evading tax? What progress has it made since 2010
in promoting compliance in this area and preventing and responding to
non-compliance?
iii) What types of avoidance and evasion have
been stopped, and where do threats to the UK tax base remain?
iv) What part do the UK’s Crown Dependencies and
Overseas Territories play in the avoidance or evasion of tax? What more needs
to be done to address their use in tax avoidance or tax evasion?
v) How has the tax profession responded to
concerns about its role in aiding tax avoidance and evasion?
vi) Where does it [the tax profession] see the
boundary between acceptable and unacceptable practice lie?
3.1 Guernsey
The States of Guernsey’s
Policy & Resources Committee, noted in a statement that the EU Council of
Finance Ministers (ECOFIN) had reaffirmed that Guernsey “was a cooperative
jurisdiction in respect of taxation, following a screening against principles
of tax transparency, fair taxation and anti-base erosion and profit shifting”
and that it had also formally “committed to the OECD anti-BEPS initiative, and
in 2017 signed the multilateral convention”.
Guernsey had
committed to address certain outstanding ECOFIN concerns relating to “economic
substance requirements in respect of the analysis of fair taxation” this year,
but the OECD’s Global Forum had assessed the jurisdiction’s tax transparency
standards generally, and found them to “exceed the required standard”, the statement
added.
It is also claimed
that Guernsey also meets international standards in respect of the sharing of
beneficial ownership information…and in 2017 went further by establishing a
register of beneficial ownership and putting in place arrangements to share
this information with UK law enforcement authorities.
3.2 Jersey – No safe harbour for rogue operators
A spokesperson for
the States of Jersey said: “Jersey is not a safe harbour for rogue operators.
We run a professional, well-regulated international finance centre that expects
companies using our services to pay the tax that is due in the jurisdictions
where it is owed. Jersey does not want abusive tax avoidance schemes operating
in the island. Jersey is not on the EU Code Group’s blacklist, and was
confirmed as a cooperative jurisdiction. The Code Group is now working with the
island, to ensure that this position is maintained.
The government of
Jersey regularly engages with parliamentarians from across the House [of
Commons], including the Treasury Sub-Committee. We are happy to provide
information to the Sub-Committee on the island’s robust financial regulation
and cooperation with HMRC and the European Union.
3.3 British Virgin Islands (BVI) sets out measures
to counter EU tax ‘greylist’ concerns
BVI has outlined
its action plan detailing key steps the jurisdiction pledges to undertake in
order to allay EU concerns of harmful tax competition with the bloc. In the
EU’s assessment, a range of factors were taken into account including tax
transparency, fair taxation and a commitment to combat BEPS.
Any jurisdiction
judged by EU to be deficient within one or more of these areas is placed on
either a blacklist or an intermediary “greylist”. The EU classifies the
greylist as being for those countries where there is one area where concerns
remain but a commitment to address it has clearly been set out.
The BVI said that
it now meets its requirements relating to tax transparency and those in
relation to BEPS. However, the area which the EU has highlighted for the BVI is
referred to as “economic substance”, in other words the existence of a tax
regime without any real economic activity underpinning it.
The UK Overseas
Territories with financial centres, as well as Crown Dependencies, have all
been advised that they need to address this issue. The Premier is leading a
team to chart a way forward, and has committed to pass appropriate legislation
ahead of the December 2018 deadline set by the EU.
4. UNITED STATES – NEW BASE EROSION ANTI-ABUSE TAX (BEAT) REGULATIONS
US IRS and Treasury
officials on 14th December 2018 discussed the proposed Base Erosion
Anti-Abuse Tax (BEAT) regulations at a Washington DC tax conference, explaining
the reasoning behind many positions taken by the government in the regulations.
A literal reading of the statutory language of the BEAT would result in
many payments that Congress intended to be base erosion payments to fall
outside the statute. To make the statute work as intended, the government
decided that, for purposes of defining applicable taxpayers, the regulations
should provide that the aggregate group is limited to domestic corporations
plus all foreign related parties that are subject to US net
basis tax.
4.1 Effectively Connected Income (eci) exception
Consistent with
this new aggregate group concept, the regulations add an exception to the
definition of a base erosion payment for amounts paid or accrued to a foreign
related party that are treated as ECI.
Kevin Nichols, Senior Counsel, (ITC) at the US Department of Treasury
said that, “When we define the aggregate group, we sort of draw a box around
all the US corporations as well as the foreign entities to the extent they are
subject to net US taxation. So, those transactions are all disregarded for
purposes of determining the base erosion percentage and determining if you are
an applicable taxpayer. And, once you are an applicable taxpayer, then that
same payment would technically meet the definition of a base erosion payment.
In order to create symmetry between the aggregate group concept and what a base
erosion payment is we linked those two so that there is this exception . . .
which says that payments subject to net taxation are an exception from the base
erosion payment definition”.
4.2 Non-cash payments, reorganisations, cost
sharing
The regulations make it clear that base erosion payments
do not need to be made in cash and can occur in the context of a tax-favoured
transaction. There is no logical basis to exclude non-cash consideration,
including payments of stock, from the defintion of base erosion payments or to
exclude a situation where the delivery of the noncash consideration is in
connection with a transaction that has special status under the code, such as a
reorganisation or a section 351 transaction. This rule, coupled with the Global
Intangible Low Taxed Income (GILTI) regulations, will make it more difficult
for taxpayers to move intellectual property from lower tax structures to the US
or to other jurisdictions. Base eroding payments from US participants to a
foreign related party can also be made in the context of a cost-sharing
arrangement.
4.3 Services Cost Method Mark-Up Exception
The proposed
regulations take the position that if you meet all the requirements of the
services cost method exclusion from the definition of base erosion payments,
the exclusion is available to the extent of the cost but not the to extent of
any markup.
While it has been
clear the exclusion would apply to US corporations that reimburse a foreign
related taxpayer for costs of services provided by the foreign party, there had
been controversy regarding whether and how the exclusion would apply if a
markup is added to the payment.
The regulations
clarification is welcome as companies have wondered if they need to forgo the
markup component to take advantage of services cost method exception and, if
they did forgo the markup, how the foreign jurisdiction would react.
4.4 Cost of Goods
Sold (cogs)
exception
Companies have been
spending significant resources trying to determine what costs can be properly
capitalised and thus considered reductions to gross receipts for purposes of
Cost Of Goods Sold (COGS) rather than as deductible payments subject to BEAT.
Companies that realise they have been deducting items that should have been
included in COGS now want to apply for a change in accounting method but are
concerned that the government may disregard a method change even if it is from
an improper method. Unlike the section 965 transition tax, the BEAT provisions
do not include a special anti-abuse rule aimed at changes in accounting
methods.
4.5 Banks, securities dealers, section 989 losses
The regulations add
taxpayer-favorable de minimis rules providing that if a small percentage
of a group’s activities include banking and securities dealer activities the
lower, 2 percent base erosion threshold applicable to banks will not apply.
Instead, the
general 3 percent threshold applies making it less likely that the group will
be subject to BEAT. The de minimus rule applies when the group’s gross receipts
from banking or securities dealer activities are 2 percent or less of total
receipts.
The regulations
clarify that that term “securities dealers” does not include brokers, as some
taxpayers had feared. The government decided to define the term by looking to
securities law.
The government,
after a lot of thought, decided to apply a neutral rule for section 988 losses,
noting that such payments can be very common. These losses are not treated as
base erosion payments and are also excluded from the denominator when computing
the base erosion percentage.
Note: The reader may visit the websites of the Revenue Authorities of
the concerned Tax Jurisdictions and download various draft reports / Tax
Legislations etc. referred to in this article for his study before rendering
any tax advice or undertaking any further action. If required, the taxpayers
and their tax advisors may consult tax specialists in the aforesaid tax
jurisdictions.
