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TII EDIT
BEPS vs Certainty
By D P Sengupta
Oct 24, 2017

THE BEPS project is now almost 4 years old. It started with a report in February 2013 prepared by the OECD and raised a lot of hope around the world. But from the beginning, it meant different things to different countries or groups of countries. Naturally there were conflicts of interest and politics took over. As it so happened, it was mostly the American companies that were facing the ire of the European taxpayers who found their liberal social security and other benefits being cut by the States, while at the same time allowing or not challenging the very light taxation of these MNCs because of the current rules framed by the OECD itself.

Most of the OECD action points on BEPS were so designed as to prevent only the worst form of profit shifting that these firms were indulging into. In other words, where instead of paying taxes in their home countries, companies were parking profits in tax havens, there was broad consensus that the same should be prevented. But even in the process of implementing the same broad objective, it was obvious that some changes in the rules of the game designed exclusively by the western powers themselves had to be changed. And that created problems. From the beginning, the USA whose multinationals play and benefit from the system, was a rather reluctant participant. It wanted its multinationals not to park their profits in the tax havens, yet at the same time, it would not allow anybody else to touch the same. Within the USA, there was intense difference of opinion and there were some who thought that their companies were rendering heroic service to the nation and should not be criticized. These critics were right to an extent in that within the existing rules that were designed for them, what these companies were doing were indeed legal.

Developing countries that had no say in designing the international tax system and who faced base erosion day in and day out, were deeply dissatisfied. It must be said in favour of the BEPS project that it actually made the developing countries aware of the issues at least. In the end, as it happens in all negotiations, there was a patchwork of solutions that the OECD came up with and which was endorsed by G-20 that now includes some developing countries including India. In the BEPS project, it seems that the developing countries took the view that even though the final outcome of the project was not to their satisfaction, it was still a better outcome and therefore they agreed to take part in the implementation of the same.

In the meantime, politics was being played in another area. Developing countries are not members of the OECD. They have always wanted a separate forum that will be more neutral than the OECD in devising an intentional taxation order that will safeguard their interests. They therefore preferred the United Nations committee of experts to be the focal organisation. The stark fact however is- even the UN is mostly funded by the developed countries. Therefore, the concerted move of the various non-governmental organisations and some of the non-OECD developing countries, were aborted by the developed world.

In such circumstances, the recommendations of the OECD had to be implemented. The OECD had already proposed the idea of putting in place a multilateral agreement to swiftly implement the final BEPS recommendations. This is the famous multilateral legal instrument (MLI). Having decided on this course of action, the OECD then decided to constitute an inclusive framework (IF) comprising all the countries that wanted to participate to design the instrument. Since then, the OECD never tires of mentioning that all the more than 100 member countries are participating in its project on ‘an equal footing' thereby trying to give more legitimacy to the outcomes. The MLI has some minimum standards that countries will have to adopt if they want to participate in the MLI and there are some optional articles that countries are allowed to opt out of. There is also the provision regarding arbitration that will apply only if a country specifically opts in for the same.

The USA was not enthused by even the modest outcome of the BEPS package. It initially refused to even participate in the development of the multilateral instrument on the plea that it did not have sufficient manpower. Although it finally participated but it probably played the spoil sport. This is not unusual considering the US aversion to multilateralism. Therefore, it is probable that the US scuttled the moves by others and restricted the minimum standards especially keeping out any action on the digital economy. As for the minimum standard of prevention of treaty abuse, which is touted as one of the big achievements of the BEPS project, the US officials said that the MLI does not offer anything new and that many of its provisions are variants on treaty policies that the US has been implementing for decades and therefore there was no need for the USA to join the MLI.

An interesting insight into the working of the USA can be gathered from a fire side chat that took place in Vienna between Jeffrey Owens, the former head of the OECD's CTPA and Robert Stack, the former deputy assistant secretary for international tax affairs, who was leading the US BEPS talk delegation.

"(…) When we got to the OECD, though, and we noticed that in areas like, let's take the digital economy, we became somewhat aggressive and protective. I used to joke that because the OECD's a consensus organization and because really, I kept begging countries around the world to point to their digital companies that might have to pay more tax in more places or face more uncertainty because of this work, no one could ever do it. And so it seemed that a lot of digital work was aimed at US companies, and we simply were being very practical and didn't want to see the digital work become a way to take away from the U.S tax base."

And further "(…) I agree that, right now under our tax system, a lot of money is trapped in tax havens. No doubt about it. And that is the tax reform we need to do, but it's not necessarily the case that you need to pull that income into countries where digital companies have markets. And let me give you a practical reason why. It's easy to find the revenue that a digital company might get out of a jurisdiction. It's really hard to think about how to allocate the deductions and the expenses around the world to that income. (…)" [Source: The view from Vienna- Tax Notes International, August 14, 2017]

Nevertheless, it is this MLI that 69 countries signed with much fanfare on the 6th of June at Paris. Now, countries and jurisdictions that have signed up are expected to implement the same. As mentioned earlier, the IF was set up in January, 2016 to take charge of determining the standards on BEPS related issues and review and monitor the implementation thereof. The IF will be in charge of the BEPS related actions instead of the OECD committee on fiscal affairs. However, participation in the framework does not come free. Countries are expected to pay a fee of 20,000 Euros (subject to annual adjustment for inflation) to the OECD. ( Source: Flyer on Inclusive Framework released by OECD)

There is also a steering committee consisting of 22 countries that include representatives from India, Brazil, South Africa, China, Senegal, Jamaica, Nigeria, and Singapore. The other members are all from the OECD countries (minus the all-important USA). The IF as a group is supposed to meet at least twice a year and the steering group would meet thrice a year. Apparently the decisions are taken on what is known as consensus-1 basis. In other words, a lone country cannot block a proposal.

While how effective is the participation of the developing countries in the IF is a separate issue, there is another development that is closely related to the BEPS project and may end up diluting some of the proposals of the BEPS project itself. This time it is in the name of certainty.

In 2016, under the Chinese presidency, the OECD also came up with another project called the tax certainty project that may undermine the positions of developing countries in subtle ways. The effectiveness of the tax certainty project will be evaluated by the OECD and the IMF. (Tax Notes International, June 12, 2017).The relevant G-20 leader's communique stated: "We emphasize the effectiveness of tax policy tools in supply-side structural reform for promoting… the benefits of tax certainty to promote investment and trade and ask the OECD and IMF to continue working on… tax certainty."

Accordingly, in March 2017, the OECD/IMF released a report on tax certainty. My impression in going through the report is that it is rather anodyne and one is tempted to ask why it was necessary to embark on this project. The project was for G-20 and OECD and now a workshop is also proposed to be held to discuss the issue of tax certainty in developing countries in Tanzania from 25-27 October.

That tax certainty is a desirable objective for increased investment seems obvious even though the existing theoretical literature on the subject finds that the impact of uncertainty in taxation on investment is unclear. It is even mentioned that ‘ it is easy to construct examples in which, for a given level of expected revenue, uncertainty in taxation leads to higher investment.'

The real reason seems to be the realisation that a climate of mistrust has been created between society at large and multinational enterprises arising out of allegations of large scale tax avoidance leading to a combative environment between the wider public, business and governments over tax policy and implementation. (Source: www.G20-insights.org). This has obvious implications for the BEPS project.

The IMF/OECD report based on a survey, highlighted the following findings

• The tax system is an important factor influencing investment and location decisions, but it is not the only or the most important factor.

• Uncertainty around corporate income tax and VAT is considered by more than 50% of survey respondents to be very or extremely important in affecting investment and location decisions. The sources of uncertainty are diverse, from tax policy and tax administration issues through to taxpayer behaviour.

• Issues in connection with tax administration (including inconsistent and unpredictable implementation and administration of the tax law) and international taxation (such as ineffective dispute resolution mechanisms to resolve issues of double taxation and inconsistent approaches to the application of international tax standards) appear to be among the major drivers of uncertainty. (http://www.oecd.org/ctp/oecd-secretary-general-tax-report-g20-leaders-july-2017.pdf)

Based on the perception survey and analysis done by OECD/IMF, the report recommends the following

• Reducing complexity and improving clarity through improved tax policy design.

• Improving tax dispute prevention and resolution, at the domestic and international level, through mechanisms which are fair and independent, accessible to taxpayers and provide timely resolution.

• At the international level specifically, improvements to dispute resolution mechanisms including both Mutual Agreement Procedures and arbitration.

• Application of other, innovative tools to enhance certainty in tax administration, including cooperative compliance programmes, advance pricing agreements, as well as simultaneous and joint audits.

The recommendations are apparently harmless unless one carefully examines the proposals. Some interests are hell bent on pushing the agenda of mandatory binding arbitration that has been resoundingly rejected by the developing countries in the BEPS project and at the UN. Yet, there is a persistence in coming back to the same. There is also an attempt at homogenising the transfer pricing and aspects relating to PE taxation. These are all issues that are important for the developing countries and should not be pushed through the backdoor in the name of tax certainty.

A few aspects about the survey itself are worth noting. The OECD conducted a business survey on tax certainty in late 2016. 724 companies headquartered in 62 different countries/jurisdictions submitted a response, and most of the respondents were senior tax specialists.

Even then it is interesting to note that according to the respondents, tax issues do not occupy the first place in the matter of investment decisions. The five most important factors identified, in order of highest importance, were: (i) corruption; (ii) political certainty; (iii) the overall tax environment; (iv) current and expected macroeconomic conditions in the country; and (v) labour costs. The report mentions that the overall tax environment was ranked as the third most significant factor perhaps because the survey was promoted as a survey on taxation and was targeted at tax specialists.

Within tax, uncertainty in the Corporation tax and the VAT systems was reported by businesses as having an important influence on the investment and location decisions. Issues associated with tax treaties also appear to be an important factor affecting tax certainty, especially for multinationals. According to businesses, issues related to tax administration were ranked as among the major drivers of uncertainty in tax systems. The main sources included bureaucracy to comply with the tax legislation. Concerns over the inconsistent approaches of different tax authorities towards the application of international tax standards ranked high. Issues associated with dispute resolution mechanisms, including timescales, were also identified as an important driver of uncertainty. The respondents also highlighted concerns about lengthy decision making of the courts.

In January, 2017, the OECD had also conducted a survey amongst tax administrators on tax certainty under the aegis of its Forum on Tax Administrations (FTA). Not unsurprisingly, the tax administrators, while admitting the concerns relating to tax uncertainty, did not consider issues relating to tax administration as that important from the perspective of certainty. They identified taxpayer behaviour as an important source of uncertainty, in particular as a result of aggressive tax planning and a lack of cooperation. The tax administrations also highlighted complexity in legislation, lengthy court procedures, unclear drafting and frequency of legislative changes, as important factors.

The report mentions that a key area of agreement in the two surveys is that legislative and tax policy design issues are a major source of tax uncertainty, mainly through complex and poorly drafted tax legislation and the frequency of legislative changes. According to the report, there was however strong agreement between businesses and tax administrations on the most effective tools to help reduce tax uncertainty. Both assigned high importance to addressing perceived weaknesses in tax policy design and legislation. The highest scores were given to detailed guidance in tax regulations; announcement of changes to tax legislation in advance; reduced frequency of changes to tax legislation; bringing domestic tax legislation into line with international tax standards; and effective withholding tax relief and reclaim systems.

The OECD/IMF report also makes references to another survey done by Michael Devereux of the Oxford University Centre for Business Taxations-Measuring Corporation tax uncertainties across countries: Evidence from a cross-country survey (April, 2016). Although unconnected with the IMF/OECD report per se, it is important to take note of this study for reasons that will become obvious.

According to Professor Devereux, the survey was undertaken between January and March 2016. 88 respondents answered questions about 25 countries. The respondents were from businesses in 10 different countries. According to the paper, the summary of the result was as follows:

"Of 21 countries analysed, BRIC countries take up 4 of the top 5 places in respondents' assessments of the extent of corporation tax uncertainty.

• In the last 5 years, corporation tax uncertainty has increased in 20 out of 21 countries analysed.

• Overall, respondents ranked corporation tax uncertainty third in a list of factors influencing business investment and location decisions.

• In the experience of respondents, BRIC countries take up the top 4 places in frequency with which corporation tax uncertainty has had a serious impact on business decisions.

• The single most important factor in determining uncertainty is "unpredictable or inconsistent treatment by tax authority".

The author chose the following questions for responses from businesses.- Unpredictable or inconsistent treatment by tax authority; Retroactive changes to legislation; Frequent changes in the statutory tax system; Complexity in the tax code; Poor understanding of tax code by tax authority; Inability to achieve clarity retroactively in case of dispute including, but not limited to, MAP Unpredictable or inconsistent treatment by the courts; Inability to achieve clarity pro-actively through rulings; Poor general relationship with tax authority; Non-adoption of the OECD guidelines on transfer pricing; Corruption.

Without undermining the importance of the questions, it is interesting to note that not a single response was from anyone in India. Yet not unsurprisingly, India ranked as no 1 in the matter of uncertainty of corporation tax according to Devereux. In fact, all the top five positions are held by non-OECD countries with Brazil in no 2, Russia at no 3, Indonesia at no 4 and China at No 5. Then comes the first OECD country- Italy at No 6. The least uncertain is of course Switzerland, the darling of the multinationals followed by the Netherlands, Japan, Germany, UK, Canada etc. Brazil does not follow the OECD guidelines on transfer pricing and OECD has been trying hard to force Brazil to change its position in this regard, without any success so far. It is obvious that if everybody followed the OECD model, its commentaries and guidelines, there would be less uncertainty and one does not need to go through any complex exercise to arrive at that conclusion. The problem is that OECD does not represent the interests of the developing countries, even now. BRICS members and India, in particular need to pay close attention to this project and ensure that certainty does not become a bogeyman for not implementing the salutary recommendations of the BEPS and for forcing down the throat of unwilling countries steps like compulsory binding arbitration.

 
 
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