Who s going to fail the beneficial ownership test?

Transcription

1 Who s going to fail the beneficial ownership test? Tax Flash Report Russia Issue No. 11, 2014 No. 1 in Russia was named Russian Transfer Pricing Firm of the Year by International Tax Review magazine, 2013

2 Who s going to fail the beneficial ownership test? What's new? On 9 April, in a Russian Ministry of Finance (MinFin) letter, 1 Deputy Finance Minister Sergei Shatalov clarified how to approach the issue of beneficial ownership of income for tax purposes. In general, the letter reiterates the MinFin's previously outlined conceptual approach that a beneficial owner is the individual/entity who determines the further economic destiny of income received. 2 But now, six years later, the MinFin has provided a more detailed explanation, even pointing to concrete scenarios where beneficial ownership terms are not met, thus precluding the application of Double Tax Treaty (DTT) benefits. Examples of conduit transactions cited by the Russian MinFin: a resident of one DTT contracting state that earns dividends from sources in Russia is obligated to another party, which is a resident of another country that has no DTT with Russia (or a country that is party to a DTT with less beneficial tax treatment of dividends), to transfer the entire, or almost the entire, amount of dividends to this other party directly or through an intermediary; a resident of one DTT contracting state that earns interest on a loan provided to a Russian taxpayer, transfers the entire, or almost the entire, interest amount to another party, who is a resident of another country that has no DTT with Russia (or a country that is party to a DTT with less beneficial tax treatment of interest), because the first-mentioned foreign resident, which provided the funds as a loan to the Russian taxpayer, obtained these funds from the second-mentioned party who is a resident of a third foreign country; a resident of one DTT contracting state, which earns royalties from sources in Russia under a sub-license agreement, transfers the entire, or almost the entire, royalty amount to a party who is a resident of another country that has no DTT with Russia (or a country that is party to a DTT with a less beneficial tax regime), under a license agreement between the first-mentioned foreign resident and the second-mentioned resident of a third foreign country, which holds an exclusive copyright to the relevant intellectual property. Regarding the scenarios cited by the MinFin, we should point out the following: The Finance Ministry stated that conduit transactions are not limited to the scenarios provided in the letter. This means that the range of situations where the status of a beneficial owner could be challenged extends beyond the three scenarios cited above. So, even if your specific situation does not formally match those scenarios cited by the MinFin, this does not guarantee you 100% safety, although it may reduce the actual level of risk that you could be charged with additional taxes. On the other hand, in some not tax-driven situations, the parties could fall under the MinFin scenarios. In this regard, we would like to obtain more in-depth clarifications, particularly regarding the first scenario involving dividend transfers. Does this approach apply to multi-level holding structures, SPV structures, and other situations?; should the obligation for subsequent transfer be documented, and if so how?; etc. [1] Russian Ministry of Finance Letter No Р3/16236 of 9 April 2014 [2] Letter No of 15 October

3 The OECD s position The OECD, whose position the MinFin cites, has for several years already been attempting to formulate approaches to beneficial ownership for the purposes of applying Articles 10, 11 and 12 of the Model Tax Convention. But, so far, they have not succeeded and no formulations have yet been finalised. This speaks to the complexity of the issue and the huge responsibility involved in drafting such approaches. A draft document covering this issue is available on the OECD's official website. 3 Overall, the idea is quite simple: a beneficial owner is the person who has the full right to use and enjoy the relevant income. The MinFin also relies on this concept as a reference point. What does this mean for you? We get the impression that no definition of beneficial owner will be included in the Russian Tax Code for the foreseeable future, at least not simultaneously with the CFC rules [5]. According to the MinFin, the main test of beneficial ownership entails testing for transfer (directly or indirectly) of almost the entire income amount (at any time and in any form) to another party, who would not enjoy any tax benefits if it had received the payment directly (because it is incorporated in a country with no DTT with Russia). In this context, however, note that the tax authorities are already establishing the practice of challenging the applicability of DTT benefits based on the transitional nature of a payment made from Russia to a low-tax jurisdiction as the end-point. Thus far, however, the courts have been finding in favour of Russian tax agents (for example, see Ninth Arbitrazh Appellate Court Resolution No. 09АП /2012-АК of 5 December 2012 in the matter of Eastern Value Partners Limited). The MinFin letter does not specify the thresholds/safe harbors (i.e. which portion of income and in which time interval may be transferred without jeopardising beneficial ownership status). Accordingly, these issues will most likely be resolved through court practice. In this context, the specific facts and circumstances attesting to the transitional nature of a payment will play a key role. Also, as the MinFin has proposed, the functions performed and risks borne by the relevant income recipient will be assessed. The MinFin has also cited Resolution No. 57 of the Supreme Arbitrazh Court (SAC) Plenum, which holds the tax agent liable for the proper withholding of taxes. In other words, in addition to fines and penalties the tax agent may also have to pay the relevant tax amount. This situation can be summed up by a variation on the old proverb: measure three times, but pay only once. The problem, however, is that no one yet has a clear understanding of how to measure. What steps should a tax agent, which makes payments to a third party, take to prove its due diligence? At this stage, there is no clear understanding about the potential introduction of the institution of preliminary agreements with the tax authorities, which would protect bona fide tax agents from being charged with additional tax. [3] [4] [5] We have already reported in our March Tax Flash on the bill for introducing CFC rules in Russian tax law. In this regard, we would like to stress the following. The CFC rules are focused on changing how businesses behave and motivate them to regularly distribute accumulated profits through, among other means, multi-levelled ownership chains leading to a Russian owner. At the same time, if the lower-level links in the chain are also located in Russia, the distribution over a short period of time of comparable amounts up the chain could trigger discussions about beneficial ownership. Accordingly, the fiscal authorities will have to ease their beneficial ownership evaluation efforts if, from the government's point of view, it is more important to direct the stream of taxable dividends back to Russia (which the CFC rules are designed to do). 3

4 Group Contacts TLS Financial Services Ekaterina Lazorina Partner, TLS Leader, Russia Vladimir Burov TLS Consumer and Industrial Products and Services (CIPS) David John Managing Partner, TLS, Central and Eastern Europe Enrika Schevchenko Irina Martakova Natalia Kozlova Natalia Sherbakova (St Petersburg) TLS Communications, Technology, Entertainment and Media (TICE) Natalia Vozianova Energy, Utilities and Mining Denis Gorin Alexei Smirnov Ekaterina Malygina Stefano Tonetti Private Company Services Alina Lavrentieva Mergers & Acquisitions Tax Services Artem Petrukhin Galina Naumenko Ekaterina Koropova International Tax Structuring Natalia Kuznetsova Mikhail Filinov

5 Group Contacts Transfer Pricing Services Svetlana Stroykova Andrey Kolchin Tax Function Effectiveness Kirill Nikitin Partner, Indirect Tax and Customs Services Vladimir Konstantinov Human Resources and International Assignment Services Karina Khudenko Legal Services Yana Zoloeva Legal Practice Leader Maxim Kandyba Yana Proskurina HR Consulting Services Taxation Methodology Ruxandra Stoian Valeria Efremova Senior Tax Manager, Russia Professor, Taxation Department, Plekhanov Russian University of Economics 2014 PricewaterhouseCoopers Russia B.V. All rights reserved. and PricewaterhouseCoopers refer to PricewaterhouseCoopers Russia B.V. or, as the context requires, other member firms of PricewaterhouseCoopers International Limited, each of which is a separate legal entity The information contained in this flash report does not constitute professional advice. is not responsible for any damages that may be incurred by any parties if their actions or failure to act were based on their reading of this flash report. For assistance with specific questions, we advise that you contact a professional in the relevant line of service.