IBFD 1st AFRICA TAX SYMPOSIUM

Transcription

1 IBFD 1st AFRICA TAX SYMPOSIUM A CRITCAL ANALYSIS OF WHAT AFRICA S RESPONSE SHOULD BE TO THE OECD BEPS ACTION PLAN Prof Annet W Oguttu University of South Africa

2 INTRODUCTION BEPS: Tax avoidance by multinational enterprises that makes use of gaps in the interaction of different tax systems to artificially reduce taxable income or shift profits to low-tax jurisdictions in which little or no economic activity is performed 2013 OECD 15 Point Action Plan - to ensure profits are taxed where economic activities generating the profits are performed & where value is created. BEPS arises because: International corporate tax framework not kept pace with changing business environment Old business models - lower degree of economic integration across borders Modern business models - Global taxpayers; MNE value drivers - IP; information & communication technologies Result - encourages tax avoidance by MNE - to minimise global tax exposure Exploitation of legal arbitrage opportunities & boundaries of acceptable tax planning; Exploiting gaps in interaction of different tax systems - artificial reduction of taxable income Shifting profits to low-tax jurisdictions where little or no economic activity is performed Businesses integrate across borders - tax rules remain uncoordinated - technically legal structures devised to take advantage of asymmetries in domestic & international tax rules What is at stake is the corporate income tax (CIT) CIT among OECD countries not high - average about 10% of total tax revenues CIT important source of revenue in Africa - average 29% - revenue from individuals & consumption taxes limited African countries have more at stake in an effective international tax system - their development depends on it

3 BEPS IN AFRICA Concerns about BEPS are not new in Africa For decades: Money has been shifted from developing to developed countries & tax haven jurisdictions There are some MNE whose business transactions in Africa are generally straight, but there is circumstantial evidence that some are involved in aggressive tax avoidance: E.g. Action Aid report exposing tax dodged by SABMiller in Africa Global Financial Integrity estimates amounts shifted out of Africa and provides a proxy for BEPS behaviour by equating BEPS to illicit finical flows o the tide of tax and illicit capital flight from African economies is estimated between $50billion and $80 billion per annum and in some cases revenue lost exceeds the level of aid received by developing countries OECD failed to acknowledge that its member nations have benefited from and had dealings with tax havens & lent them credibility There was no political will to deal with the tax haven problem Rise of political begun: In the wake of the global financial crisis Propelled by media reports engineered by non-governmental claiming that MNEs holding money in tax haven & not paying their fair share of taxes Response: In 2013, the OECD at behest of G20 issued a 15 point BEPS Action Plan

4 WHAT SHOULD AFRICA S RESPONSE BE TO THE OECD BEPS ACTION PLAN? Although OECD BEPS Action Plan may have been well-intentioned, its been criticised: Not drawn up jointly with developing countries - does not address their immediate BEPS concerns Agenda driven by the concerns of developed countries OECD only engaged with developing countries after BEPS agenda was drafted & closed The regional consultations have only served as orientations to a pre-existing plan Most Action Plans will likely benefit developing countries in the long term with economic & administrative advance 2 year time scale, does not consider administrative, economic & systemic challenges faced by African countries It does not explore certain practical measures more suitable for African countries in addressing BEPS How should Africa respond be to the OECD BEPS Action Plan? No African country is a member of the OECD - not bound to follow the OECD recommendations OECD s primary focus - member countries but its additional goals of contributing to the expansion of world trade & development of the world economy, affect non-members as well BEPS is a global challenge - requires global solutions All countries have a shared interest in strengthening the integrity of the international tax system

5 WHAT SHOULD AFRICA S RESPONSE BE TO THE OECD BEPS ACTION PLAN? Address the critical issues that exacerbate BEPS in Africa Most African countries tax laws not sufficiently developed to counter BEPS Historically, most African countries didn t encouraged investment aboard - enforced strict exchange controls Economic growth policy: domestically owned firms to produce goods & services for domestic consumption Tax systems prioritised domestic taxation residents - development of international tax laws lagged behind Globalisation African countries can no longer isolate their tax systems Large resource bases exploited by foreign investors Foreign investors: Africa is the new frontier of the global economy OECD: Africa is the new emerging markets investment frontier MNE management structures: from country-specific operating models to global models Need for international tax laws to address BEPS DTA negotiation dynamics - DTA an important aspect of international tax laws Few DTAs signed - some political gestures - no significant capital flows Historically - views that DTA not needed - result in giving up taxing rights/bondage to restrictive DTA provisions Change - acknowledgments that DTAs facilitate capital inflows - increasing DTA net work Challenge - in absence of countering measures abuse of DTAs - BEPS Cause: Signing treaty provisions not in country s favour - developed countries better skilled in negotiating tax treaties Lack of administrative capacity to negotiate tax treaties in Africa Weak DTA negotiation teams - reflecting strong position of the other state DTA can t impose tax if income is not subject to tax under domestic legislation However tax laws of most African not sufficiently developed to prevent BEPS

6 WHAT SHOULD AFRICA S RESPONSE BE TO THE OECD BEPS ACTION PLAN? Address the critical issues that exacerbate BEPS in Africa continued: Limited tax administrative capacity Hampers ability to implement & gain full benefits of international tax reforms Note: Levels of economic development & administrative capacity in Africa vary To curtail BEPS - re-vamp administrative capacity measures required: Competent tax officials who can understand & administer complex international tax laws Continuous training on international developments Ability to hire & retain specialised tax officials - accountants, lawyers & economists Expert retention policy payment of salaries comparable to those in private sector Technical expertise to carry out tax audits Electronic & technological advancement of tax systems - AEOI Integrity of tax official enhances collections - large discretion powers encourage corruption Note: A number of countries are introducing reform programs: o Ethiopia - enhancing capacity of revenue authority, central to public sector reform o Cameroon 2004 administrative reforms; 2007 Fiscal Reform Commission o Tanzania - reforms to strengthen tax administration, & address corruption

7 WHAT SHOULD AFRICA S RESPONSE BE TO THE OECD BEPS ACTION PLAN? African countries should not be passive to the OECD BEPS Action Plan They should take advantage of: Current international political will to address long standing BEPS concerns MNEs have pulled back on aggressive tax avoidance - reputational risks International initiatives to capacitate developing countries tax systems UN: Participates in OECD work provides insight into developing country concerns UN Questionnaire on priority BEPS concerns (in Africa, reposes from Zambia & SA) OECD: committed to reinforce support to developing country revenue authorities - Tax Inspectors without Borders initiative G20: helping developing countries build administrative capacity & effective tax systems to reap full benefits of international tax reforms Development of tax laws & administrative capacity varies in Africa case by case assessments G20 Development Working Group on BEPS: involved with tax & economic organisations - ATAF (advisory and in- kind support) G20 initiatives e.g. in Tanzania, Kenya, Uganda, Rwanda, Ethiopia capacity development - shaping the fundamental building blocks of tax policy and administration Voluntary availing of tax policy and administration experts - based on resource needs Important initiatives needed in Africa: Regular & proactive engagement on BEPS under regional organisations to ensure their views are taken into account in the design and implementation of reforms Change of attitude from views of being instruction takers not decision makers Raise awareness of the significance of BEPS issues at political levels - with Ministries of Finance and other relevant Ministries

8 WHAT SHOULD AFRICA S RESPONSE BE TO THE OECD BEPS ACTION PLAN? Examples of proactive initiatives to address BEPS in Africa should be associated with or emulated Regional initiatives: ATAF - promotes & facilitates mutual cooperation among African tax administrators 2014 conference on the Global Tax Agenda for Heads of African Tax Administrations and Ministries of Finance Participants from 29 African countries and OECD officials Conference Outcomes Document: o need to improve administrative capacity, broaden the tax base, and increase tax revenue as a proportion of GDP o development of rules for global taxation should address the concerns of all countries o African countries should be involved in the BEPS process - shape the issues in the 15 Action Points in this project to address Africa s concerns o Formation of Cross Border Taxation Technical Committee - to provide guidance on an African BEPS approach and give input into the OECD BEPS process April 2015 conference on Cross Border Taxation in Africa Focused on an African position on BEPS Action points Collaboration with OECD & G20 in advocating African countries BEPS interests African countries should draw on the expertise & representative nature of ATAF Initiatives at national level: Measures in Tanzania, Kenya, Uganda, Rwanda, Ethiopia collaborating in G20 capacity building projects South Africa - Davis tax committee appointed by Minister of Finance in 2013 In December 2014, the DTC released its first Interim Report for public comment South Africa is a member of the G20 and a member of the OECD BEPS Committee. Although SA s above memberships is not representative of African countries, as a major African power it ought to champions the cause of Africa in the OECD BEPS committee, and convey Africa s views at G20

9 RESPONDING TO OECD BEPS ACTION PLAN FROM AN AFRICAN PERSPECTIVE BEPS Action Plans: Pertinent issues from an African perspective can be divided into three categories: BEPS Action Plans that are of priority in Africa BEPS Actions Plans that are not of high priority in Africa BEPS concerns relevant to African but not covered in the OECD Initiative Even though BEPS is a global concern: Nature of BEPS concerns not uniform for all countries BEPS concerns developed countries face, not necessarily the same for developing countries BEPS schemes that undermine European/American tax base often don t work in African paradigm The G20 Development Working Group states: Due to economic & administrative challenges of developing countries, their highest priority Action Plans are: Actions 4, 6, 7, 10, 12 & 13 - discussed below

10 BEPS ACTION PLANS THAT ARE A PRIORITY IN AFRICA Action Plan 4: Limit Base Erosion via Interest Deductions and Other Financial Payments Excessive deductions of interest by MNEs a major BEPS concern in Africa Thin capitalisation schemes - Co. equity capital small in comparison to debt capital Interest on loan capital is a deductible expense: in computing taxable Dividends distributed from equity capital not deductible - distributions of profits - taxed MNE ensure subsidiaries financed with increased levels of debt as compared to equity OECD: Use arm s length principle to curb thin capitalisation If loan exceeds arm s length lending situation, lender taken to have an interest in profitability of the enterprise and the loan Interest rate in excess of the arm s length amount, is taken to have been designed to procure a share in the profits African countries should put in place provisions to prevent base erosion via interest deductions Thin capitalisation provisions The challenges of applying the arm s principle to TP also apply to thin capitalisation

11 BEPS ACTION PLANS THAT ARE A PRIORITY IN AFRICA CONT. Action Plan 6: Prevent Treaty Abuse Entails treaty shopping - use of DTT by the residents of non-treaty country to obtain treaty benefits not supposed to be available to them Done by interposing conduit company in one of contracting states to shift profits out of those states Action Plan 6 deals with 2 cases: Circumvention of domestic tax law to gain treaty benefits - apply domestic anti-abuse rules Circumvention of limitations in DTA - apply treaty anti-abuse rules - OECD three-pronged approach: Title & preamble of DTAs - DTA not intended to create opportunities for non-taxation or reduced taxation through treaty shopping Inclusion of a specific limitation-of-benefits provisions (LOB rule) Principle purpose test (PPT rules) - treaty abuse not be covered by LOB rule Treaty shopping has not received much attention in many African countries Uganda: Sec 88(5) of Income Tax Act (Cap. 340, as amended) In treaty negotiations use of conduits for tax avoidance not taken full account of African tax officials deal with MNE treaty shopping - companies registered in Mauritius under Global Business Licenses 1; companies in Netherlands or Switzerland as means of disposing of assets in offshore jurisdictions African countries should strengthen their treaty negotiating capacity Research on potential treaty partner Complex USA type LOB provision not feasible for African countries

12 BEPS ACTION PLANS THAT ARE A PRIORITY IN AFRICA CONT. Action Plan 7: Prevent the Artificial Avoidance of PE Status PE concept - crucial element of DTAs article 5 Fixed place of business through which enterprise's business is wholly or partly carried out Special rules for building & constructions cites Deemed PE - dependent agents Exclusions: preparatory & auxiliary activities Basic nexus to determine if country can tax business profits of foreign enterprise Foreign enterprises should create significant & substantial economic presence Article 7(1) - only profits attributable to PE taxed by source state Challenges of applying PE concept MNE can artificially fragment operations among multiple group entities to qualify for PE exclusions Manipulation of PE time limits Non-residents service activities consultants/engineers allege services of temporary nature Exclusions art 5(4)(f) - any combination of activities - creates nexus that is not preparatory or auxiliary Challenges posed by digital economy The PE issue concerning for developing countries Base erosion if foreign investors avoid PE status Yet its not in the interest of developed countries to expand PE concept African countries should sign article 5 based on UN MTC: Art 5(3)(a): building site, construction, installation projects extends to assembly projects or supervisory activities in connection therewith time limit 6 month unlike 12 month in OECD MTC Art 5(3)(b): PE rule for furnishing of services - consultancy services through employees or other personnel engaged by the enterprise - activities must continue (for the same or a connected project) > 183 days in 12-months Art 5(5)(b): Dependent agent includes the maintenance of a Stock of goods or merchandise belonging to the enterprise from which he regularly delivers goods or merchandise on behalf of the enterprise.

13 BEPS ACTION PLANS THAT ARE A PRIORITY IN AFRICA CONT. Action Plan 10: Assure that transfer pricing outcomes are in line with value creation/other high-risk transactions BEPS Action 8, 9 & 10 require TP out comes to in line with value creation Meaning of TP: Manipulation of prices of transactions between connected entities to reduce profits or increase profits artificially To prevent TP, OECD recommends ALP When conditions between two associated enterprises in their commercial/financial relations differ from those between independent enterprises, any profits which would have accrued, but haven t because of those conditions, may be included in the profits of the enterprises and taxed OECD: Although ALP effectively & efficiently allocates income of MNE, in some instances MNE misapply the rules to separate income from economic activities that produce income & shift it low-tax jurisdictions Value creation TP priority concern for African countries: Action 10 - other high-risk transactions Action 10 requires countries to adopting TP rules that: clarify the circumstances in which transactions can be re-characterised clarify the application of transfer pricing methods, in particular profit splits, in the context of global value chains provide protection against common types of base eroding payments, such as management fees and head office expenses. o These factors are analysed below from an African perspective

14 BEPS ACTION PLANS THAT ARE A PRIORITY IN AFRICA: ACTION PLAN 10 CONT. Clarify the circumstances under which transactions can be re-characterised African countries' concern preserving tax on foreign dividends distributed by local subsidiary to parent company If subsidiary funded by equity capital, dividends not deductible: if by loan capital interest - deductible Companies often characterise dividends as interest To address potential for BEPS, African countries should: Deny/limit interest deductions if the payee has no global taxable income. Rebalance the profit so the profit arises where the true economic substance lies Levy withholding tax on dividends at the shareholder level, in treaty context, tax is reduce to 5 or 10 percent% - African countries to limit the application of treaties Clarify application of TP methods, in particular profit splits, in global value chains Although some African countries have transfer pricing legislation Applying OECD Transfer Pricing Guidelines is challenging for African countries Difficult to find African comparables - few organised companies in any given sector; no African databases European comparables used - these need to be adjusted to suit African market business. With challenges of applying ALP developing countries have placed emphasis on profit split methods

15 BEPS ACTION PLANS THAT ARE A PRIORITY IN AFRICA: ACTION PLAN 10 CONT. Provide protection against base eroding payments: Management fees MNE keep claiming deductions for various management, technical & service fees Little or no tax paid in source countries allegations of making losses year after year Profits shifted to low tax jurisdiction while taxes are minimized in source state Response treaties with articles on services, management & technical fees - deviating from OECD & UN MTC not addressed in OECD BEPS project Generally defined as payments of any kind to any person, other than an employee of the person making the payments, in consideration for any services of a managerial, technical or consultancy nature, rendered in a contracting state Fees may be taxed in resident state but also in source if beneficial owner is a resident of other state Fee not to exceed a certain percentage Examples: Royalty & service fees - Ghana s treaties with Germany & Netherlands; Technical fees Uganda s treaties with South Africa, Mauritius & UK; Management fees Ghana s treaties with Italy & Belgium; US-India treaty No standard way of drafting these articles - creates uncertainties OECD countries oppose such article prefer PE taxation under art 5 and 7 or fixed base UN MTC 2012: UN proposed new article on technical services - allows country to tax service provider even if no physical presence is created

16 BEPS ACTION PLANS THAT ARE A PRIORITY IN AFRICA: ACTION PLAN 10 CONT. Provide protection against base eroding payments: Head office expenses - attribution of profits to PEs Art 7(1) OECD MTC - Foreign enterprise only taxable in source state if PE created, only profits attributable to PE may be taxed Art 7(2) - OECD authorised approach for attributing profits to PEs Functionally separate entity - internal dealings of PE recognised without regard to the actual profits of the enterprise of which the PE is a part Allows deductions for notional internal payments that exceed expenses actually incurred Non-actual management expenses, notional interest & royalties from head office may be charged on the PE Notional payments for financial services on internal loans & derivatives involving PEs Differs from approach in UN MTC & 2008 version of OECD MTC Single entity approach - only actual income & expenses of PE allocated Developing countries very sceptical about adopting OECD approach MNEs often avoid PE taxes - claiming deductions of fees charged to headquarter office Disallowance of notional head office expenses should be maintained to preserve source tax bases

17 BEPS ACTION PLANS THAT ARE A PRIORITY IN AFRICA CONT. Action Plan 12: Require taxpayers to disclose their aggressive tax planning arrangements Comprehensive & relevant information on tax planning strategies often unavailable to tax administrations. Audits not sufficient for the early detection of aggressive tax planning techniques Action Plan 12 calls on countries to: require taxpayers to disclose their aggressive tax planning arrangements; improve information flow about tax risks to tax administrations and tax policy makers. develop mandatory disclosure rules for aggressive or abusive transactions, arrangements, or structures Ensure information sharing for international tax schemes between tax administrations. develop measures on co-operative compliance programmes between taxpayers & tax administrations Strengthening EOI will help African countries to identify offshore investments that should be subject to tax New standard: Automatic EOI could potentially lead to increased tax revenues Detecting: tax evasion & offshore wealth; strengthening compliance with domestic tax rules Challenges: balancing taking part in AEOI with other tax priorities Capacity to comply with the AEOI Concerns about reciprocity Solutions: G20 DWG working with OECD Global Forum to: identify obstacles to AEOI in developing countries and how to solve them Collaboration with ATAF to enhance & building awareness of AEOI reforms in Africa Disseminating tools & resources Getting feedback on implementation AEOI, e Ensuring Africa s views are taken into account in the design and implementation of reforms G20 pilot projects with African countries: participating as information exchange partners; providing technical advice, financial support & capacity building in understanding international tax reforms

18 BEPS ACTION PLANS THAT ARE A PRIORITY IN AFRICA CONT. Action Plan 13: Re-examine Transfer Pricing Documentation OECD: Asymmetry of information between taxpayers & tax administrations undermines administration of TP rules & enhances BEPS - Tax administrations don t have big picture view of MNE global value chain When OECD developed TP Guidelines in 1995, tax administrations & taxpayers had less experience in creating and using transfer pricing documentation Guidelines emphasised reasonableness & cooperation in the documentation process for taxpayers & tax administrations: avoid excessive documentation compliance burdens and ensure provision of adequate information to apply ALP reliably. No list of documents to include in TP documentation package Countries have adopted TP own documentation rules thus: increase in the volume & complexity of TP issues, compliance costs for taxpayers; TP documentation inadequate for tax enforcement & risk assessment In African countries Absence of documentation requirements; inability to enforce existing ones Lack of resource & technical capacity to process data & evaluate information Action Plan 13: Revision of Chapter V of TP Guidelines relating to TP documentation rules. The OECD recommends that countries should follow a three-tiered documentation structure consisting of: Master file: contains standardised information relevant for all MNE group members. Local file: referring specifically to material transactions of the local taxpayer. A country-by-country report: containing information relating to the global allocation of the MNE s income and taxes paid, together with certain indicators of the location of economic activity within the MNE group. Action 13 also covers compliance matters With enhanced tax administration capacity, African countries should be able to benefit from this three tired approach OECD: CbC report to be submitted by MNEs with annual consolidated group revenue in preceding fiscal year of 750 Concern: high reporting threshold would exclude many companies whose presence in smaller economies is significant The complex arrangements for filing could restrict dissemination to developing countries.

19 BEPS ACTION PLANS THAT ARE NOT A HIGH PRIORITY IN AFRICA Action 1: Address the tax challenges of the digital economy Taxing the digital is not an immediate concern Many African countries do not want to stifle the development of badly needed electronic advancement Most internet companies in Africa remain small and relatively unprofitable Africa yet to see the rise of local e-commerce businesses from aboard (e.g. Amazon) Action 2: Neutralise the effects of hybrid mismatch arrangements Most African countries don t have the relevant legislation in place Action 3: Strengthen controlled foreign companies rules South Africa only SADC country with comprehensive CFC rules - reasons for a country not having CFC rules Lack of strongly committed to the principle of capital export neutrality - resident taxpayers should pay the same tax on their domestic and their foreign source investment income. Amount of domestic tax avoided through the use of non-resident entities does not warrant additional administrative costs and complexity associated with such legislation Action 5: Counter harmful tax practices, taking into account transparency & substance African countries with tax regimes that could be harmful: Mauritius, Botswana, SA s head quarter company regime African countries interest is persevering competiveness of their economies to attract FDI Action 8: Assure transfer pricing outcomes are in line with value creation: intangibles Excessive royalties charges associated with IP don t a major concern in Africa Exchange Control provisions in many African countries provide some protection Action 9: Assure transfer pricing outcomes are in line with value creation: risks and capital Action 11: Establish methodologies to collect & analyse data on BEPS & the actions to address it

20 BEPS ACTION PLANS THAT ARE NOT A HIGH PRIORITY IN AFRICA CONT. Action Plan 14: Make Dispute Resolution Mechanisms More Effective Article 25 OECD MTC: Mutual Agreement Procedure, which contains an arbitration clause MAP is not very effective among many African countries Transfer pricing disputes are the most common subject for which MAPS Concerns about effectiveness of arbitration Action Plan 15: Develop a Multilateral Instrument Some solutions to BEPS require changes to DTAs DTA network & their number would make updating burdensome, time consuming & expensive Action 15 - explore feasibility of multilateral instrument effective as simultaneous renegotiation of thousands of DTAs Experience: Multilateral Convention on Administrative Assistance (OECD & Council of Europe) amended by a Protocol in 2010 and opened all countries In 2011, South Africa signed, but has not yet ratified the Multilateral Convention Many developing counties have not benefited from the experience administrative capacity needed before admission - similar concerns for OECD multilateral instrument Interests of developing may not be addressed in a multinational instrument. Currently two main MTC: OECD MTC favours capital exporting countries, UN MTC favours capital importing countries Concerns on how these diverging interests will be captured in a single multinational instrument Some African countries have signed regional multinational treaties: ATAF, SADC & EAC treaties Gauge effectiveness of regional treaties before joining worldwide multinational instrument Develop strong coordination and cooperation; share best practices; develop strong collective position on African interests to table for multinational instrument Heed caution by: IMF: developing countries should be cautious about tax treaties: OECD BEPS Action Plan 6 - OECD will identify the tax policy considerations that countries should consider before deciding to enter into a tax treaty with another country

21 BEPS CHALLENGES AFRICAN COUNTRIES FACE THAT ARE NOT ADDRESSED IN THE OECD ACTION PLAN Strengthen source taxation by enhancing withholding taxes (WHT) OECD BEPS Project: doesn t cover taxing rights between residence & source countries This a fundamental BEPS issue - harmful tax competition & race to the bottom An effective tax system requires the right basis for taxing income: Two main bases: Territorial (source) tax income derived from the territorial most developing countries - easier to administer Worldwide (residence) residents taxed on worldwide income most developed countries - administrative capacity to caste tax net worldwide Normally both bases applied in hybrid form - some countries lean towards territoriality, others towards residence Historically countries tax policies generally territorial but had international dimension Globalisation of trade shift to worldwide systems to preserve tax bases offshore investments To lessen global tax exposure, taxpayers employ global tax avoidance strategies Countries enact anti-avoidance legislation - taxpayers a step ahead - cycle Tax policy issue: Should countries resources be used to tax worldwide & prevent offshore tax avoidance; or should resources be used to effectively tax domestic income & encourage competiveness of domestic enterprises To remain competitive, reduce administrative costs, ensure simplicity - many developed countries (e.g. Japan & UK) have migrated to largely territorial systems 27 of 34 OECD countries employ some form of territoriality system - a pragmatic response to the practicalities in a world where competition is fast moving and truly global. African countries should place emphasis on strengthening source basis

22 BEPS CHALLENGES AFRICAN COUNTRIES FACE THAT ARE NOT ADDRESSED IN THE OECD ACTION PLAN CONT. Strengthen source taxation by enhancing withholding taxes (WHT) Practical way to enhance source taxation - not addressed in OECD Action Plan Impose WHT on interest, dividends & royalties paid to non-residents Alleviates difficulties in collecting tax from non-residents Resident appointed as non-resident s agent obliged to withhold % of tax from payments to non-resident Failure to comply - personal liability imposed on resident agent MNEs find WHT a major loss of revenue - flat rate on gross income DTAs can reduce WHT Treaty negotiations: Developed countries - gross tax wipes out profits impacts on importation of capital & technology Developing countries have to fight for WHT in DTA negotiations Pressure to reduce WHT rates to zero/near zero or to give up their right to tax these payments Developing countries also contribute to the earning of this income WHT should be used to strengthened source taxation

23 BEPS CHALLENGES AFRICAN COUNTRIES FACE THAT ARE NOT ADDRESSED IN THE OECD ACTION PLAN CONT. A practical way to deal with transfer pricing: Unitary taxation (UT) with formulary appointment (FA) OECD recommends use of ALP to prevent TP Conceptual & practical difficulties in applying ALP Requires matching comparable transactions between non-arm s length entities & arm s length entities MNE transactions often not comparable to those between arm s length parties MNEs don t operate as if their subsidiaries were separate enterprises Difficulties of applying OECD Transfer Pricing methods Commentators suggest unitary taxation - treats related parties as part of a single enterprise FA: MNE taxed on global income - each country s tax depends on fraction of economic activity therein Addresses economic reality of MNEs - highly integrated with operations in different regions Fixed formula for profit attribution - administrable OECD BEPS rejects radical switch to FA- advocates ALP approach Objections to FA Requires countries to agree on a fixed formula Relies heavily on access to foreign-based information Profits attributed to each member may differ from income in its books of account Difficult to apply with respect to intangibles The case for FA: overcomes the challenges of ALP Art 7(4) 2008 version OECD MTC permitted customarily use of apportionment formulae Some OECD TP methods (profit splits) entail apportionment of profits APAs often use FA Developing countries lack data bases for comparables: FA - clearer & easier to administer Access to foreign-based information addressed in UN Transfer Pricing Manual & BEPS Action plan 13 Varied use of FA: American Federal States; Brazil - varying approaches not good for international trade OECD should developing guidance on FA - Convergence between ALP & FA needed With potential strength of FA, its varied use, ALP problems - FA important in international tax

24 BEPS CHALLENGES AFRICAN COUNTRIES FACE THAT ARE NOT ADDRESSED IN THE OECD ACTION PLAN CONT. Develop Guidelines on granting tax incentives (TI) TIs considered a tool for encouraging FDI However: TI distort resource allocation, lead to sub-optimal investment decisions; harmful to long term growth TI not primary determinant of investment decisions Internationally not much guidance on granting TI Treaty context some guidance on tax sparing provisions between developing & developed countries To prevent elimination or reduction of TI offered to foreign investor by his residence country credit method Developed countries allow residents to retain TI tax is spared However: tax sparing can lead to tax abuse (e.g. transfer pricing, round tripping and treaty shopping) Inevitably results in the direct loss of revenue for the foregone tax Developing countries have to make concessions to obtain tax sparing 1998 OECD Report on Tax Sparing - recommendations on tax sparing Tax incentive should be defined precisely - no open-ended tax sparing Set maximum tax rate for the tax sparing credit Inclusion of anti-abuse clauses Time limitations or sunset clauses Restrictions to business income not passive income Guidelines on TI should be developed building on the above on tax sparing 2015: G20, IMF, OECD, UN & World Bank to work jointly on options for efficient & effective use of TI for investment

25 BEPS CHALLENGES AFRICAN COUNTRIES FACE THAT ARE NOT ADDRESSED IN THE OECD ACTION PLAN CONT. Use of multilayered structures to indirectly dispose of valuable underlying assets of businesses situated in Africa to tax havens Ugandan: Heritage & Gas Limited v Uganda Revenue Authority disposal of mineral licensing rights 2004: Joint Operating Agreement between Heritage Oil & and Tullow Uganda Ltd Licence granted by UG Gov t to explore, develop & produce petroleum in designated areas where oil was discovered Heritage sold to Tullow its 50% participation in the oil exploration license - Heritage resident in Mauritius URA issued assessment of US$ 404, 925,000 on Heritage for CGT on sale of immovable property URA: Sec 79(g) UG ITA - income from disposal of an interest in immovable property located in UG, sourced in UG Heritage: No definition of immovable property in ITA - interest in immovable property not taxable in UG Held: Sec 88 ITA, UG/Mauritius DTA forms part of ITA Art 6 UG/Mauritius DTA: immovable property includes property accessory to immovable property Proceeds from the disposal of immovable property were taxable in UG Ugandan: Zain International BV v Com General of URA - disposal of telecommunications shares 2010: Zain International BV disposed of its shares in Zain Africa BV to Bharti Airtel International BV Zain Africa BV had equity interests in Celtel UG Ltd URA issued assessment - shares disposed were held indirectly by Zain International BV in Celtel UG Ltd Zain International BV objected: No shares of Celtel UG Ltd were disposed of; transaction was between Zain International BV and Bharti Airtel International BV - a Netherlands entity so income sourced in Netherlands not UG URA: Art 13 Netherlands/UG treaty - gain arising from the disposal of an interest in immovable property located in UG taxable in UG High Court: UG had no jurisdiction to tax Zain International BV URA appealed Court of Appeal: UG has jurisdiction to tax The taxpayer intends to apply for MAP in Netherlands. Zain case similar to Indian Vodafone case could occur in other African countries with similar legislation Need for countering legislation

26 BEPS CHALLENGES AFRICAN COUNTRIES FACE THAT ARE NOT ADDRESSED IN THE OECD ACTION PLAN CONT. Transfer pricing in the extractive sector Not a transfer pricing focus area in the BEPS Action Plan African countries incur tax loss from: commodities exported at under value to tax havens goods imported at inflated prices from companies in tax havens tax loss - excessive tax deductible depreciation charges Interposing entity between MNE mining company in Africa & market in low tax jurisdiction African country receiving discounted price on end market price or contract price Often interposed entity has little or no substance in low tax jurisdiction Difficulties in obtaining information on substance of foreign entity Lack of comparable data on extractive sector Domestic statutory provisions required in African countries to address this concern AEOI could help

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