Substance v Form and BEPS - 15 th intensive course on DTAA by BCAS. 24 January 2015

Transcription

1 Substance v Form and BEPS - 15 th intensive course on DTAA by BCAS 24 January 2015

2 Substance v Form Whether only Substance is sufficient? Whether only Form is sufficient? Form cannot be ignored. Colorable devices to be probed into. Form to be given effect to where the documents between the parties have been entered into bonafide and intended to be operative.

3 Illustrative cases Form was upheld Saunders v Pilcher [ Cherry Orchard case] IRC v Fleming and Co (Machinery) Ltd [ Termination of agency case] CIT v BM Kharwar [ Transfer by Firm to Company ] Substance was upheld Sir Homi Mehta s Executors and Rogers & Co (Bom HC) [ Transfer by Firm to Company ] Boda & Co (JB) v CBDT (SC) [ Receipt of foreign exchange ] Sir Kikabhai Premchand v CIT [ Man cannot profit out of himself ]

4 Key International decisions IRC v Duke of Westminister & CIT v A Raman & Co Every taxpayer is entitled to arrange his affairs so that the tax attaching under the statue is less than it other wise would be. WT Ramsay and Furniss v Dawson Principle of fiscal nullity allows revenue to look at the substance of the taxpayer s situation in determining the liability to tax; ignore number of linked or sequential steps having no commercial purpose excepting tax avoidance. McNivan v Westermoreland Investments The assesee, indebted to a tax exempt pension fund. In order to pay interest borrowed money and used the very same money to pay interest to the pension scheme. The tax was claimed as refund by the scheme (being exempt) and interest deduction was sought by the assesse. Deduction disallowed as there was no commercial purpose.

5 Indian decisions - Trilogy Mc Dowell & Co. Ltd Vs. Commercial tax officer (SC) (TS-1-SC-1985) Where a transaction is structured in such a way that its sole purpose is to avoid tax, the same would be disregarded for determining tax liability Tax planning may be legitimate provided it is within the framework of law. Colorable devices cannot be part of tax planning and it is wrong to encourage resorting to dubious method Union of India Vs. Azadi (SC) (TS-5-SC-2003) Bachao Andolan Hon ble Supreme Court held that Tax residency certificate issued by Mauritius authority was to be taken as conclusive evidence of residency for applying tax treaties What is relevant is liability to tax and not the factum of actual taxation to claim treaty benefit. It is worthless to argue that double taxation could arise only when tax had been paid in one contracting state. Vodafone International Holdings B.V. Vs. UoI (SC) (TS-23-SC-2012) Revenue cannot start with the question as to whether the impugned transaction is a tax deferment / saving device but it should apply the look at approach to ascertain true legal nature of transaction The authorities should invoke the substance over form principle or piercing of corporate veil test only after it is able to establish that the transaction is sham or tax avoidance Companies to claim legitimate benefit of tax treaties instead of using sham transactions to avoid tax

6 Vodafone key observations Tax planning within the framework of law is permissible unless it is a sham or colorable device Onus on the tax authority that the transaction is sham LOB and look through provisions cannot be read into the DTAA In the absence of LOB and existence of an administrative circular, capital gains benefit cannot be denied at the time of divestment However, tax authority can deny DTAA benefit if it Mauritius company is without commercial substance or interposed to avoid tax (for eg round tripping transactions) True nature to be ascertained by looking at the legal arrangement actually entered into and carried out Timing test relevant to determine the genuineness of the structure TRC to be accepted as conclusive for residency and beneficial ownership. However, to be ignored if DTAA used for fraudulent purpose of tax evasion. The Court held that there was no conflict between McDowells and Azadi Bachao

7 Key provisions testing substance Tax Treaties Beneficial ownership test Article 11, Article 12 Limitation of benefits provisions for eg. India/ Singapore tax treaty, India / Luxembourg tax treaty Primary purpose test/ Actvity test Expenditure test Income-tax Act, 1961 (Act) General Anti-Avoidance Rules (GAAR) Section 93 transactions

8 Specific anti avoidance rules Specific anti-avoidance rules are transactions which require prescribed threshold to be met Adverse inference if the threshold is not met Once the threshold is met, ordinarily, the transaction cannot be questioned even if arranged from tax perspective Specific clarification required that GAAR will not be invoked in case SAAR threshold is met Section 94(7) Dividend stripping Section 94(8) Bonus stripping Section 94(2) Bond washing Section 2(22) Deemed dividend Section 79 Change in shareholding Section 92 Transfer pricing

9 GAAR An arrangement (or part thereof or any step) whose main purpose is to obtain a tax benefit and it creates rights or obligations, which are not ordinarily created between persons dealing at arms length; results directly or indirectly, in misuse, or abuse of the provisions of the Act; lacks commercial substance or is deemed to lack commercial substance; is entered into or carried out by means not ordinarily employed for bonafide purpose.

10 GAAR - Commercial substance An arrangement lacks commercial substance if Substance / effect of whole is inconsistent with the individual steps or part; Involves / includes Round tripping An accommodating party Elements have the effect of offsetting or cancelling each other A transaction effected through one or more persons and disguises the value, location source, ownership or controls funds which is subject matter of such transaction Involves asset / transaction or place of residence of any party which is without any substantial commercial purpose other than obtaining a tax benefit Following factors are not relevant Period or time for which the arrangement exists The fact of payment of taxes, directly or indirectly under the arrangement The fact that an exit route (including the transfer of an activity or business or operation) is provided by an arrangement

11 GAAR consequences of invocation Treat the arrangement as void/ any manner as the CIT deems appropriate Disregard accommodating party Reallocate among parties income expense etc Disregard / combine / re-characterize any step in /whole / part of the arrangement Treat connected persons / accommodating and other party as one and the same Deeming connected persons as same Re-characterize equity - debt, income (capita/ revenue), expenses, relief, etc

12 GAAR GAAR applies to both residents and non-residents Threshold limit of tax avoidance tax benefit of Rs 3 crore in assessment, in aggregate to all parties. Initial onus on taxpayer to prove that obtaining tax benefit not the main purpose of the arrangement GAAR to override the provisions of the Tax Treaties GAAR not applicable to FII/ FPI and investments made by non-residents by way of offshore derivative instruments in a FII/ FPI Grandfathering of income earned in respect of investments made before 30 th August 2010 GAAR to be applicable in respect of the income earned from 1 st April 2015 (unless deferred) Power to invoke GAAR bestowed only upon CIT CIT to issue directions for making adjustments Directions binding on AO AAR may be filed for GAAR questions

13 GAAR invocation three stage process Approving Panel Assessing officer Commissioner of income tax (3 member panel) - Current/ retired judge of HC - Chief Commissioner (or equivalent - An academician / scholar Commissioner to give a notice of not more than 60 days before forming an opinion Approving Panel to given an opportunity to the assessse and the AO before deciding Approving Panel to decide within six months of the reference to it by CIT No appeal against GAAR provisions Constitutional remedy may be available

14 Treaty shopping / Round tripping Typical foreign investment structure Round tripping structure Parent Ind Co Indian target Outside India India Mauritius SPV SPV Cyprus India Indian Co. Say, Indian Co. raises debt to infuse equity capital in SPV SPV infuses funds in Indian target mainly through CCDs

15 Thin-capitalization Equity Model CCD model Foreign Co. Foreign Co. Infusion of funds through Equity Outside India Infusion of funds through Compulsorily Convertible Debentures (CCD) Interest paid at arm s length Outside India India India India Co. India Co.

16 Case Thin-capitalization Study 2 Thin-capitalization Typical special relationship clause in most tax treaties 8. Where, owing to a special relationship between the payer and the beneficial owner or between both of them and some other person, the amount of the interest paid exceeds for whatever reason the amount which would have been paid in the absence of such relationship, the provisions of this Article shall apply only to the last-mentioned amount. In that case, the excess part of the payments shall remain taxable according to the law of each Contracting State, due regard being had to the other provisions of this Convention. Doctrine of choice Whether arguable that since, Company law and FDI regulations provisions permit infusion of funds through CCDs, there is implicit choice available to companies? Thin Capitalization provisions in Germany, Australia, USA and UK Indian judicial precedents Besix Kier Dabhol S.A vs. DDIT (ITA No. 4249/Mum/07)(Mumbai Tribunal) DCIT vs. Ganesh Benzoplast (ITA No. 1564/Mum/2000)(Mumbai Tribunal) LMN India Ltd. (307 ITR 40)(AAR) 16

17 Executive Committee Report (ECR) on GAAR to Government Illustrative cases of tax mitigation where GAAR cannot be invoked Formation of SPV by investor investors entities to pool resources in a tax favorable jurisdiction (TFJ) which has lower compliance cost, ease of operation. Raising debt instead of equity though debt is raised from a TFJ Liquidating Indian company such that the assets are distributed to a third party Court approved merger involving merger of profit making company with loss making company Leveraged acquisition of shares of a company which is eventually merged with parent and interest is claimed as a deduction The above are illustrative cases of ECR. The final GAAR rules have not provided any illustrations and therefore each case will be decided in light of the substantive provisions of GAAR.

18 ECR report on GAAR to Government Illustrative cases where GAAR may be invoked Routing of investment through a TFJ without commercial purpose/ substance Finalizing loan arrangement from one country and assigning it to another to avoide withholding tax on interest Artificial split of Engineering Procurement and Construction (EPC) contract where offshore consideration is inflated at the cost of onshore component Interest payment which is based on the rate of return/ profit of borrower such that in substance loan is an equity investment. Re-characterization required as equity Arrangement by which each employee is given shares and salaries and shares are purchased at pre-agreed price. The above are illustrative cases of ECR. The final GAAR rules have not provided any illustrations and therefore each case will be decided in light of the substantive provisions of GAAR.

19 ECR report on GAAR to Government Interestingly, the ECR report suggests that GAAR would not be invoked in cases where Circular no 789 (relating to TRC) has not been satisfied or where a LOB provision of the India-Singapore DTAA is satisfied. The above are illustrative cases of ECR. The final GAAR rules have not provided any illustrations and therefore each case will be decided in light of the substantive provisions of GAAR.

20 GLOBAL TRENDS SUBSTANCE REQUIREMENT 20

21 Global Trends

22 Netherlands Substance Requirement New Rules of 2014 Existing substance requirements for conduit finance companies apply at a wider scale starting 2014 Until 2013, substance requirements were only formally imposed on conduit finance/ license companies in light of an APA Starting 2014 these requirements are also imposed on qualifying conduit finance / license companies that do not have an APA As of 2014, these requirements are also imposed on holding companies but only if they want to obtain an advance tax ruling (ATR) For conduit finance/ license companies, the expanded scope of substance requirement is combined with disclosure requirements declare in the return that they meet the substance requirement Spontaneous exchange of information contents of APA shared with relevant coutries

23 Netherlands Substance Requirement New Rules of 2014 Existing substance requirements for conduit finance companies apply at a wider scale starting 2014 Until 2013, substance requirements were only formally imposed on conduit finance/ license companies in light of an APA Starting 2014 these requirements are also imposed on qualifying conduit finance / license companies that do not have an APA As of 2014, these requirements are also imposed on holding companies but only if they want to obtain an advance tax ruling (ATR) For conduit finance/ license companies, the expanded scope of substance requirement is combined with disclosure requirements declare in the return that they meet the substance requirement Spontaneous exchange of information contents of APA shared with relevant coutries

24 Netherlands Substance Requirement Dutch substance requirements At least half of the statutory and authorized decision making directors live or are resident in Netherlands The directors who live in Netherlands have necessary professional skills to carry out their responsibilities properly. These responsibilities include at a minimum independent decision making in relation to the transactions to be entered into by the tax payer (within the parameters of normal group involvement) as well as ensuring that such transactions are properly carried out. The tax payer can call upon qualified personnel (either internally or externally) to ensure that these transactions are properly carried out and recorded. The Board decisions should be taken in Netherlands The Bank account or the main account is maintained in Netherlands The book keeping is in Netherlands Registered office is in Netherlands It is not tax resident in any other country (as far as taxpayer is aware) Tax payer runs the real risk within the meaning of the law Amount of equity appropriate to the required risk

25 Netherlands Substance Requirement Scope of New Rules Who are mainly (which is more than 70%) engaged in intercompany financing and/or licensing activities (or activities generating similar income, such as rental or leasing income) Who have received or accrued interest and/or royalty income (or similar income) from foreign group companies; and For which treaty benefits are claimed. Consequences of not meeting the substance requirements Taxpayer obligated to report this in its annual Dutch corporate income tax return. In case of premeditation or gross negligence, a maximum penalty of 19,500 may be imposed. If the Dutch tax authorities conclude that the substance requirements are not met, they will spontaneously notify the foreign tax authorities. It is the common understanding that the information to be submitted to the foreign tax authorities is (initially) very limited. It is up to the foreign tax authorities to decide what to do with this notification. They may e.g., request additional information or may choose to ignore the notification.

26 Other Tax updates - At a glance New substance requirements introduced by Mauritius - At least one out of six criteria to be fulfilled to claim treaty benefits Statutory thin capitalization rules abolished in Netherlands - However, participation interest limitation seeks to limit deduction of excessive interest paid by Dutch corporate taxpayer with respect to debt used to finance assets generating income that is exempt under Dutch participation exemption New CFC regime introduced in United Kingdom - CFC charge to apply to such of CFC s profits that pass through the so-called CFC charge gateway Increasing assessments in respect of capital gains withholding tax on share sales between foreign entities especially in high growth markets where the underlying business or assets are located A particularly concerning development is the use of retrospective legislation in this area, seen in both India and China

27 New Substance Rules in Mauritius New substance requirements in Mauritius operative with effect from January 1, 2015 At least one out of six criteria to be fulfilled to claim treaty benefits The Company has or will have the office premises in Mauritius The Company employs or intend to employ on a full-time basis an administrative/ technical level at least one person who is resident in Mauritius The Company constitution contains a clause under which all disputes arising out of the constitution will be resolved by arbitration in Mauritius The Company holds/ expects to hold in 12 months, assets (excluding cash held in bank account or shares, interests in another GBL company) worth at least USD 100,000 in Mauritius The Company s shares are listed on securities exchange in Mauritius Has or expected to have annual expenditure in Mauritius that can be reasonably expected from any similar corporation that is controlled and managed in Mauritius

28 Other Tax updates - At a glance European Commission has proposed changes to EU Parent Subsidiary Directive - Changes proposed to close loopholes in the Directive used by some companies to escape taxation European Commission has also recommended a common GAAR to all EU Member countries EU Country by Country reporting on its way A more aggressive approach is being taken in litigating avoidance cases worldwide and in some jurisdictions (especially Italy, Spain and Belgium) the line between tax avoidance and tax evasion is blurring Complex issues and developments witnessed in transfer pricing regime - Recent controversies and litigation pertaining to issues like marketing intangibles, share valuation and location savings

29 Swiss Tribunal Ruling Fully hedged Total Return Swap Typical foreign investment structure Total Return swap Counter parties Denmark Bank Swiss Swiss Cos. Investment in Swiss Shares

30 BASE EROSION AND PROFIT SHIFTING ( BEPS ) 30

31 Background Governments are under extreme fiscal pressure as a consequence of the global economic crisis As a consequence, there is increased political focus on perceived tax avoidance by multinationals G20 countries (which includes India) are concerned that current international tax rules and frameworks are inadequate The OECD response to growing pressure was to release the Base Erosion and Profit Shifting ( BEPS ) report There is a drive to develop a tax system that is fit for purpose for today s multinationals and digital age India expected to associate with outcome of BEPS report

32 Background Key Focus Area Base erosion Transfer pricing Jurisdiction to tax

33 Immediate Reaction Focus on key items Transfer pricing, hybrids, interest deductions, treaty abuse and the digital economy Wide ranging actions, for example: A report on the issues raised setting out possible detailed actions to address them (e.g. in relation to the digital economy) Changes to the Model Tax Convention (e.g. in relation to hybrids, treaty abuse) Recommendations regarding the design of domestic law (e.g. CFC rules, interest deductions) Changes to the TP guidelines (e.g. in relation to ensuring TP outcomes are in line with value creation) A number of the actions are linked, for example: The actions on CFCs, interest deductions, and hybrids will be closely linked

34 BEPS ACTION PLAN AND TIMELINES 34

35 Action Item1*: Digital Economy Action Item 15*: Multilateral Instrument OECD BEPS Action Plan A Road Map June 2012 Project announced / started July 2013 Release of Action Plan with 15 separate actions/work streams September 2015 Completion of remainder action plan February 2013 Document released Addressing Base Erosion and Profit Shifting September 2014 Project Completion of approximately 1/3 of Action Plan 2016 onwards Monitoring, additional / ongoing actions Coherence Substance Transparency Action Item 2*: Hybrid mismatch arrangement Action Item 3: Controlled Foreign Company rules (CFC) Action Item 4: Interest deductions Action Item 5*: Harmful Tax practices Action Item 6*: Preventing tax treaty abuse Action Item 7: Avoidance of permanent establishment status Action Item 8*: Transfer Pricing aspects of intangibles Action Item 9: Transfer Pricing/risk and capital Action Item 10: Transfer pricing/high risk transactions Action Item 11: Methodologies and data analysis Action Item 12: Disclosure rules Action Item 13*: Transfer pricing documentation Action Item 14: Dispute resolution * OCED has released seven (7) reports as part of 2014 Deliverables

36 OECD BEPS Reports Timelines No Action Dead line No Action Dead line 1 Addressing the tax challenges of the digital economy 2 Neutralise the effects of hybrid mismatch arrangements Sept 14 Sept 14 3 Strengthen CFC rules Sept 15 4 Limit base erosion via interest deductions / other financial payments 5 Counter harmful tax practices more effectively taking into account transparency and substance Sept / Dec 15 Sept 14 & Sept / Dec 15 6 Prevent treaty abuse Sept 14 7 Prevent the artificial avoidance of PE status Sept 15 8 Assure that TP outcomes are in line with value creation: intangibles 9 Assure that TP outcomes are in line with value creation: risks / capital 10 Assure that TP outcomes are in line with value creation: other high-risk transactions 11 Establish methodologies to collect and analyse data on BEPS / actions to address it 12 Require taxpayers to disclose their aggressive tax planning arrangements Sept 14 & Sept 15 Sept 15 Sept 15 Sept 15 Sept Re-examine TP documentation Sept Make dispute resolution mechanisms more effective Sept Develop a multilateral instrument Sept 14 & Dec 15

37 BEPS REPORTS 2014 DELIVERABLES 37

38 BEPS Governments are harmed Individual tax payers are harmed Business communities are harmed fair competition is impacted by distortions

39 Action 1 : Digital Economy BEPS Report on digital economy has discussed the business model and key features of digital economy along with the following: Digital economy is in a continuous state of evolution and possible future developments need to be monitored to evaluate their impact on tax systems Ensuring that core activities cannot inappropriately benefit from the exception from PE status and that artificial arrangements relating to sales of goods and services cannot be used to avoid PE status The importance of intangibles, the use of data and the spread of global value chains and their impact on transfer pricing The possible need to adapt CFC rules to the digital economy Addressing opportunities for tax planning by business engaged in VAT-exempted activities Digital economy raises challenges related to nexus, data and characterisation of income Task force discussed and analysed various potential options proposed by country delegates and other stakeholders to address these challenges A lot of work needs to be done which would be completed by December 2015 and supplementary report reflecting the outcomes of the work will be finalised by that time

40 Action Item 2: Hybrid Mismatch Hybrid mismatch arrangements use of cross-border differences in characterisation of entities and instruments to produce mismatched tax outcomes Objective of the BEPS Action plan is to develop model treaty provisions and design domestic rules to neutralize the effect of hybrid instruments / entities by not permitting: Multiple deductions for a single expense Deduction in one country without corresponding taxation in another Generation of multiple foreign tax credits for one amount of foreign tax paid

41 Action Item 2: Hybrid Instrument Example 1 DEDUCTION IN ONE COUNTRY WITHOUT TAXATION IN ANOTHER: B Co. issues a hybrid financial instrument ( Instrument ) to A Co. Hybrid Financial instrument A Co. Interest B Co. Country A Country B Instrument is characterized as debt in Country B and as equity in Country A Country B allows deduction to B Co. for interest payments made on the Instrument Country A treats the payment as dividend, which is entitled to participation exemption BEPS Recommendations: Primary rule: Country B to deny deduction to Payer (B Co.) Defensive rule: Country A to treat receipt as ordinary income of A Co.

42 Action Item 2: Hybrid Entities Example 2 DOUBLE DEDUCTION ON PAYMENTS BY HYBRIDS: A Co. B Co. is a 100% subsidiary of A Co. B Co. is a transparent entity i.e. disregarded for Country A tax Country A purposes Interest Country B B Co. borrows money and pays interest in Country B (B Co. derives no other income) B Co. Loan Bank Interest payment are deductible in the hands of A Co. in Country A, since B Co. is disregarded B Co. is consolidated with B Co. Sub for tax purposes in Country B Interest paid by B Co. claimed as deduction against operating income of B Co. Sub B Co. Sub (Operating Sub) BEPS Recommendations: Primary rule: Country A (Parent Jurisdiction) to deny deduction Defensive rule: Country B (Payer Jurisdiction) to deny deduction

43 Action 5: Countering Harmful Tax Practice Substance Member countries have agreed for realigning taxation with substantial activity requirements Continuing discussions on finalizing an approach to strengthen substantial activities requirements Once approach is finalised, preferential regime identified in the report would be assessed Transparency Improving transparency through spontaneous exchange of information exchange of rulings relating to preferential regime Currently only tax-payer specific rulings on preferential regime are intended to be covered like APAs / Advance Tax Rulings etc. Review of Regimes Finalization of review of member country preferential regime Review of Intellectual Property ( IP ) regime of many OCED countries is under review Strategy to expand participation to non-oced member countries (associate countries, including India) Consideration of revision or additions to the existing framework Regime must be preferential in comparison with the general principles of taxation in the relevant country and not in comparison with the principles applied in other countries

44 Action 5: Substantial Activity Requirement IP Regime Few approaches considered by FHTP Value Creation Approach Transfer Pricing Approach Nexus Approach Tax payer to perform significant development activities Significant development activities not being specific term this approach is not further discussed Important functions to be performed in the jurisdiction Tax payer to be legal owner of the assets Tax payer to use such assets giving rise to tax benefit Taxpayer to bear economic risks of the assets Many countries raised number of concerns & hence this approach is not further discussed IP regime to be beneficial to the extent of Research & Development (R&D) activities of taxpayers Proportion of expenditure directly related to development activities, demonstrates real value added by the taxpayers Regime shall provide for a preferential rate on IP-related income to the extent it is generated by qualifying expenditures IP income eligible for tax benefit shall be the proportion of qualifying expenditure incurred to develop IP to the total expenditure incurred to develop IP

45 Action 6: Preventing granting of Tax Benefits in inappropriate circumstances Recommendations for model treaty provisions and changes in domestic rules to prevent misuse of treaty benefits Specific anti-abuse rule in tax treaties based on limitation-of-benefit provisions recommended Add to tax treaties a more general anti-abuse rule based on the principle purposes of transactions or arrangements (the principal purposes test or PPT rule) Clarify tax treaties are not intended to be used to generate double non-taxation Title / preamble of Model Tax Convention tax treaties to be reformulated to clarify that tax treaties are not intended to generate double non-taxation Identify tax policy considerations for countries before deciding to enter into a tax treaty with another country Policy consideration to help countries deciding whether or not to enter into tax treaties with low or no-tax jurisdictions Countries to reconsider whether or not to modify treaty previously concluded in the event of change in circumstances raising BEPS concerns Suggested modification in the preamble / title in Model Tax Convention would aid in interpreting that tax treaties are not intended to generate double non-taxation

46 Action 13: Transfer Pricing Documentation and Country-by-Country Reporting Objective Objective of recommending Transfer Pricing Documentation and country-by-country reporting is as under: To ensure that taxpayers give appropriate consideration to arms length criteria while determining prices and other conditions for transactions between associated enterprise and while reporting the income derived from such transactions in tax returns; To provide tax administration with information necessary to conduct an informed transfer pricing risk assessment; and To provide tax administration with useful information to employ in conducting thorough audit of transfer pricing practices Requirement under BEPS A three-tiered structure has been described for the purpose of Transfer Pricing Documentation Master file Master file to contain organizational structure of the Group i.e. nature of global business operations, transfer pricing policies, global allocation of income and economic activity. Further, such file to also contain list of important agreements, intangibles and transactions. Local file Local file to include more details information relating to specific intercompany transactions. Further, relevant financial information regarding those specific transactions, a comparability analysis and the selection and application of most appropriate method should also be a part of local file Country-by-Country report Country-by-country report requires tax jurisdiction wide information relating to global allocation of income, taxes paid and certain indicators of the location of economic activity Purpose of maintaining adequate documentation is to ensure transparency and substance of transactions among Associated Enterprises

47 Action 15: Multilateral Instrument to modify bilateral tax treaties A Multilateral instrument will be signed by the countries to address BEPS issues Objective of Multilateral instrument is to overcome the hurdle of cumbersome bilateral negotiations and produce important efficiency gains Such Multilateral instrument would co-exist the existing tax treaty network Further, Multilateral instrument shall contain compatibility clause to avoid conflict arising on a specific provision which is included in Multilateral instrument and similar provision exist in bilateral treaties One Multilateral instrument to cover all BEPS related provision to maintain consistency and uniformity in tax treatment by all countries across the globe

48 OTHER BEPS ACTION PLAN 48

49 Other BEPS Action Plan 3. Strengthen CFC rules CFC rules do not always counter BEPS in a comprehensive manner Develop recommendations regarding the design of CFC rules India perspective CFC proposed in Direct Taxes Code 4. Limit base erosion via interest deductions and other equivalent financial payments Evaluation of effectiveness of different types of interest limitations Aim is to prevent excessive interest deductions Transfer pricing guidance will be developed regarding pricing of related party financial transactions India perspective Thin capitalization norms are presently missing in India and should be generally covered within the ambit of the Indian transfer pricing regulations coupled with proposed GAAR provisions 5. Prevent avoidance of PE status Change definition of PE to avoid artificial avoidance of PE status Focus on commissionaire arrangements and activity exceptions (e.g. preparatory/ancillary) India perspective - Determination of PE more stringent

50 Other BEPS Action Plan 11. Data collection on BEPS Measurement of the scale and impact of BEPS Design of tools to ensure that actions taken on BEPS are effective India perspective More data analysis by tax authorities 12. Disclosure of aggressive tax planning arrangements Design mandatory disclosure rules for aggressive/abusive arrangements Draw on the experiences of countries with such rules in place Information sharing between tax administrations on tax schemes India perspective More disclosure in tax returns 14. Make Dispute Resolution more effective Develop solutions to obstacles to mutual agreement procedure and arbitration India perspective MAP is lengthy and at times without resolution

51 Action 8 to 10 : Transfer Pricing Action 8 broadly deals with developing rules to prevent BEPS by moving intangibles among group members. This will involve following: adopting a broad and clearly delineated definition of intangibles; ensuring that profits associated with the transfer and use of intangibles are appropriately allocated in accordance with (rather than divorced from) value creation; developing transfer pricing rules or special measures for transfers of hard to value intangibles; updating the guidance on cost contribution arrangements Work on some of the sections of this report to be finalized in 2015 in connection with other related BEPS work

52 Action 8 to 10 : Transfer Pricing Action 9 Risks and capital Develop rules to prevent BEPS by transferring risks among, or allocating excessive capital to group members. This will involve: Ensuring that inappropriate returns will not accrue to an entity solely because it has contractually assumed risks and has provided capital; Alignment of returns with value creation Action 10 Other high-risk transactions Develop rules to prevent BEPS from other high risk transactions - transactions which would not, or very rarely, occur between third parties: clarify the circumstances in which transactions can be re-characterized clarify the application of TP methods, in particular profit splits, in the context of global value chains and provide protection against common types of base eroding payments, such as management fees and head office expenses Make sure that transfer pricing outcomes are in line with value creation

53 Action 8 to 10 : Transfer Pricing Key analytical points: Functional value creation remains at the forefront with the starting point being an analysis of the global value chain of the group company to show how intangibles interact with other functions, risks and assets (FAR); Combined with special measures to be developed in 2015, the draft aims to make sure that an MNE group member that merely provides funding without performing and controlling all of the important functions, providing all assets and bearing and controlling all risks in relation to the development, enhancement, maintenance, protection and exploitation of the intangibles would only be entitled to a risk-adjusted rate of return on its funding; Regarding location savings, the most reliable approach is stated to be local market comparables and only if they don t exist to consider advantages and disadvantages and whether they are passed on to customers Legal rights and contractual arrangements coupled with factual substance form the starting point for transfer pricing analysis of transactions involving intangibles

54 Overall observations The first truly global attempt at harmonisation of the international tax system Ambitious time table 24 months to overhaul 100 years The actions around hybrid mismatches are as expected and are likely to have a significant impact on multinational companies Number of proposals will require domestic law changes and also bilateral treaty changes At least two years of uncertainty for taxpayers. Will some changes be regarded as clarifying existing law? Implementation holds the key

55 Thank You 55