The New OECD Functionally Separate Entity Approach and the Impact on Permanent Establishments of Foreign Business in Russia

Transcription

1 The New OECD Functionally Separate Entity Approach and the Impact on Permanent Establishments of Foreign Business in Russia International Tax Forum St. Petersburg Dr. Wolfgang Salzberger September 19 th, 2013

2 Financial highlights by division Gases Division (in million) Change Revenue 12,591 11, % Operating profit 3,403 3, % Operating margin 27.0% 27.5% 50bp 1 Number of employees 50,605 39, % Engineering Division (in million) Change Revenue 2,561 2, % Operating profit % Operating margin 12.2% 12.0% +20bp 1 Number of employees 6,564 6, % Other Activities (in million) Change Revenue % Number of employees 2 4,796 5, % 1 Basis points. 2 Including corporate staff. 27/09/2013 Fußzeile 2

3 Engineering Division Revenue 2012 by region North America 14.7% (2011: 12.4%) Africa 4.3% (2011: 6.8%) Asia/ Pacific 33.7% (2011: 25.0%) South America 3.6% (2011: 1.5%) Europe 25.3% (2011: 23.7%) Middle East 18.4% (2011: 30.6%) 27/09/2013 Fußzeile 3

4 Basics Parts of construction contracts - Construction projects are normally divided into different steps, several steps can be performed within the home country (offshore) and others have to be performed in Russia (onshore): E Engineering EP Engineering, Procurement EPS Engineering, Procurement, Supervision EPC Engineering, Procurement, Construction S + S Spareparts, After Sales Service Feasibility study Delivery of Delivery of Delivery, Delivery service, equipment, equipment and construction spare parts, special equipment assistance with the commissioning commissioning other services. 27/09/2013 Fußzeile 4

5 Basics Contract templates - Contracts for major projects are Turnkey Lumpsum Contracts in principle, contracts on reimbursable basis are the exception - other contract templates single contract, consortia split contracts (e.g. offshore, onshore) establishment of a Joint Venture 27/09/2013 Fußzeile 5

6 Profit Allocation Head Office Permanent Establishment (PE) Direct and Indirect Method On the basis of the 2008 OECD Model Tax Convention (MTC) the profit could be determined by - the direct method - the indirect / mixed method (e. g. Art. 7 IV DTA Russia-Germany). According to Art. 7 OECD-MTC 2008, para 51, this method could be used where the affaires of the PE are so closely bound up with those of the head office, that it would be impossible to disentangle them on any strict basis of branch accounts. Where it has been customary in such cases to estimate the arm s length profit of a PE by reference to suitable criteria it may well be reasonable that the method should continue to be followed, notwithstanding that the estimate thus made may not achieve as high a degree of accurate measurement of the profit as adequate accounts. Even where such a courses had not been customary it may exceptionally be neccessionary for practical reasons to estimate the arm s length profit based on other methods. 27/09/2013 Fußzeile 6

7 Profit Allocation Head Office Permanent Establishment Transfer Pricing Methods - Comparable uncontrolled pricing method - resale minus method (e. g. gross margin = (net sales cost of sales) / sales revenue) - cost plus method - other methods transactional profit split (e. g. transactional net margin method) global profit split (comparable profit method, formula apportionment) 27/09/2013 Fußzeile 7

8 Profit Allocation Head Office Permanent Establishment Transfer Pricing Methods - According to OECD TP Principles 2010, para 2.1, the best method rule is applicable the standard methods as well as the transactional profit methods are in line with the arm s length principle the profit split / formula apportionment should only be used in extraordinary cases (OECD TP Principles 2010, ) - According to the German Ministry of Finance the transactional profit method is only applicable if the standard methods cannot be used can only be used for companies with routine functions 27/09/2013 Fußzeile 8

9 Profit Allocation Head Office Permanent Establishment Cost Plus Method - According to the German Ministry of Finance the Cost Plus Method should have been applied for if key personnel is not employed on construction site PE performs solely routine functions PE does not bear any risks 27/09/2013 Fußzeile 9

10 Profit Allocation Head Office Permanent Establishment OECD Model Tax Convention 2010 On the basis of the OECD Model Tax Convention 2010, however, only the direct method should be applicable there is no need for the indirect method any more (Art. 7 OECD MTC 2010, para 41) use of the direct method in a two step approach (Art. 7 OECD MTC 2010, para 21 f): 27/09/2013 Fußzeile 10

11 Profit Allocation Head Office Permanent Establishment Functionally Separate Entity Approach Step 1 1. Fiction of the PE as a separate, independent enterprise a. identification of the activities performed by the PE b. analysis of the functions performed by the PE, based on the significant people functions c. identification of the assets attributable to the PE d. risk analysis e. deemed equity of the PE 27/09/2013 Fußzeile 11

12 Profit Allocation Head Office - Permanent Establishment Functionally Separate Entity Approach Step 2 2. Determination of the arm s length price for transactions between the Head Office and the PE ( Dealings ) a. through the application of the generally accepted transfer pricing methods b. on internal dealings (realization of profit without market transactions) c. in due consideration of functions performed, assets used and risks adopted 27/09/2013 Fußzeile 12

13 Profit Allocation Head Office - Permanent Establishment Challenges (I) - Major challenges for the use of the functionally separate entity approach for construction PE s allocation of selected activities to the Head Office and the PE (e. g. procurement) identification of Dealings allocation of the revenue function and risk oriented allocation of the warranty scope shifts change orders 27/09/2013 Fußzeile 13

14 Profit Allocation Head Office - Permanent Establishment Challenges (II) - Major challenges for the use of the separate entity approach for Construction PE s identification and allocation of significant people functions cost plus method as best method? full costs vs. costs attributable to a PE budgeted costs vs. actual costs charges for internal dealings vs. contribution of assets and services allocation of IP and charging of licence fees 27/09/2013 Fußzeile 14

15 Profit Allocation Head Office - Permanent Establishment Functionally Separate Entity Approach and Transactional Profit Split - According to OECD TP Guidelines 2010, para 2.4, transactional profit methods may sometimes be preferable: where each of the parties makes valuable and unique contributions in relation to the controlled transaction where the parties engage in highly integrated activities, may make a transactional profit split more appropriate than a one side method. 27/09/2013 Fußzeile 15