The new transfer pricing law and international tax update Jack Sheehan, Partner, DFDL and Steven Carey, MD, Quantera Global 20 September 2015

Transcription

1 The new transfer pricing law and international tax update Jack Sheehan, Partner, DFDL and Steven Carey, MD, Quantera Global 20 September 2015 BANGLADESH CAMBODIA INDONESIA LAO PDR MYANMAR SINGAPORE THAILAND VIETNAM

2 Agenda 1 General Overview of Anti-Avoidance Rules 2 Global developments and impact on TP in Thailand 3 Overview of proposed new TP Act 4 Developing an efficient strategy to manage risk and create documentation. 5 Case Studies 2

3 What makes us unique? We are pioneers in emerging markets Lao PDR Cambodia Thailand Vietnam Singapore Bangladesh Philippines Myanmar Indonesia 3

4 ASEAN and South Asia 4

5 The current state of play international tax avoidance We do need a debate in this country, not only what is against the law that s tax evasion, that is against the law, that s illegal and if you do that the Inland Revenue will come down on you like a ton of bricks but what is unacceptable in terms of really aggressive tax avoidance. Because some people say to me, Well, it s all within the law; you re obeying the law, it s okay. Well, actually there are lots of things that are within the law [that] we don t do because actually we have some moral scruples about them and I think we need this debate about tax too. David Cameron, Prime Minister, UK. Practices that reduce tax liability through strictly legal arrangements but at the same time contradict the intent of the law EU Commission Action Plan on aggressive tax planning 5

6 The current state of play OECD BEPS Plan On 19 July 2013 a comphrehensive action plan was published which identified 15 action points to provide Governments with clear international solutions for fighting corporate tax planning strategies that exploit gaps and loopholes of the current system to artificially shift profits to locations where they are subject to a more favorable tax treatment The deliverables have been delivered to the G20 Finance Ministers in October 2015 with a timetable for implementation Thailand and many ASEAN countries are OECD observers Many countries already taking action to combat tax avoidance 6

7 BEPS Category BEPS Action Hybrid mismatch 2 Coherence CFC Rules 3 Interest deductions 4 Harmful Tax Practices 5 Prevent Tax Treaty Abuse 6 Avoidance of PE status 7 Substance TP Aspects of Intangibles 8 TP/Risk and Capital 9 TP/High Risk Transactions 10 Methodologies and Data Analysis 11 Transparency Disclosure rules 12 TP documentation 13 Dispute Resolution 14 Digital Economy 1 Multilateral Instrument 15 7

8 International Situations C 1 Loan with interest Consolidation of FS C 2 Loan with interest PE 1. Interest is deductible for PE 2. Interest is cancelled/exempt at the Holding Level 8

9 Treaty shopping example Saudi Arabia No treaty protection Result: 30% withholding Dividend U.S. 9

10 Direct Conduit Saudi Arabia Under 1948 US-Netherlands treaty Reduced dividend withholding Dividend exempt in the Netherlands Netherlands Dividend U.S. 10

11 Stepping Stone Conduit Saudi Arabia Netherlands Interest Interest is protected by treaty Interest income in the Netherlands is offset by deduction No withholding on interest in the Netherlands Interest U.S. 11

12 Hybrid Mis-matchs Equity Dividends Exempt Equity Debt Redeemable preference shares Interest deduction 12

13 Indonesia GAAR Highlights Indonesia In 2010, Indonesia introduced a FORM DGT 1. The form requires information from the taxpayer seeking relief: The form requires information from the taxpayer seeking relief: The creation of the entity and/or transaction structure is not motivated by reasons to take benefit of a tax treaty; The company has its own management to conduct business and such management has an independent discretion; The company employs sufficient qualified personnel; The company engages in active trade or business; The income earned is subject to tax; No more than 50 per cent of the company s income is used to satisfy claims by other persons (i.e. interest, royalties, other fees).

14 Singapore GAAR Highlights Singapore Section 33 of the Singapore tax code provides that the tax authority may disregard or vary the arrangement and make such adjustments as he considers appropriate including the computation or recomputation of gains or profits, or the imposition of liability to tax, so as to counteract any tax advantage obtained or obtainable by that person from or under that arrangement. Limitation of Relief ( LOR ) clauses in many tax treaties. Article 24: treaty benefits only granted when conditions are met e.g. Income is subject to tax in the Contracting State, under its domestic law, by reference to the amount of such income which is remitted to or received by the Contracting State and not with reference to full amount of the income earned 14

15 Vietnam s GAAR circular Vietnam s proposed test on who is NOT a beneficial owner: Use of substance over form test for the identification of abusive transactions Seven tests: As to substance of transaction 1. The applicant is due to distribute its profit to a third country within 12 months of receipt of the income. 2. The applicant has a back to back loan, royalty or technical service agreement with a third party. 15

16 Vietnam s GAAR circular cont d 3. The applicant does not carry out any particular business operations except for right to income from assets. 4. The applicant s assets, size of business and/or a number of employees do not correspond to an amount of income received, even though the applicant may have some business operations. 5. The applicant does not have any control, power or (has) a low risk over the assets, income and/or rights to future income. 6. The applicant is a resident of a low or no tax jurisdiction. 7. The applicant is formed as a special purpose vehicle solely for treaty shopping purposes. 16

17 The Vietnamese GAAR The GDT issued a circular introducing rules against abusive arrangements to obtain tax treaty relief or exemption (Circular 205/2013/TT-BTC dated 24 December 2013) Agreements or contracts are deemed to be abusive if their main purpose is solely or mainly to obtain treaty benefits Treaty relief or exemption will be denied if the recipient of the income is deemed NOT to be a resident of the treaty territory and the recipient is NOT the beneficial owner of the income 17

18 BEPS Action point 6 - treaty abuse LOB Clauses are drafted with the intention of avoiding treaty shopping Under the US treaties, relief is limited to qualified persons Example: publicly traded corporation or one engaged in the active trade or business Active trade or business does not include the making or management of investments. The shell companies have no legitimate business purpose beyond minimizing tax exposure. 18

19 1 Global Picture 19

20 Transfer pricing in the news Google Apple Starbucks Net revenues by Operating segment Earnings before income taxes (US) 5,311 4,963 4,948 23,733 13,538 7,590 1,679 1,523 1,308 Earnings before income taxes (Rest of the world) 8,075 7,633 5,848 39,883 26,838 15, Total 13,386 12,596 10,796 63,616 40,376 22,896 2,058 1,810 1,436 Taxes US Taxes 2,513 1,998 2,115 13,317 7,681 4, Foreign Taxes Total 2,871 2,246 2,282 14,030 8,283 4, ETR US ETR (state + federal taxes) 47.3% 40.3% 42.7% 56% 57% 58% 33% 27% 41% Foreign ETR 4.4% 3.2% 2.9% 2% 2.2% 1.1% 20% 13% 30% Global ETR 25,8% 21,7% 22,8% 24% 29,6% 29,5 26,5 20% 35,5% 20

21 BEPS Action 8 Intangibles are the biggest issue in transfer pricing Can be easily shifted around the world for tax advantage Action 8 attempts to put a stop to that: Development Enhancement Maintenance Protection Exploitation 21

22 BEPS Action 13 Masterfile To be prepared by parent company Local files To be leveraged from Masterfile, for local compliance Country by country reporting To gather limited information on value chain, such as the location and business activity in each tax jurisdiction, revenue, Profit Before Tax (PBT), tax paid (cash/accrued), capital, assets, employees etc For MNCs with turnover of EUR750 million or more in last fiscal year Includes 10-15% of MNC groups (90% of revenue) Filed in the country of the ultimate parent Tax authorities keep information confidential but may share with other tax authorities under Exchange of Information article in treaty 22

23 Economic substance paramount St Petersburg declaration: Companies should pay tax in the country where the real economic activity occurs and where the profit is earned. Quote from OECD Secretary General, Angel Gurría:. ensure that profits are taxed where economic activities occur and where value is created Economic reality Legal reality Accounting reality 23

24 Reactions in Asia Greater involvement in BEPS by developing countries outside OECD and G20 Unilateral actions taken by Asia tax authorities to bolster transfer pricing compliance in their local jurisdiction Documentation requirements growing Philippines, Vietnam, Malaysia Most tax authorities including Thailand - are monitoring BEPS carefully. While China has said it strongly backs the OECD's base erosion and profit shifting action plan, it is staking out its own position in some key areas in a bid to capture more taxes Prevalence of available tax and investment incentives in Asia Tax competition is alive and well 24

25 Agenda 2 Overview of proposed new TP Act 25

26 Current status May TP Guidelines (Paw.113/2545) enacted. A guideline only Suggested contemporaneous TP documentation. Submit upon request in TP investigation. May Draft TP Act Approved by Thai Cabinet. Expected to be enacted by end of the year/q Will amend the Revenue Code to implement measures to prevent tax evasion through TP. TP Investigations top of Government s agenda Following pace of other ASEAN countries More staff resources at TRD devoted to TP; large audits and adjustments are expected. 26

27 Framework of draft TP Act The framework of the draft TP Act stresses three points: 1. Firms with related party transactions are required to prepare TP documents. 2. TP Documents must be submitted within 150 days after the end of an accounting period. 3. If the taxpayer fails to submit the complete documents, it could lead to a penalty of up to THB 400,000 Baht. 27

28 How does it affect Thai companies? Proposed amendment to Thai Revenue Code ( TRC ): In the case where the two or more entities directly or indirectly related to each other through capital, through management or control (the supporting documents showing the relationship must also be submitted) who have agreed on commercial terms that do not meet the TP arm s length principle, the tax officer has the authority to apply the arm s length principle based on international standards on the related parties transactions which may result in : i) disallowance of expenses ; ii) assessment of additional income. 28

29 How does it affect Thai companies? Following an assessment from the tax office, taxpayers must submit the request for a tax refund within sixty (60) days from the assessment date or within 3 years from the last date of filing the corporate tax return as required under the TRC. This is to help eliminate redundant tax burden. The Revenue Department will issue a notification that specifies the procedures on how to calculate income and expenses amongst the related parties that follows the OECD guidelines that are stipulated in the Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations 29

30 Risk Factors Since 2006, there has been a significant increase in TP audit activity, led by the Large Taxpayer s Office ( LTO ). RED FLAGS Low Profits Compared to Competitors No Tax Payments for Extended Period of Time Thai Entity Significant Related Party Transactions Payment of Management Fees/ Royalty Fees Decline in Profits after Tax Holiday Period/ Business Restructuring Profits in BOI promoted business, but Loss in Non-promoted business activity Change in Pricing Policy Fluctuations in Profits from Year to Year 30

31 Agenda 3 Documentation strategy 31

32 Documentation only part of a process Input: Company s business model Output: Manageable transfer pricing system Design Document Defend 32

33 Documentation: what is it? TP Report Contents 1 Executive Summary 2 Introduction 3 Company Analysis 4 Industry Analysis 5 Functional Analysis 6 Transfer Pricing Policy 7 Application of Most Appropriate Methodologies 8 Conclusion Analysis of functions, assets and risks Enables functional classification of taxpayer Selection of tested party Information used for selection of comparable companies Selection of most appropriate methodology for transaction Review price-setting as well as price-checking Selection of database Selection of industry codes Selection of appropriate geographic region to search Qualitative selection of comparable companies Selection of period of analysis Selection of profit level indicator (PLI) Use of inter-quartile range and other statistical techniques 33

34 Documentation: risk-based approach Type of Transaction Recharge of Costs Management / Support Services Management / Support Services Royalty Sale of Goods Sale of Goods to Loss-maker Number of countries involved Transaction amount US$1m US$10m US$50m US$50m US$500m US$100m Risk rating Documentation recommended Invoice X X X X X X Legal agreement X X X X X Summary TP report X Masterfile X X X X w country risk analysis X X X X w maintenance & disclosure manual X X X X Localisation of Masterfile X X Additional analysis w other methodologies w in depth industry analysis w loss justification paper X X X 34

35 Why do you want documentation? Mandatory? Reduces chance of review/audit and generally shifts burden of proof to tax authority Penalty mitigation in event of adjustment First line of defence, if position is queried Ensures access to MAP/APA program Evidence of good tax processes and corporate governance Helps to avoid surprises know your weak points 35

36 Cost effective documentation Design before documentation What documentation do you have available in the group? What resources are available internally? What are the highest risk transactions? Proactive vs reactive approach Benchmarking strategy Early preparation is key! 36

37 Agenda 5 Case Studies 37

38 Case study 1 Parent company US Sale of components Domestic third party suppliers Thailand subsidiary (manufacturing and local sales) Domestic third party customers Highly profitable product due to technology developed by US parent Customers attracted to brand and innovative nature of product Component purchases are a small proportion of total COGS Large profit in Thailand 38

39 Case study 1 - solution Do nothing higher tax in Thailand dividend to US TP risk in US Increase component price Thailand customs duty Price distortion Thailand TP risk Introduce royalties and service fees Best reflects economic reality Withholding tax? Creditable in US? Manages TP risk on both sides 39

40 Case study 1 action needed Royalty need documentation to support that: US parent is economic owner of the intangibles i.e satisfies DEMPE test Thailand company has not contributed to those intangibles Thailand company benefits from access to those intangibles Service fees need to demonstrate that: Services are provided that benefit Thailand entity e.g. sales increase or cost decrease Not duplication of existing services Price is arm s length 40

41 Case study 2 US Parent Company OM: 1% Thailand subsidiary Indonesia subsidiary Cambodia subsidiary OM: 12% OM: -4% OM: 3% Domestic third party customers Domestic third party customers Domestic third party customers 41

42 Case study 2 what is the problem? Transfer pricing risks: Why is Indonesia in losses? Why is profit so high in Thailand? Why is US entity only making negligible profit margin? Tax optimization: Trapped tax losses in Indonesia Inefficient profit repatriation 42

43 Case study 2 solution What is the economics of the business: Key decisions and intangibles are in US entity Pricing is based on price list standardized across the region Subsidiaries have small sales teams only Therefore, what is correct TP model: Subsidiaries should earn a routine margin for their efforts (perhaps 2-4%) Subsidiaries should not make losses except perhaps in first 1-2 years Residual profit should be recognised in US 43

44 Case study 2 action needed Benchmark arm s length profitability of subsidiaries Document activities of subsidiaries and of US parent company to support revision of model and to support that business is driven from Thailand Explain change in business model in separate document for internal record Prepare intercompany agreements to support new pricing structure 44

45 An award winning practice Most Innovative ASEAN Law Firm Myanmar Law Firm of the Year Project Finance Deal of the Year Project Finance Deal of the Year 45

46 Thank you Jack Sheehan Partner, Regional Tax Practice Group Steven Carey Managing Director - Asia, Quantera Global s.carey@quanteraglobal.com Emvalee Chiarapurk Senior Tax Manager, Thailand emvalee@dfdl.com 46