Ef­fect of base ero­sion and profit shift­ing steps

Business Day - Business Law and Tax Review - - BUSINESS LAW & TAX REVIEW -

ON JULY 17 2013 the Davis Tax Com­mit­tee was es­tab­lished. One of its sub­com­mit­tees was man­dated to in­ves­ti­gate base ero­sion and profit shift­ing (BEPS).

The Davis Tax Com­mit­tee sub­mit­ted its first in­terim re­port on BEPS in Septem­ber 2014. This re­port dealt with seven of the 15 ac­tions iden­ti­fied by the Or­gan­i­sa­tion for Eco­nomic Co-op­er­a­tion and De­vel­op­ment (OECD). The Davis Tax Com­mit­tee then asked for pub­lic com­ments in May last year in re­spect of its se­cond in­terim re­port on the re­main­ing eight ac­tions.

In Oc­to­ber last year the OECD re­leased its fi­nal re­port on all 15 ac­tions. This re­port cov­ers a wide range of top­ics in­clud­ing hy­brid mis­matches, per­ma­nent es­tab­lish­ment is­sues, trans­fer pric­ing as well as other re­ports on a range of top­ics.

The ques­tion is how th­ese OECD ac­tions will im­pact on South African tax­pay­ers. There are var­i­ous ways in which this will oc­cur.

First, to the ex­tent that the OECD ac­tions are en­dorsed by the Davis Tax Com­mit­tee and then, if its rec­om­men­da­tions are ac­cepted, are en­acted into South African do­mes­tic tax law by way of amend­ments to the In­come Tax Act.

Se­cond, to the ex­tent that the OECD ac­tions re­sult in amend­ments to dou­ble tax agree­ments to which SA is a party or re­sult in amend­ments to the OECD Com­men­tary on the Model Tax Con­ven­tion. Th­ese will af­fect South African tax­pay­ers as part of the body of pub­lic in­ter­na­tional law.

This will likely oc­cur both by way of amend­ments to ex­ist­ing dou­ble tax agree­ments as well as the in­tro­duc­tion of a mul­ti­lat­eral in­stru­ment that would have the ef­fect of a re-ne­go­ti­a­tion of SA’s many dou­ble tax agree­ments. The idea in re­spect of the mul­ti­lat­eral in­stru­ment is that it re­places the need for SA to ap­proach each of its tax treaty part­ners and en­ter into ex­ten­sive and lengthy ne­go­ti­a­tions with each of those par­ties.

Third, to the ex­tent that the ac­tions are ac­cepted by the ju­ris­dic­tions in which South African tax­pay­ers have sub­sidiaries or other forms of tax­able pres­ence since the tax treat­ment of such sub­sidiaries will be in ac­cor­dance with the rel­e­vant ac­tions.

Take just one of the ac­tions cov­ered by the OECD and Davis Tax Com­mit­tee, namely “hy­brid mis­match ar­range­ments”.

Th­ese es­sen­tially iden­ti­fied three types of hy­brid ar­range­ments — hy­brid en­ti­ties, hy­brid trans­fers and hy­brid in­stru­ments.

It is in­ter­est­ing that in var­i­ous re­spects South African do­mes­tic tax law has al­ready taken ac­count of cer­tain hy­brid mis­matches. For ex­am­ple the def­i­ni­tion of a “for­eign part­ner­ship” es­sen­tially pro­vides that if an ar­range­ment is treated as tax trans­par­ent in an­other ju­ris­dic­tion it will also be trans­par­ent from a South African tax law per­spec­tive and will there­fore con­sti­tute a “com­pany” as de­fined in sec­tion 1 of the In­come Tax Act.

The def­i­ni­tion of a “for­eign div­i­dend” also looks to the for­eign tax law (or com­pany law) to de­ter­mine whether a pay­ment is viewed as a div­i­dend or sim­i­lar pay­ment. If so it will be treated as a for­eign div­i­dend for South African tax pur­poses.

A for­eign div­i­dend is not ex­empt from South African tax in cir­cum­stances where that pay­ment is tax de­ductible in the other ju­ris­dic­tion.

Sec­tion 23M to some ex­tent deals with cir­cum­stances where in­ter­est is de­ductible by a South African tax­payer, but such in­ter­est is not sub­ject to tax in the ju­ris­dic­tion of the len­der. In th­ese cir­cum­stances, where the len­der forms part of a con­trol­ling group with the South African tax­payer a ra­tio is ap­plied to limit the quan­tum of the de­duc­tion by the South African tax­payer.

The OECD ac­tion on hy­brid mis­match ar­range­ments states that, as a pri­mary rule, pay­ments should not be de­ductible in one ju­ris­dic­tion if they are not in­cluded in the (tax­able) in­come of the tax­payer in the other ju­ris­dic­tion. As a de­fen­sive rule (ie in cir­cum­stances where a ju­ris­dic­tion does al­low a de­duc­tion for such pay­ments) then the other ju­ris­dic­tion should not ex­empt such pay­ments from tax.

Var­i­ous ju­ris­dic­tions are in the process of in­cor­po­rat­ing th­ese rules into their do­mes­tic tax law. They will there­fore not pro­vide a tax de­duc­tion for pay­ments made to South African tax­pay­ers in cir­cum­stances where such South African tax­pay­ers are ex­empt from tax on th­ese pay­ments.

In con­clu­sion, amend­ments have al­ready been made to the In­come Tax Act to deal with hy­brid mis­match ar­range­ments and there is no doubt that more amend­ments will be in­tro­duced over time.

How­ever, tax­pay­ers should also keep an eye on amend­ments in re­spect of dou­ble tax agree­ments and other amend­ments to in­ter­na­tional pub­lic law af­fect­ing South African tax­pay­ers as well as amend­ments made by other ju­ris­dic­tions to their do­mes­tic tax law which will im­pact on multi­na­tional groups of com­pa­nies.

OECD’s re­port on ac­tions in­clude amend­ments to dou­ble tax agree­ments

Peter Dachs and Bernard du Plessis are di­rec­tors and joint heads of ENSafrica’s tax depart­ment.

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