Canada: Navigating BEPS: What The Tax Function Of Today Needs To Know For Tomorrow

  The Organisation for Economic Co-operation and Development (OECD) has described  its newly unveiled Base Erosion and Profit Shifting (BEPS) Action Plan as a "change of  paradigm."1 A few very large global groups aside, a more apt description may be a minefield  for the unwary.

  BEPS has received considerable air time over the  past few years, to the extent that there is a fear that  businesses have become detached from the process.  But it's now that they should be critically appraising  their current structures to make sure they are fit for  purpose in the post BEPS environment. Heads of  tax are facing headaches: divergences in domestic  legislation, archaic tax authority dispute resolution  mechanisms and an eagerness from tax authorities  around the globe to ensure they collect their "fair  share" of tax.

In this article we look at the practical impact of  the OECDs recommendations and the key issues  that should be on your radar as a tax function and  head of tax. We explore how to address these issues  and the risks and opportunities they create. We also  look at how the tax role within the business is likely  to change and the opportunities that this presents.

Businesses are still uncertain of the next steps.  The central challenge is dealing with what will  be marked variations in how the 15 actions are  interpreted and the timing of implementation in the  locations where your business operates. Divergence  is likely to be heightened by the fact that while  there are some red lines that need to be consistently  applied, the bulk of what's been announced are  recommendations rather than hard rules.2

Clarity over tax liabilities is a vital part of a  business's ability to plan for the future and invest in  growth. Yet at a time when tax is more scrutinized,  politicized and emotive than ever, it's becoming  increasingly difficult for businesses to know they're  on the right track. The dilemmas are heightened by  the fact that the question is no longer just whether  a business is acting within the law, but whether  it ought to pay more. Tellingly, our quarterly  International Business Report (IBR) survey  found that 75% of participants would welcome  more global co-operation and guidance from tax  authorities on what is acceptable and unacceptable  tax planning, even if this provided less opportunity  to reduce tax liabilities.3

So will the BEPS recommendations bring clarity?

The finalized Action Plan does set some minimum  standards in areas where a lack of application  could create an uneven playing field. These include  country-by-country (CbC) reporting and measures  to combat harmful tax practices, prevent treaty  shopping and improve dispute resolution. The  remaining proposals are less prescriptive. And as it  is national legislatures rather than the OECD that  enact laws and tax treaties, the room for variations in  local interpretation and application is considerable.  The proposed limitations on interest deductions  are a case in point. The OECD recommends a  restriction on interest deductions over a certain  percentage of profits (between 10 and 30%) but they  leave the exact ratios and implementation to national  governments to decide. Nevertheless, by effectively  removing the arm's length principle for financing,  this action could be costly and have significant  implications for your tax management.

Action: The BEPS Action Plan indicates that some operational restructuring and adjustments to transfer pricing may be required by businesses. But given the current uncertainty it would be beneficial to model the different outcomes and develop clear contingency plans rather than taking hasty action now.


What about non-OECD states?

The entire G20, including countries outside the  OECD such as India and China, has agreed to bring  in CbC reporting for large groups. There will also be  a requirement for groups to prepare a central master  file as well as local transfer pricing reports. Of the  non OECD G20 countries, China in particular has  been an active contributor to the BEPS Action plan  and is codifying a majority of BEPS concepts in its  new domestic transfer pricing legislation.4 These are  notable steps forward in international harmonization  and other countries in the Asia Pacific region are  looking to follow China's lead. But regarding other  measures, the non-OECD states are likely to pick  and choose rather than enacting the Action Plan in  its entirety.

Headaches and dilemmas

This patchwork of different local rules is clearly an  administrative challenge for you and your team. The  uncertainty is compounded by what will eventually  be multiple compliance arrangements.  You also face tough strategic questions. Once  in place, the newly enacted legislation may require  shifts in tax policy and movements in people,  operations and tax location. But what changes you  make and when you put them in place very much  depends on how the proposals are applied in your  different operating territories.

In the line of fire

Further challenges centre on how the new measures  will be used by local tax authorities. In particular, a  lot of countries believe that they should be entitled  to more tax revenue. BEPS recommendations, if  implemented, will see shifts in liabilities towards  where value is created (substance). The result  is almost certain to be an increase in inter-state  disputes as authorities vie over the taxing rights.  If countries can't agree, there will be a real risk of  double taxation. Many of the countries within the  G20 have signed up to the OECDs proposals on  binding arbitration,5 though how effective these  prove to be in practice and how long disputes may  take to resolve, remains to be seen.

Your risk of being targeted by tax authorities is  heightened by the enhanced transparency brought  in by CbC reporting, which will initially apply to  groups with a turnover greater than 750 million  Euros. The danger is that the reports are approached  as simply a compliance exercise without thinking  about how their disclosures might be viewed and  used by the tax authorities. For example, a local  tax authority could compare the headcount to the  amount of tax being paid in its jurisdiction and  conclude that it's missing out on its rightful share of  the overall tax take.

There may be legitimate reasons why the  headcount is at odds with the tax paid. For example,  a dozen top designers or IT gurus in one country  may generate more value than hundreds of people  assembling or packing the resulting products in  another location. Unfortunately, tax authorities may  simply divide the tax take by the headcount and  come to a different conclusion.

Action: We believe that interest rate deduction is one of the grey areas where your tax teams should model the implications of different levels of deductions, and consider how to deal with the varying outcomes. However, it would be unwise to make wholesale changes before you know what fixed ratio each of the legislatures settles on.

The transfer pricing reporting changes do not  have a specific threshold and many countries do not  even have exemptions for small- and medium-sized  enterprises. It is also worth noting that the scope  of CbC reporting in future years will probably be  expanded, the exemption threshold reduced, and  these reports may eventually become public.

Action: It's vital that you identify any risks in how your CbC disclosures will be assessed in each jurisdiction and proactively prepare to defend potential threats.


Shifting focus of the head of tax

While the impact of the BEPS recommendations will  vary from business to business, the way you manage  tax and your role within the business will change  quite significantly.

1. Demonstrating substance To demonstrate and justify that the tax being paid reflects where you've created value, there needs to be sufficient people, intellectual property generation and risk bearing capacity in the tax location. Broadly, this will shift the evaluation of tax liabilities from risks/assets to people/functions and from transfer pricing at a transaction to an enterprise-wide level.

2. From tax rate to tax risk Reflecting the spotlight now imposed on tax, your primary objective is likely to shift from developing ways to reduce the effective tax rate, to assessing the risks of tax arrangements and advising boards on the balance between tax plans to reduce costs with the potential for audits and reputational damage.

The focus on substance will bring you to the  forefront of strategic decision making. It will  no longer be possible for business teams to plan  acquisitions, operational investments and new  business ventures, and then ask you and your  team to make it work from a tax perspective.  You will need to take an active part in these  strategic discussions and decisions from the  outset.

This more business-facing role is likely to  require different talents and stronger engagement  with the business and understanding of its  markets and commercial priorities. The challenge  is how you can meet these changing demands  when there is often no corresponding increase  in departmental budgets. This in turn underlines  the importance of explaining the changes  and ensuring your business understands the  competitive implications.

Action: At the very least, it's important to provide your board and business teams with regular communications about how the BEPS recommendations will affect the business' strategy and operations.

3. Taking the lead in restructuring The need to demonstrate real substance will make it harder to justify the concentration of income for tax in jurisdictions with limited infrastructure, talent and intellectual capital. The winners are likely to be countries that can support substance, while offering a reasonably favourable tax environment for businesses to thrive and grow. The losers won't only be countries within which it is difficult to justify substance, but also those adopting aggressive tax collection strategies (e.g., wide use of punitive withholding taxes).

Action: Uncertainty over the final direction of BEPS and the wider tax regime will continue. But substance can't be changed overnight. So it's important to start planning any necessary relocation or restructuring as soon as you can.

4. New objectives and key performance indicators (KPIs) Your objectives and KPIs will go beyond reducing the effective tax rate to include the effectiveness of risk evaluation and control.

How important will tax planning be in this new environment?

Pascal Saint-Amans, the director of the OECD's  Centre for Tax Policy and Administration, believes  that the BEPS project will help to make tax planning  "marginal" rather than 'a core part of business  models."6 But no business should pay over the odds.  Therefore active planning will remain a central part  of your role, albeit focusing on the right location  and structure rather than some of the more complex  strategies seen in the past.

New regime, new role

The OECD's announcement of its finalised BEPS  Action Plan is the beginning rather than the end of  the journey. CbC reporting aside, it could be at least  three years before we see even a measure of certainty  over how the different actions will be applied in  particular territories. Nonetheless, the question is  how much change there will be, not least in what the  business expects from you as head of tax.

Your priorities include how to manage the risks  and advise boards on how the shift in international  tax rules are likely to impact key strategic decisions.  This will demand closer collaboration with business  teams to understand where and how value is created,  along with new skills and KPIs to support this. This  is also an opportunity to increase influence within  the business and carve out a more strategic role for  you and your team.

Footnotes

1 The Economist, 10 October 2015.

2 For more information on the implications of each of the 15 articles in the  Action Plan please see http://www.grantthornton.co.uk/en/insights/base-erosion-and-profit-shifting-beps-action-plan-what-does-it-mean-for-you

3 Business leaders renew appeal for clarity on 'acceptable' tax planning – Grant Thornton International Ltd.

4 Draft legislation was released in China for public consultation on 16 October 2015 with a finalised version expected to be announced by the end of 2015 or early 2016. While changes are possible, all the fundamental BEPS measures as reflected in the public consultation draft will probably remain intact.

5 One notable exception being China.

6 The Economist, 10 October 2015.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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