Canada: OECD Work Program To Address The Digitalized Economy

Last Updated: August 16 2019
Article by Yongchong Mao

On May 31, 2019, as one of the main areas of focus of the ongoing work on the Base Erosion and Profit Shifting ("BEPS") project, Members of the OECD/G20 Inclusive Framework on BEPS ("Framework") took a major step forward with the agreement on the Programme of Work to Develop a Consensus Solution to the Tax Challenges Arising from the Digitalisation of the Economy. This Programme of Work provides detailed instructions to the Framework and its technical working groups to deliver a solution to the tax challenges brought by digitalization. This work focuses on two pillars:

  • The first pillar relates to the allocation of taxing rights, and seeks to undertake a coherent and concurrent review of the profit allocation and nexus rules
  • The second pillar focuses on the remaining BEPS issues, and seeks to develop rules that would provide jurisdictions with a right to "tax back" where other jurisdictions have not exercised their primary taxing rights or the payment is otherwise subject to low levels of effective taxation.

Pillar 1: Revised Profit-Allocation and Nexus Rules

Three proposals were articulated to develop a consensus-based solution on how taxing rights on income generated from cross-border activities in the digital age should be allocated among jurisdictions:

  • user participation (in media through user-generated content and social networking)
  • marketing intangibles; and
  • significant economic presence.

The work program sets out the necessary steps to develop the proposals:

  • different approaches to determine the amount of profits subject to the new taxing right and the allocation of those profits among jurisdictions;
  • a new nexus rule that includes a concept of taxable business presence in a market jurisdiction without physical presence requirements; and
  • full implementation and efficient administration of any new taxing right, including the effective elimination of double taxation and the resolution of tax disputes.

New Profit-Allocation Rules

Three different methods are under consideration:

  • Modified residual profit-split ("MRPS") method: the MRPS method allocates a portion of an MNE group’s non-routine profit to jurisdictions to reflect the value created in markets that is not recognized under the existing profit allocation rules. It involves four steps: (i) determine total profit to be split; (ii) remove routine profit, using either current transfer pricing rules or simplified conventions; (iii) determine the portion of the non-routine profit that is within the scope of the new taxing right, using either current transfer pricing rules or simplified conventions; and (iv) allocate such in-scope non-routine profit to the relevant market jurisdictions, using an allocation key.
  • Fractional apportionment method: The amount subject to a new taxing right is calculated by determining the profit to be allocated to market jurisdictions without any distinction between routine and non-routine profit, and by selecting allocation keys such as location of employees, assets, sales, or users.
  • Distribution-based approaches: Simplified methods are being considered, including rules to specify a baseline of the profits attributable to marketing, distribution, and user-related activities, which would allocate a proportion of total (routine and non-routine) profits to market jurisdictions.

A number of other issues will be considered in determining the appropriate profit-allocation rules for a MNE group, including whether the rules should be applied based on business lines and/or geographic regions, and the treatment of losses.

New Nexus Rules

The development of new concepts to allow market jurisdictions to exercise taxing rights will be explored, including the following:

  • remote taxable presence (without a traditional physical presence) and a new set of standards for identifying when such a remote taxable presence exists; and
  • taxable income sourced in (derived from) a jurisdiction.

A new nexus rule could be achieved through the amended ”permanent establishment” ("PE") definition in article 5 of the OECD model tax treaty: a PE may be deemed to exist if a group has a remote, yet sustained and significant, involvement in the economy of a country. Alternatively, a new stand-alone rule establishing a new nexus may be introduced.

Implementation of the New Taxing Right

Many issues related to the elimination of double taxation and the avoidance and resolution of disputes in relation to the new nexus and profit allocation rules must be considered.  These issues are expected to include:

  • The effectiveness of the existing treaty provisions and the need to develop new or enhanced, treaty provisions;
  • The interaction between any new taxing right and existing taxing rights (such as withholding taxes on royalty payments or payments for services);
  • The current dispute prevention and resolution procedures, in the context of the new nexus and profit allocation rules; and
  • The consideration for multilaterally coordinated risk assessment in applying the new nexus and profit allocation rules.

Enforcement and collection arrangements will be considered, for example, if the tax liability is assigned to an entity that is not a resident of the taxing jurisdiction. Any changes are expected to result in the need for new data, documentation, and reporting obligations. One option being considered to assist with the administration of the new taxing rights is a system based on, and supplementary to, the existing framework and technology used for the exchange of country-by-country reports.  Any necessary tax treaty changes may be effected through the Multilateral Convention To Implement Tax Treaty Related Measures To Prevent Base Erosion and Profit Shifting ("MLI") or through a new multilateral convention.

Pillar 2: Global Anti-Base-Erosion Proposal

The global anti-base erosion ("GloBE") proposal seeks to address remaining BEPS risk of profit shifting to entities subject to no or very low taxation.  The proposal consists of two interrelated elements:

  • an income inclusion rule that would tax the income of a foreign branch or a controlled entity if that income was subject to tax at an effective rate that is below a minimum rate; and
  • a tax on base eroding payments that would operate by way of a denial of a deduction or imposition of source-based taxation (including withholding tax), together with any necessary changes to double tax treaties, for certain payments unless that payment was subject to tax at or above a minimum rate.

Income Inclusion Rule

An income inclusion rule taxes the profits of a foreign-controlled entity or branch if that profit was subject to a low effective tax rate:

  • A shareholder is required to bring into account a proportionate share of the profit of that company. The rule supplements existing controlled foreign company ("CFC") rules.
  • A switchover rule that would allow the state of residence to apply the credit method instead of the exemption method where the profits attributable to a PE or derived from immovable property (which is not part of a PE) are subject to tax at an effective rate below the minimum rate.

The work program examines the use of a fixed-percentage tax rate for the minimum rate. It is contemplated that the rule would operate as a top-up to the minimum rate of tax, although low-taxed profits benefiting from a harmful preferential regime may be taxed at the higher of the minimum rate and the full domestic rate.

Additional areas identified for further exploration include:

  • possible uses of carve-outs for regimes compliant with the OECD BEPS standard on harmful tax practices and in other circumstances;
  • consideration of the effects of blending—that is, the mixing of high-tax and low-tax profits to arrive at a blended rate that is above the minimum rate;
  • coordination with other international tax rules, including withholding taxes, transfer pricing, and CFC rules;
  • coordination between countries if, for example, a tiered ownership structure involves several countries; and
  • rules for ownership thresholds, the attribution of profits to shareholders, the calculation of tax paid on profits, and the calculation of investors’ tax liability.

Tax on Base-Eroding Payments

The second element proposed sets out a tax on base-eroding payments:

  • An undertaxed payments rule that would deny a deduction or impose source-based taxation for a payment made to a related party if that payment was not subject to tax at a minimum rate; and
  • A complementary subject-to-tax rule is incorporated into tax treaties. The rule denies treaty relief otherwise available to undertaxed payments, such as relief under the interest and royalty articles.

Next Steps

A steering group will lead the overall project, various working parties will provide technical input, and the OECD secretariat will conduct the economic analysis and impact assessment of the proposals. There will likely be a stakeholder consultation in the fall, and a progress report is expected in December 2019. The goal is to achieve political agreement on the architecture of a consensus solution at the beginning of 2020. Work will continue on agreeing to the policy and technical details, and a final report is expected to be delivered by the end of 2020.

The changes, when agreed on, will require significant amendments to existing tax treaties, the OECD transfer pricing guidelines, rules for the attribution of profits to PEs, and domestic legislation. As a result, it is likely to be some time before any new rules are implemented effectively.

The work program will require significant resources from the 129 governments participating in the OECD Inclusive Framework. Key objectives for governments and business interests alike are that any new rules should be clear and provide certainty but avoid double taxation, and that there should be a consistent global framework that fosters international economic growth and cross-border trade.

The foregoing provides only an overview and does not constitute legal advice. Readers are cautioned against making any decisions based on this material alone. Rather, specific legal advice should be obtained.

© McMillan LLP 2019

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Similar Articles
Relevancy Powered by MondaqAI
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
 
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Mondaq Free Registration
Gain access to Mondaq global archive of over 375,000 articles covering 200 countries with a personalised News Alert and automatic login on this device.
Mondaq News Alert (some suggested topics and region)
Select Topics
Registration (please scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions