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Direct Tax

Sweden proposes new 'risk tax' for banks

[Excerpts from Reuters and Sveriges Radio]

The introduction of a special bank tax has been previously discussed. A bill was footed this month, to raise funds in the event of another financial crisis. Risk Tax, expected to come into effect in 2022, is aimed to strengthen public finances and create space to cover the costs that a crisis in the financial system entails. The proposal is expected to increase tax revenues by approximately USD 568 million in 2022. Foreign banks active in Sweden shall not fall outside the ambit of such tax. The proposal also suggests amendments and additions to the Foreign Tax Credit provisions in case the foreign tax has been paid within the group to another state within the European Economic Area.

Risk Tax has been introduced for larger banks and credit institutions with debts exceeding a specified threshold. The tax rate is set at 0.06% of a certain tax basis for financial years commencing on or after 1 January 2022 and is suggested to increase to 0.07% for financial years commencing on or after 1 January 2023. According to the proposal, the provisions shall enter into force as of 1 January 2022 and be effective on financial years commencing on or after 1 January 2022.

Risk Task has been assessed to affect 21 credit institutions representing 9 different groups.

The Netherlands looks to close more tax loopholes for multinationals

[Excerpts from the New York Times]

In 2017, the Netherlands ranked fourth worldwide in the amount of foreign direct investment into the country. Aggressive planning strategies allow big multinationals, like Google and Ikea, to move global profits through Dutch subsidiaries and drastically lower tax payments. The Finance Ministry submitted a proposal to the Parliament aimed at shutting down benefits that made the Netherlands a magnet for international corporations like Netflix, Nike and Uber. The Netherlands plans to levy a tax on profits transferred to tax havens and mend inconsistent national laws, which allow corporations to take the same deduction twice.

The new rule would prevent multinational firms from deducting foreign losses in the Netherlands as a way to pay little or no tax there. Multinationals with Dutch entities could see an end to several more loopholes with the government's multi-year efforts to clamp down on corporate tax avoidance.

Japan mulls reforms to lure foreign financial firms

[Excerpts from Taipei Times]

In annual policy guidelines, the Financial Services Agency considers tax reforms to improve the country's standing as a global financial center. Tokyo ranked 3rd in Z/Yen Group's rankings of global financial centers published in March. While Japan has sought foreign professionals for years, issues of relatively high tax rates and lack of English-language fluency in the workplace have to be tackled. Japan comprehensively considered concrete ways akin to human resources development, tax reform, and budgetary measures.

Japan has raised the sales tax as part of efforts to rein in the country's huge debt, which, at twice the size of its economy, is the biggest among major advanced economies. Raising sales tax to 10% from 8% in October last year pushed Japan's economy into recession, even before COVID-19 hammered consumption and exports this year. The sales tax is a source of revenue to pay for Japan's social welfare burden.

The debt-equity bias – European Union

[Excerpts from Law 360]

European Union is contemplating the examination of the distinctness of treatment of debt and equity for withholding tax relief purposes. A draft of the European Capital Markets Union action plan highlighted the need to prevent explicit or implicit barriers to cross-border investment within the European Union.

The returns on investment are taxed in both, the countries of investment and the investor. The reimbursement of taxes is a lengthy and costly process and often presents as an obstacle. The EU may adopt a common, standardized, EU-wide system for withholding tax relief at source in order to lower costs for cross-border investors and prevent tax fraud and is expected to put forward a legislative initiative by Q4 2022.

Transfer Pricing

Frequently Asked Questions released by North Carolina Department of Revenue for the speedy redressal of taxpayers issues concerning inter-company pricing

An initiative, i.e., 'Transfer Pricing Resolution Initiative,' for the speedy redressal of issues concerning intercompany pricing, was introduced by the Revenue Department of North Carolina (hereinafter referred to as the 'Department' or 'Revenue') in August 2020. Further, in order to simplify the understanding and interpretation of the said initiative, the Department released a set of Frequently Asked Questions (FAQs).

The program is voluntary in nature, and the participants have to fill in a form and submit to the Department or the Auditor if they are undergoing an audit to participate in the scheme. The following are some key highlights of the program:

  • The scheme will be effective from August 2020 to December 2020 only. No further extensions are expected;
  • Being a voluntary scheme, taxpayers willing to participate will have to submit the documents relating to transfer pricing, financial data, tax information to the Department by 15 October 2020;
  • The taxpayers undergoing an audit, as well as those under review, will be eligible to participate. Further, taxpayers who believe that the transfer pricing policy adopted by them is strong enough and does not need any adjustment also can participate in confirming the same;
  • The routine statutory procedures will take place for the taxpayers under audit or review if there is no mutual agreement derived postimplementation of the scheme guidelines;
  • The taxpayers will lose their right to appeal if they reach an agreement with the Department at the end of this scheme. However, if the decision is otherwise not acceptable to the taxpayer and there is no mutual consent, the right to appeal is retained;
  • In order to derive a settlement agreement, the revenue may take the assistance of external consultants. The settlement agreement will clearly mention the due date of payment of the balances;
  • The objective of the scheme is to settle all the issues of the corporates. Nevertheless, in some cases, the Department may settle the transfer pricing issues, only allowing the other issues to be in the ambit of the routine statutory processes

Some of the important points for Arm's Length Debt Test are as under:

  • The taxpayers are required to determine the Arm's Length Debt Test (ALDT) basis for the commercially reasonable position of stand-alone Australian business.
  • The taxpayer may use the fair market value of assets for performing ALDT analysis.
  • Further, taxpayers are expected to maintain appropriate documentation to justify as to how they arrived at arm's length debt amount
  • While rules are required to conduct ALDT, it could be different from arm's length capital structure for transfer pricing purposes.
  • Additionally, Practical Compliance guidance provides ATO's approach to Arm's Length Debt Test and risk assessment framework for the taxpayer to self assess its level of risk.

Our Comments

By introducing this initiative, the Department has attempted to settle maximum possible transfer pricing issues within a given time frame and created a win-win situation for the taxpayer and the department, both in terms of time and revenue.

This exercise will prove helpful for an early collection of revenue. However, if there is a mutual disagreement between the Department and the taxpayers, it might result in unproductive consumption of time and effort.

Inland Revenue Authority of Services (hereinafter referred to as 'IRAS' or 'Revenue'), Singapore releases TP Guidelines in light of the ongoing pandemic of COVID-19.

The COVID-19 pandemic has resulted in a worldwide disruption of business operations leading to loss situations in the majority of the businesses. The IRAS has provided certain guidelines on transfer pricing requirements to be fulfilled by the businesses so as to avoid litigations in the times to come.

The guidelines predominantly elaborate on the difficulties that might be faced by the business in preparing the documentation, the need, and the base for term testing, APA arrangements, etc. The key takeaways from the guidelines are as follows:

TP Documentation

In light of the potential COVID-19 impact, companies are advised to provide additional qualitative information in their transfer pricing documentation to substantiate the arm's length nature of their transfer pricing outcome. The list of additional qualitative details include:

  • Effect of COVID-19 on the industry and the impact on the taxpayer;
  • Decision-making authority for the management of risks related to COVID-19;
  • Comparative functional analysis of before and after COVID-19;
  • Highlight whether related-party arrangements have been modified in light of COVID-19;
  • Comparison of budgeted results versus actual results and an explanation of any key variances due to COVID-19 (with supporting evidence);
  • Justification of the negative impact of COVID-19 on the profitability with explanations and evidence;
  • Specify if there has been any COVID-19 specific government assistance received or any impact of government regulations imposed on the operations.

Term Testing

Taxpayers were required to consult the IRAS before applying term testing (combining multiple-year financial results as against annual results). In light of the potential impact of COVID-19, taxpayers are advised that they need not consult the IRAS for application of term testing if the annual testing may result in volatile results due to the impact of COVID-19. This has been suggested with the following key points:

  • The rationale for the usage of term testing is to be substantiated with evidence that would complement the other documentation (as per points mentioned under Transfer Pricing Documentation);
  • Explain clearly how the term-testing was applied;
  • Highlight that this is a once-off event for the Year of Assessment 2021;
  • Consider the corresponding impact of this approach on related parties in other jurisdictions.

Advance Pricing Agreement (APA)

New APA Applications

Even during COVID-19, the taxpayer may file for a new APA application.

APA Applications in Progress

The taxpayer should assess whether there are any transfer pricing implications arising from COVID-19, which may impact the APA application (such as - changes in the functional profile of the covered entities). If so, the taxpayer is encouraged to provide the relevant details to IRAS as soon as possible.

Existing APA agreement with IRAS in light of COVID-19

The taxpayer should review and assess whether there is any breach of the terms and conditions in the existing APA agreement. In the event there is such a breach in the critical assumptions, they should notify IRAS as soon as possible:

  • providing an analysis of the impact as a result of COVID-19;
  • explain why the terms and conditions have been breached;
  • suggest the next course of action.

Renewal of Existing APA

Where there is an existing APA that covers the COVID-19 period, the taxpayer should evaluate if the business operations and economic performance are not significantly impacted by COVID-19. In case of any significant impact, the taxpayer may choose to consider filing a new APA application rather than a renewal. In the event of doubt, it is suggested to approach the IRAS for an early discussion

Our Comments

MNEs need to chart out their path for aligning transfer pricing considerations arising from this unprecedented and exceptional COVID-19 situation. An integrated approach that covers group-level as well as country-specific assessments, will effectively facilitate this process. The transfer pricing impact of such assessment and re-alignment in the transfer pricing structure should be documented, which is reinforced with the IRAS guidance.

The IRAS has provided relevant guidance regarding transfer pricing documentation in the COVID-19 scenario. We can expect other jurisdictions to follow suit in due course. It is in the interest of MNEs to be proactive and start collating relevant quantitative as well as qualitative points that can assist in justifying any changes in transfer prices/re-alignment in FAR, etc. in their transfer pricing documentation.

Taiwan Ministry of Finance (MOF) introduced a draft amendment to TP rules based on BEPS Action Plans 8-10

The MOF released guidelines which emphasize on the actual risks assumed and intangible assets employed by the business. The focus of this amendment is the disclosure of step-by-step risk analysis, the alignment of functional analysis of intangible assets with profit attribution, and the application of a lower threshold penalty for a failure to disclose.

BEPS Action Plans 8-10's Final Report: Aligning Transfer Pricing Outcomes with Value Creation, and on the 2017 amendment on Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations form the pillars of this amendment.

As per the guidelines, it is essential to analyze the risks assumed by the associated enterprises in a step-by-step manner, which includes:

  1. Identification of significant risks;
  2. Determination of the risks assumed by different AEs;
  3. Determination of the roles of the associated enterprises in relation to the assumption and management of risks along with the functions of controlling the risks;
  4. Analysis of the consistency between the contractual terms and risks assumed by each AE along with the financial capacity of the entity to bear the risks;
  5. Re-allocation of the risks based on the actual delineation of the transaction in order to provide appropriate rewards to the actual risk-bearing entity.

It is observed that an emphasis has been laid on the actual risks assumed by the party and its capacity to manage the risks. Tax authorities are to conduct audits using this approach after the amendment takes effect. Therefore, it is recommended that companies re-evaluate which related party can control and mitigate risks based on the actual conduct of the parties in order to be consistent with the contractual agreements.

Further, the guidelines also provide a clearer delineation of the definition of intangibles, intangibles-related functions, and risks, as well as an analysis involving the use of intangibles. The amendment says that the returns for the use of intangibles should be in harmony with the analysis conducted with respect to the assets used, functions performed, and risks assumed in connection with the development, enhancement, maintenance, protection, and exploitation (DEMPE) of intangibles.

Our Comments

The taxpayers should pay acute attention to the delineation of the risks and the intangibles as it is anticipated that the tax authorities may deep dive into the actual facts and figures related to the same. Further, all the contractual arrangements should be reviewed by the businesses to be consistent with the actual conduct to avoid litigations.

New Zealand's Inland Revenue releases COVID-19 Guidance for Transfer Pricing highlighting the importance of documentation

The COVID-19 pandemic has created exceptional economic circumstances with significant uncertainty remaining over the depth and duration of its effects. The impact on specific sectors and businesses has varied substantially, ranging from severe revenue reductions to abnormal profits for some industries. The guidelines state that in spite of the practical difficulties arising due to the widespread pandemic, the arm's length principle still remains applicable. A contemporaneous documentation elaborating on the specific facts and circumstances faced by the business assumes critical importance during the pandemic. The following points are highlighted for the documentation:

  • Identification and collection of evidence to support the nature, duration, and extent of the impact on the business due to COVID-19;
  • Documentation of any changes in the local and group functions, assets, and risks along with actions taken by different group entities in response to the effects of the pandemic;
  • Identify any changes in the intragroup transactions, contractual terms, and intra-group transfer prices and recording of the rationale for the said changes;
  • Analyze and record the overall impact of COVID-19 on the overall profitability of the group.

The arm's length principle should be applied and supported by quantifying the financial impacts and their reasons like causes for the reduction in revenues coupled with an increase in expenses, adjustments made, assistance availed, etc.

Our Comments

The above amendments portray the constant focus of the tax authorities worldwide on a contemporaneous, in detail, and effective documentation which will enable the taxpayers to be in a good position to justify the arm's length nature of inter-company transactions not only in the times of a pandemic like COVID-19 but also in regular circumstances.

Do the tax authorities have a right to re-characterize the transactions of the taxpayers to prove a motive of tax avoidance?[ Finland Supreme Court Ruling on re-characterization of an international transaction- Case No: KHO : 2020:35]

Facts of the case

The said case has been vindicated by the Supreme Court of Administration (SAC) of Finland.

The taxpayer is a parent company of the group which conducts machinery and equipment rental business in various countries through its subsidiaries. As a per re-organization arrangement within the group, a separate entity was established in Belgium to handle the intra-group finances (hereinafter referred to as NV). All the intra-group loans receivable along with their interest income as on date were transferred to NV for which, the parent entity received shares of the NV as consideration. Further, functions, risks and assets were partially shared by the entities post formation of the NV.

As per the contractual arrangement between the entities, the NV is guaranteed with a Return on Equity (ROE) in accordance with TNMM and the parent company receives the balance return, if any. A target limit was also set between the two entities for the allocation of the returns.

NV analyses the repayment capacity of the group entities after receiving a request from them and sets the terms and conditions of the loans individually. The loan being given is in the local currency of the borrower; interest is also decided as the local IBOR rate plus a margin.

The Administrative Court (AC) had alleged that NV is providing support services to the parent company since the decision-making power rests with the parent company and made a TP adjustment. It also rendered the transaction as a means of tax avoidance.

SAC held as under

While rendering the allegation of the AC as erroneous, the SAC stated that the AC had not taken into consideration the re-organization of the group's internal financing and the equity investment provided by NV. Further, ignoring the fact that NV has the decision-making powers related to the loans and it is a party to all the loan contracts, the AC reclassified the two-way hedging agreement as a service agreement with a completely different operating model and outcome.

Referring to the OECD guidelines, SAC observed that the revenue authorities must identify the actual transaction carried out by the taxpayer before considering a re-classification. Further, it stated that the actual transactions should not be disregarded or replaced with other transactions unless there are exceptional circumstances.

In light of the above facts, SAC annulled the decisions of the lower authorities and deleted the adjustment.

Our Comments

The above-mentioned case focuses on the substance of the transaction rather than its legal form. Further, it is pertinent to note that the actual delineation of the transaction is of utmost importance while analyzing any related party arrangement.

GAAR can be invoked only if the taxpayer is unable to prove that the form of the transaction corresponds to its substance and the obvious purpose of the transaction was not tax avoidance.

Indirect Tax

UK extends VAT cut applicable to the hospitality sector

The Chancellor of the Exchequer, Rishi Sunak, has announced that the temporary VAT cut from 20% to 5% applicable to the hospitality sector would be extended till 31 March 2021. Earlier, the benefit of the said VAT cut was to be made applicable only till 12 January 2021. The Chancellor, in his statement, said that the move is expected to protect around 2.4 million jobs through the winter in the UK, which like most other major economies, has been severely affected by the COVID-19 pandemic.