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No separate rules for digital businesses as part of OECD's approach to taxation of multinationals

The first formal proposals aimed at creating a single set of international tax rules and preventing multinational companies from artificially shifting profits to low-tax jurisdictions have been published by the Organisation for Economic Cooperation and Development (OECD).16 Sep 2014

The Paris-based body's recommendations were produced at the request of the leaders of the G20 largest global economies, and will be discussed at this weekend's meeting of the G20 finance ministers in Australia. They include proposals to neutralise so-called hybrid mismatch arrangements, prevent the abuse of tax treaties and ensure that transfer pricing rules do not allow companies to avoid being taxed in the jurisdictions where they make their profits.

Tax expert Heather Self of Pinsent Masons, the law firm behind Out-Law.com, said that the publication of the proposals marked "the halfway point in a complex project".

"The OECD is to be congratulated on the degree of consensus reached, and on the quality of their communications," she said. "However, there is still a long way to go before we have a tax system fit for the 21st century."

"There is a lot of work still to do, and concern that the overall package will not be coherent. The OECD recognises this risk, but the extreme time pressure to complete everything by the end of 2015 means it will be hard to achieve consensus in some difficult areas," she said.

Self said that the OECD had "sensibly" decided not to create separate tax rules for digital transactions, but warned that the body's focus on 'harmful tax practices' could impact on the UK's 'patent box' regime for the taxation of intellectual property.

"The emphasis will be on ensuring that incentives are only given for real activity, and the UK may come under pressure to tighten its qualifying conditions to meet this," she said.

"The OECD has sensibly decided not to treat the 'digital economy' as a separate case. It would be difficult, if not impossible, to define special rules for digital businesses - and they would be out of date as soon as they had been introduced," she said.

The proposals deal with seven of the 15 specific actions identified by the OECD last year as part of its action plan on base erosion and profit shifting (BEPS). The action plan followed an OECD report produced for the G20 finance ministers, which found that some large international businesses were paying as little as 5% in corporate taxes due to "mismatches" in agreements intended to prevent double taxation.

Part of the OECD's proposals target 'hybrid mismatches', which allow companies to claim tax relief for the same expense in two jurisdictions or which allow a company to claim tax relief in one jurisdiction without a corresponding tax change in another. Companies would be prevented from entering into these arrangements without reporting a corresponding taxable profit, and would be prevented from using the reliefs set out in various double taxation agreements if their principal reason for doing so was to avoid tax.

Companies would also be required to report on their activity, employment level, profits and taxes paid on a country-by-country basis to increase the transparency of their activities and limit the scope for them to shift profits offshore. Updated transfer pricing rules would ensure that profits on 'intangibles' such as intellectual property were properly taxed.

"Some of the proposals, such as those on hybrid mismatches, are aimed at complex structures which allow income to escape tax altogether," said Self. "Whilst there is broad agreement on the need to impose tax, the mechanisms will be complex and there is a risk of double taxation if the measures are too broad."

"Companies will be required to prepare a country-by-country report giving significant detail of their activities in each jurisdiction where they do business. The detailed filing requirements are still to be settled but businesses will be concerned to ensure that the compliance burdens are proportionate," she said.

The OECD intends for some of the changes to be implemented through a single international legal agreement that would change elements of all the bilateral tax treaties at once. The final form of this, as well as some of the other measures set out today, could still be amended when the OECD's remaining recommendations are published before next September.

"The OECD has identified base erosion and profit shifting as a serious risk to tax revenues, sovereignty and fair tax systems worldwide," said Angel Gurria, secretary-general of the OECD. "Our recommendations constitute the building blocks for an international agreed and co-ordinated response to corporate tax planning strategies that exploit the gaps and loopholes of the current system to artificially shift profits to locations where they are subject to more favourable tax treatment."