The BEPS project is an action plan that addresses government concerns about the potential for multinational companies (MNCs) to reduce to reduce their tax liabilities through shifting of income to no-tax or low-tax jurisdictions.
The Group of 20 (G20) governments have endorsed the OECD’s work on BEPS and have committed to additional country action. Additionally, a number of non-G20 countries are also participating in the process. The BEPS project is an action plan that addresses government concerns about the potential for multinational
“Many countries are already taking action without waiting for the OECD recommendations,” explains Lee Holt, partner, international tax services – capital markets with Ernst & Young, US, in a session at the EuroFinance International Cash & Treasury Management conference in Miami. “Ultimately, the process is guidance by the OECD to its member countries. It’s up to the individual countries to implement it as they see fit in their own domestic law.”
Having this many countries working together on tackling tax is unusual, he notes. “At its core, much of international tax plan relies on arbitrage or differences between many jurisdictions around the world,” Holt says. “It’s those differences that enables a lot of international tax plan. So the basic purpose of this is to bring harmony and consistency to how particular transactions are taxed or looked at, to eliminate those arbitrage possibilities.”
Why it Matters for Treasury
Fundamentally, many aspects of BEPS will touch intercompany financing. “As we all know, the way intercompany financing is structured has a huge tax element to it. At its core, debt financing is usually deductible by the borrower. So it’s a tax efficient mechanism to fund companies that need money,” says Holt.
BEPS will have a significant impact on cross-border financing. At its core, internal, cross-border debt financing is one of the hallmarks of international tax plan. “It is by far the most common mechanism to achieve a tax beneficial result. You have a low-tax country lending to a high-tax country. It’s easier to move profits. Through debt financing, I lend, I get an interest deduction in the high-tax jurisdiction, and it’s taxed at a negligible rate in the lending jurisdiction. I don’t have to move people, I don’t have to move capital assets.”
Years ago, as tax laws developed, it was decided that interest expense would be tax deductible, whereas payments on equity would not be, generally. “Broadly speaking, you get tax benefits for somebody lending with a loan, because of the deductibility of the interest,” Holt says.
A key role for treasury is determining how to move money around the organization in the most efficient way possible, and that’s largely through debt financing. BEPS could make that process harder, with the following potential impacts:
- Preventing the use of hybrid financing: Hybrid financing is a very tax-centric type of financing that may no longer be achievable in the future. “We’re seeing countries adopting their own domestic law today to prevent the benefit of these structures – basically denying the interest expense if the return isn’t taxable,” Holt says.
- Restricting interest deductibility: This could touch long-term and medium-term intercompany financing. It could even hit cash pooling, as some pooling structures are viewed as intercompany loans.
- Requiring additional/new transfer pricing documentation: This is another area where the OECD is trying to apply a consistent approach. Many countries have their own policy for ensuring that transactions between related parties are structured in the same way as transactions between unrelated parties.
- Limiting the benefits of treasury centres: Treasury centres typically achieve tax benefits; such as having profits in fairly tax-efficient locations. “Some of the tax benefits of those treasury structures may no longer be possible,” Holt says.
What to Do
Intercompany financing is an area historically that tax and treasury have worked together very closely on, and that needs to continue. “I think if anything, there’s a need to work even more closely to monitor the BEPS developments and perhaps influence the process,” Holt says. “We’re still in a ‘comments and influence’ period.”
Additionally, treasurers should monitor individual countries’ unilateral tax law changes. Something could happen tomorrow, even though the BEPS process still has time to play out. “A country could say, ‘I’m going to go ahead and change my law,’ and that will influence how a company structures their intercompany financing,” Holt warns.
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