weducforum.files.wordpress.com · Web view2020. 10. 21. · Balance sheet of AB Inbev Belgium:...

Samenvatting tax management 2019-2020

De cursusdienst van de faculteit Toegepaste Economische Wetenschappen aan de Universiteit Antwerpen.

Op het Weduc forum vind je een groot aanbod van samenvattingen, examenvragen, voorbeeldexamens en veel meer, bijgehouden door je medestudenten.

www.weduc.be

IntroductionTax management is very diverse: 3 topics. Taxation rules change so often.

Financial statements of a company: what is important from a taxation point of view? Cross border mergers and acquisitions Tax aspects of supply chain companies: correct pricing of intercompany transactions.

Alleen kennen wat we gezien hebben in de les.

Exam: end of January. Written exam in 2 parts: multiple choice (with correction) supplemented with open questions. Not becoming a tax specialist after the sessions: impression that u have an understanding of what was discussed during class. Exam in English but u can answer in Dutch.

Balance sheet of AB Inbev Belgium: topic 1. Banks have different financial statements. Certain items are also specific for banks. Discussing the financial statement of AB Inbev. That’s why we have chosen to not discuss a bank.

1

1. Inbev Belgium Besloten vennootschap met beperkte aansprakelijkheid

BVBA’s: medium sized companies. What’s the reason behind this form? A BVBA has to publish their financial statement. They have limited liability (beperkte aanspraakelijkheid). Interesting from a tax point of view: reason that multinationals choose this legal form: only us stock quoted/ us based multinationals: the BVBA is a legal form that enables a top listed company to select a company (AB Inbev) as a check the box company.

The company has a holding function, but it’s not necessarily linked with the legal form. There are different legal forms: different regarding responsibilities, who are the shareholders or the start capital for example. Legal reason to make a choice between BVBA (limited liability), NV and VOF.

Commanditaire vennootschap: NV and BVBA need to deposit their financial statements to the national bank. CV doesn’t need to publish their statements. A legal form with unlimited liability but no need to publish balance sheets.

Example: Commercial Sales: an office in France (CE). Buy or rent an office space in the main street. 2 options:

AB Inbev Belgium

Subsidiary. Set up another company: ‘’X’’Financial fixed asset. Sales activities are going to be registrated on the balance sheetas an income from ‘’X’’

Branch PE

Difference: 1. Company (Belgium) is going to set up another (French) company. It incorporates another

company. 2 legal forms: A Belgium one and a French one: 2 tax payers.2. We are going to create a satellite activity, buying or renting an office in own name (Belgium

company). On the own payroll. 1 legal form but 2 tax payers.

Why choose for a certain option? Belgian company starting a company in France (NV), company had to deposit the financial statement of the French company in Belgium. If you have a branch you only have to deposit the financial statements of the head office.

3. AnderlechtWhat’s the relevance of the company’s adress? Whats the link with taxes? Local taxes, community taxes (higher in a big city) are different.

Assume: renting an office in brassschaat: a lot of success, high profits: a lot of people on the payroll. Consequence of your success when operating in brasschaat instead of the big city? Companies which

2

are incorperated in Brussels, Antwerp: the likelihood of being audited by the tax authorities is smaller. If you become big in a small town, you can get a visit from the tax authorities. In Brussels or Antwerp you are on the many: likelihood of being audited is minimalized. For example: Zeeman got big in a small city and then moved to a big city so they had less visits from the tax authorities.

4. 31-12-2018Relevance from a tax point of view? Different deadlines.

This date relates to tax assessment year (in this example 2019). Suppose company closed the books 30/12/2018 than it is tax assesment year 2018. Assessment year is in Belgium the year after the financial year if the company closes the books on 31/12. New law says: any changes to the closing date of the financial year after this date we consider as non valid. Because if the governement announces something in the media, they say in the law that changes in the date are not valid.

5. List of directorsThey all have an adress in Belgium: whats the relevance of this? Board of directors meeting also need to be in Belgium.

Tom Boonen had a plan to start a company in Monaco: it is a tax heaven. Tom Boonen built a villa in Belgium. The place of management: the company needs to be managed from the same country. If the majority of the people are not living in Belgium and it’s a company in Belgium, they will look in to it. Discover tax advoidance. Make an effort to go once a year to Belgium to have a physical company.

6. Intangible fixed assetIf you have intellectuals rights, what can u do with this? Potentially they relate to a patent. Company B gives a patent to company A. Company A pays royalties in return to Company B.

Interesting tax feature: if you put your patent at another company’s disposal, they have to pay royalties to you. Royalties are most often a percentage. If the other company is foreign, that company’s home country will try to get taxes of that payment. Witholding tax will be due on the royalties (roerende voorheffing: 30% in Belgium). Double tax treaty in order to avoid that the same payment will be taxed twice. The rules of this treaty prevail (overheersen). The local domestic rate (roerende voorheffing) has to be adjusted to what the treaty says. The withholdig tax goes to the paying company’s country, the rest of the royalty money goes to the country of the company holding the patent rights. Tax return of company holding patent: pays taxes only on the money it received from the foreign company, not the total amount because a % of that went to the foreign tax authorities.

B patent B

B Royalty (%) A

100 euros royalty to be paid by A (Belgium entity) to B. 100 is an expense for A, tax will be due upon payment.

1. Witholding tax in A: 30%2. Tax rules according the double tax treaty: 15% (prevails!)

3

If the DTT says that the local tax of the royalties may not be higher than 15%. Then it has to reduce the local rate of 30% to 15%. 15% will be for the tax authorithies of country A. 85 will be registred as a cash payment for company B.

A pays 15% (15 euro) to tax authorities of A and 85 euros to B Balance of B

50 @ 85(foreign tax expense) 64 @ 15

74@100B has to pay 25% taxes on income (85) to local tax authorities, but is has already paid 15% to foreign authorities so it should be deducted in some kind of way.

85 (25%)- 21,25 : tax autohorities of country B 63,75

In Belgium there is a credit system for royalties. If you receive royalties where taxes have already been payed on, you have the right on foreign tax credits = ). 15/85 net RI = 15/85 * 85 = 15, tax credit of 15. Add foreign tax credit (15% = 15 euro) to the income (85 euro) in order to calucalte the local tax amount (25% of 100 euro. Then you deduct the amount you already paid (foreign tax credit not a real expense) trough the tax return form and eventually you pay 25 euro – 15 euro = 10 euro to local authorities an keep an income of 75 euro. Better than paying 15% on 100 euro to foreign authorities of A, and paying 25% on 85 euro to local tax authorities. 75 instead of 63,75.

You can also say you don’t license out the patent, but use it in the production process. A part of the income can be related to the use of that patent (embedded royalties). Favourable taxation system. Nett innovation income: only 15% of the qualifying innovation income is subject to tax, 85% of the net-innovation income is tax exempted. A lot of campanies in Belgium benefit from qualified innovation income.

7. Financial fixed activa17-21Option 1 is renting/buying of a foreign office. Where are permanent establishments to be found (branches)? NOT visible in financial statements in Belgium! Because it stays 1 company, 1 legal form. So incomes of sales in foreign country and rent, buying amount will be shown on balance of the company, not on that of its subsidiary because there is none.

If we rent an office in another country it will registred as an 61 account. If we buy an office it’s material fixed assets but u can not see if the material fixed assets is in Belgium of in another country. You can not see if the company operates with branches.

8. Share capitalCompany has a significant share capital. Significant amount. What can the origin be of share capital? A company has a certain amount of share capital that is represented by x shares. If you buy a share check the balance sheet: share capital. Origin of the amount, what is the amount composed of? Ab Inbev is already a good going company. If you would start a company, incorporate an BVBA, how do you generate share capital? Minimum amount of share capital needed: money. The first source of share capital is money, cash. Other sources that can contribute to share capital: assets, work force (own commitment to elaborate).

4

Third source: normally used or activated during the lifetime of a company: profits. Incorporate profit in the share capital: ‘’we don’t need dividends’’. 2 kind of profits: items which are part of the profits but they had a different tax fee.

9. Tax free reserves (belastingsvrije reserves)Tax treatment of paying out dividend from the tax free reserves? Holding tax but also corporate tax: the profits which have been booked in that category, they have not yet been taxed. Corporate tax till a certain rate will be due. Tax free when the profits are kept in the company: temporary exemption.

Taxed reserves: beschikbare reserve

10. Overgedragen winstIf we take the dividend out of the ‘’overgedragen winst’’: already been taxed. Which taxes are due? Only the withholding tax and no corporate income taxes.

The content of share capital, it’s not indicated what the nature is. Cash, assets or profits. If share capital originates from cash or assets, are taxes due then? 1 euro given, and want this one euro back capital reduction we know it’s cash originated. Tax free or not? If your share capital consists only out of cash contributed share capital, then there is no tax due for a reduction of share capital. In Belgium it becomes tricky, if during the lifetime of the company, the shareholders have decided to also incorporate taxed reserves and tax free reserves in the share capital. If tax reserves have been incorporated there is a tax liability (belastingsschuld of verplichting).

Corporate tax = vennootschapsbelasting Withholding tax = roerende voorheffing

Taxed reserves in the capital share: withholding tax Tax free reserves in the capital share: corporate tax and withholding tax. Only cash in the capital share: no tax due.

Exam!!! Capital reduction what is the tax liability? Depends on elements included.

11. Financial debtsInstead of a percentage of the equity every year you now need to calculate the incremental increase of the equity. How is my equity today, and what was it 5 years ago? You can only claim a very tiny percentage on this increase. It was a popular feature in Belgium, but now it has become almost irrelevant because the position of the market (negative interest) and the government has changed the rules. Relevance of equity? Notional interest deduction. Finance to equity Finance to loans: deductible interest expenses.

Is a company free to define the relationship between equity and debt? Free in how to finance their equities? Legal intervention that limits?

A company that has a very small capital and a big amount of loans, is a company who is thiny capitalised. A lot of equity and no loans: it is a company who is fat capitalised. You can deduct the interest, interest is used to reduce your income, by deducting your interest you reduce your taxed income. What will tax authorities try to get in the law? Propose a maxiumum deduction.

5

Provions: thin capitalisation rules: that try to define the relation between equity and debt. E/D – D/E. 5 to 1 rule. Debt 1, equity 5.

ATAD (EU/OECD): anti tax avoidance directive. A directive (european law) that has to be implemented by the european countries to try to avoid tax avoidance. In addion to the 5/1 ratio, Belgium has also implemented elements of the ATAD: that rule limits the net finance cost to 30% of EBITDA (tax defined EBITDA). Try to monitior the magnitude of interest that a company wants to deduct. Interest limitation: to discourage artifical debt arragenemt designed to minimise taxes.

12. Omzet/ revenue Assume that AB inbev only operates trough subsidiaries, it acts as share holder in other foreign group entities. Are the turnovers of these form group entities included in this amount (omzet) or not? In an unconsolidated financial statement, the turnover is the turnover of the Belgium entity alone.

AB inbev no subsidiaries, but operating through branches. Than the turnover is incorporated in the revenue. Pay taxes on this branch profits.

What is the tax relevance of the 60 account of AB inbev? 600/8 Purchases. Tax relevance? It is a cost. Import duties: if those raw materials are imported from outside the european countrt. What question will pop up if you see such a big amount that has such impact on the profits? Are they valued correctly? Issue of transfer pricing. Required to purchase the raw materials from a related company.

Same for services. If there are from an unrelated company, there is no problem, but when it’s a related company, we have to make sure they are valued correctly.

13. Financial incomeo Dividend Income Company receives dividends from investing in other

companies.o Interest

Dividend InterestC 100

(0) No withholding tax

ABI 100 DBI DBI

0 25

100 75

Is withholding tax due if the dividend is payed out to a share holder? First you have to look at the local/domestic tax laws. If not, then it stops.

6

If yes, in case of a cross-border situation you need to consult something else. Is there a double tax treaty to reduce or prevent double tax paying? If the companies are both European, the conditions of the European directive are fulfilled and there is no withholding tax.

What happens with dividend income that’s received by a Belgian corporation? DBI It is created in order to avoid, if you have a lot of layers of shareholders that the dividend income is taxed 2 or 3 times. The dividend income flows trough without any additional tax.

For corporations, if certain conditions are fulfilled there is no tax due. 100 is accounting profit, taxable profit. But DBI. In English DRD.DBI exist for corporations, for individual (physical persons) it does not exist. = In order to avoid that business profits are taxed over and over again…. Until they end up with the final shareholder. It guaranties that the dividend income is not taxed again in the hand of the shareholder. If you do not qualify for the DBI then 25%.

Whether or not withholding tax needs to be paid in the country of payment of the dividend depends on:

1. Application of local tax legislation.2. If withholding tax would be due on the basis of 1) you should then look at the

application of the double taxation treaties or the application of European regulations (implemented in local legislation) as you have written above.

Whether there is a dividend income received in the country where the recipient of the income is located is yet another analysis.

14. Winst van het boekjaar voor belastingenTaxes on results. How much taxes are AB Inbev paying? Zero. They do not pay corporate income tax.

Page 32: what are the most important causes why there is a difference between the profit and the taxable profit? Ab Inbev is entitled of a deduction of 2,8 billion dollars, it exceeds their taxable income (income before taxes).

AB Inbev dual function: Trade function

Only a trade function then the tax deduction would not appear in the books. Holding function

Huge financial fixed assets: shareholder in other (profitable) companies that pay out dividends to AB inbev.

Akkermans en Van Aaren: holding company: a lot of participation. Same deduction or low taxes in the account of Akkermans en van Aaren. It impacts the effective tax rate. Mix trade or industrial activities with a holding function.

Big chunck of income and profits is being derived from the holding function. They get more dividend income then they are entitled to the DBI. Now 100% deduction, previously a 95% deduction. They have excess DBI: eat up their business profits. They don’t pay taxes and it is completely legal. DBI is a large advantage for companies but Belgium is not unique, the Netherlands have had this for years.

If you invest a small amount of money in a company, you can not benefit from this DBI deduction. This IS all perfectly legal tax reduction, has nothing to do with fraud.

7

15. Vergoeding van het kapitaalIs a dividend an expense? It is not an expense, why? A paid out dividend is just a decision of what to do with your profit. Pay it out of reserve it. What is the fiscal life of this dividend? The person that receives the dividend will be taxed. If it’s a company different rules (see above).

QUESTION EXAM: we have a company (Belgium NV) you receive a financial statement and you see that the company from an accounting point of view has no profit. Will this company pay corporate income taxes yes or no? A loss making company can pay taxes. What can be the reason of the loss? Loss is an artificial loss. Tax authorities can adjust your loss in a profit if they do not agree with the value. OR what is not deductible in most cases? Cost. You can give a higher value to your costs.

Waardeverminderingen op aandelen not tax deductible. On accounting loss there can be taxes due.

DBI aftrek: enkel belast bij de uitkerende vennootschap. Bij de ontvangende vennootschap aftrek van het fiscaal resultaat.

(Cross border) Re-organisations and M&A: topic 2.

Parties involvedM&A happen because of different reasons. There are different methods and techniques to be used.

Doel van dit hoofdstuk:- Het identificeren van de kwesties (issues) van bedrijfsovernames:o Aankoop van aandelen vs. aankoop van activao Financiering van de overname- Het identificeren van de fiscale gevolgen van overnames, voor alle betrokken partijen- Uitlijnen van andere methoden betreffende bedrijfsreorganisaties

8

Comparing 2 basic scenarios. 2 options if you want to become owner of a company: Buy the shares Interested in the assets

Advantages and disadvantages.

We will mainly consider or assume that Vendor and Bid co are corporations. Shareholder can be an individual or a company. We will not touch upon the aspect of the parties.

There are 3 parties directly involved in the acquisition of the company. - Target Co = Target company = Centre of the transaction The company of which the shares

or assets will be sold.- Vendor = Shareholder of Target Co Physical person or corporation, (vennootschap) that

holds the shares of Target Co.- Bid Co = Company who is interested in acquiring Target Co: either buying the assets of the

company Target Co or buying the shares underlying.

An entity (Bid Co) can try to either take over the assets/businesses or to transfer the shares of another entity (Target Co) from the owner of Target Co (Vendor).

The impact on the three parties varies significantly, depending on their status, the form of thebusiness takeover and the jurisdiction(s) (=jurisdiction) in which they are operating.

These three parties are obviously not the only parties involved in an acquisition.

Indirect parties involvedThese parties also influence the outcome of the transaction. Depending on the particularcircumstances of the transaction, some of the indirect parties have a significant impact on the transaction.

Tax authorities = Fiscal authorities = the tax administration in countries where the direct parties have been located. If there is a transaction, they put forward if its taxable or not.

Anti – trust agencies: to check that, for example, there are no monopolies or unfair competitions. They have to bless a friendly take-over.

Other governmental bodies: majority of the politicians doesn’t even know a certain company but if an acquisition is done, then the politicians are lining up to claim the success. Also if things go wrong, they want to have their say. They want to open up the M&A.

For example: Belgium; Flanders, Antwerp Bid Co shareholders: in the interested party there are also shareholder that want to have

their say.

9

Unions/employees: most companies have trade unions being active within the organisation if not, then they are represented by unions. If the company is taken over, then the employees are concerned about their job.

Customers, Creditors: (klanten & schuldeisers) Brokers, suppliers (makelaars & leveranciers)

Vendor/target considerations: advantages Exam!!! What is the intention of going to this list of advantages? Goal of the exercise: on the exam there will be a question about advantages or disadvantages from the different parties. Try to not copy paste the lines. Proving when answering that you know what is all means. What is the meaning of those lines?

In this section the most important advantages and disadvantages for Vendor, Target Co and Bid Co are discussed in a business acquisition (= sale of assets or shares). In ideal circumstances, each of thethese considerations should be analysed before a bid is made and it should be taken into account when determining the bid price, (purchase price). But in practice, a bid must sometimes be made unconditional, in the absence of all relevant information, or at a price that does not take into account all of them detailed considerations.

Shares acquisitionVendor/shareholder of target co that is selling the shares to bid co.

1. Any previous tax liability or other claims are being transferred. (Overdragen van elke eerdere belastingschuld of andere claims/vorderingen)

When you sell your shares (physical or corporation) and whatever is on the balance sheet or may rise in an audit, any previous or existing or not existing on the balance sheet (future tax liability) will be moved to the new owner. You are no longer liable for the tax liabilities or the future liabilities of the company when you sell your shares.

o If Bid Co acquires all the shares of Target Co, then transfer of any previous tax liability or other claims (tax liability) to the new owner. Tax liability = belastingschuld of belastingverplichting

o There are often many hidden liabilitiesThese are not visible on the balance sheet, but are after a tax audit. The one who buys the shares, (the new owner), is also responsible for the hidden tax liabilities.

o Possibilities to avoid this for Bid co: performing a tax audit.

2. Likelihood of reduced tax on sale (Waarschijnlijkheid van verminderde belasting op de verkoop.)

Vendor can be a corporation (taxed in corporate income tax) or an individual (taxed in person income tax). We assume the vendor is a Belgian corporation or individual. o Reduced tax on sale is quite likely in case of transfers of shares

What happens if we sell shares as an individual? Shares as hobby, buy shares and six months later you sell them with them gain, normally

as an individual you are not taxable. If your shareholding is a significant one >25%. If you are selling of an important part of

your shares to bid co then you will be taxed at 16,5%. Demonstrate that is almost a professional hobby.

If you do it on a regular basis and you are taking up a short term loan to buy shares, and you have in your apartment an office and various screens, you are a trader then there is a distinction: you do it a professionalized hobby (speculation). Gain will be taxed at 33%.

10

If it’s no longer a hobby, but your profession: you are a trader of shares then you will be taxed as an individual at our progressive tax rates.

If you make a loss on the selling of your shares, you won’t be able to deduct it on your tax sheet.

What happens if we sell shares as a corporation? What happens with the taxation regime?Pretty straightforward a few years back then there was an exemption of capital gains: it has changed. Today: a less favourable tax regime. Make a distinction between 2 categories: Target co has to fulfil some criteria.

First condition: taxation condition: does it fulfil the normal tax regulation (subject to normal corporate income tax on profit? An ordinary Belgian company).

Second condition: significance of your investment: if your participation is bigger than EUR 2.500.000 or investment represents 10% or more percent of the share capital of target co.

o > 1 year: no tax due. o < 1 year: subjected to a special rate in the Belgian income tax: 25% + a sur charge. It will

become an effective tax rate of 25,40%. If it’s not fulfilled (non significant investment): 29,58%.

What if we realize a capital loss on the sale of shares? Minderwaarden op aandelen: they are not tax deductible. When shareholders sell their shares, we expect a capital gain on shares.

Previously when you were investing your money as a small in company into shares it was very beneficial, now a day a threshold of 2,5 million is a lot. For investing excess cash in stock trading shares has become very expensive. It has become less attractive.

o But it is not taxed as heavily as the profit on the sale of assets.

3. Transfers existing tax liability or retained earning (overdracht van bestaande belastinverplichting op ingehouden winsten)

What is the remaining tax liability on retained earnings? What tax is still to be paid on retained earnings.?

o These retained earnings can be found on the balance sheet under "Other shareholderFunds” earnings that have been reserved/restrained and therefore have not yet been distributed as a dividend to the shareholders. We want to take these retained earnings out. (It is not that we sell shares and we see an amount on the balance sheet)

o But if it is later paid out to the shareholders, this must be followed up by thewithholding tax (WHT). This is the case when Vendor wouldn’t sell of the shares but wants a dividend from Target Co.

o The profit/the retained earnings have already been subjected to corporate tax, but has not yet been paid out to shareholders. When paying out the dividend, then again tax (WHT) on payments.

o Allocate profit of the year to retained earnings, then next year our retained earnings have increased. If in one year you need cash, if a company pays out the dividend then they also have to pay withholding tax.

o Bid Co buys shares at market price so you save tax on the retained earnings. Because if you pay out profits, you have to pay withholding tax. Normally you pay WHT on reserves, but sales of shares do not pay WHT. More favourable selling out the shares then giving out the cash by dividends.

11

4. Transfer unrealised CGT (capital gain tax) liability on the underlying assets. (Overdracht van niet-gerealiseerde meerwaarde belastingschuld op de onderliggende activa).

Capital gain tax (CGT). Typical example of situation where this becomes very relevant:

MV 500

Building on balance sheet Accounting value: 100

Factory is still used: real estate agent has provided us with the market value of the building namely 500. Fixed asset is the factory and it has a book value of a 100. I know as an owner that the value is not 100 because I know there are parties that want to buy it for 500. I’m going to take in account the market value when putting a value on our shares. What is we are selling specific assets? If we sell this factory for example: what happens within the accounts of Target co? You will be taxed on the accounting gain of 400 = corporate income tax. The remaining profit after tax, it will be on the bank account of Target co. If you want it take it out after the merger you still have to pay withholding tax.

Advantage: If we sell the shares, we don’t have to account for the profit in the account of Target co. When selling shares, you don't have to pay taxes! If you sell you shares the assets remain on the balance sheet with their accounting value/book value. Notwithstanding, the value of the building will influence the price of the shares and the gains we will get from it. We will get a higher price and profit. If the new owner a couple of years later, want to sell the fixed asset (factory) the corporate tax on that gain will be for the new owner.

5. Sell all balance sheet liabilities o By selling the shares, all the liabilities go the owner.

6. Responsibilities for employees and the industrial relations is with new owner. o If you sell the company, you also sell the people (they move to the new owner as well).

Sometimes companies have very unconstructive unions and makes trouble when you want to sell shares of the company. So the responsibility for the workforce is with the new owner.

Vendor/target considerations: advantages: shares1. Any previous tax liability or other claims are being transferred 2. Likelihood of reduced tax on sale3. Transfers existing tax liability on retained earnings4. Transfer unrealised capital gain tax liability on the underlying asset5. Sell all balance sheet liabilities6. Responsibilities for employees and the industrial relations is with new owner

Asset acquisition Bid co is not buying the shares of target co but they are buying assets. You can also buy part of the company, not the whole company (all assets).

1. Higher cash receipt likely (waarschijnlijk een hogere geldontvangts) What will be the driving force of a higher cash receipt in case of an asset deal?

12

What happens if you sell the shares? You do not only have assets you also have liabilities (1): you sell of everything. But Bid co is only interested in assets. By definition the value needs to be higher, because you buy it without all the liabilities. The bank loans, the debts you have (liabilities)… They stay within Target co, it’s not a net value asset approach. Tax explanation (2): it will be very visible what bid co wants, so this makes it easier to maximize your price. So the buyer will pay more to the seller. If you sell assets, you are going to pay corporate income tax (3) on this asset. Calculate it in when determining the asset price. You will ask I higher price because you still have to pay these taxes. 3 things that you have to take in account when determine the price of the asset.

What will result in an extra attractive touch? When will target co not be taxed on a capital gain? When target co has for example a stock of dividend received deduction, or royalties (excess creditable tax) or a deduction for innovation income. You can set of your capital gain with deductions.

2. May be able to use entity for other purposeso Empty company to start up other company. You sell the assets of your company and you get

the gain and then you can invest your gain in real estate and then you switch to a real estate company.

o Target Co/ Vendor can shelter other activities. 3. May sell only part of the business

As a seller, you can decide which parts you are going to sell and which you do not want to sell

Sherry picking: if you don’t sell the shares, you can start selling parts of the company? The demand of bid co will have to match your desires. You can sell the parts where you want to get rid of.

4. May retain benefit of favourable contracts.o Being able to retain the benefits of favourable/interesting contracts

5. May retain tax losses and other tax benefitsWe keep the company. We have sold assets and we know that Target co still has tax losses. Use Target co to shelter new activities. Big question mark: can we still use this tax losses or tax benefits (ovegedragen verliezen)? Vendor is still owning the shares of Target co. Even after accounting for the capital gains, there are still tax losses carried forward and other deductions in the company.

Empty company with cash, we still have tax losses: use them to offset my rental income (for another activity). You do not pay taxes on the rental income.

o If your company goal was to produce IT-products, then a real estate activity will not match in to the company goal. You have to change your company goal before selling all of the assets. If you change the nature of the business activities or the management, in most countries you lose the tax losses carried forward of the company

o If you shelter an activity in a company that doesn’t fit with your company goal, then your corresponding cost will not be tax deductible in most countries.

o In Belgium it will go. Belgian companies have rather broad company goals. It is feasible when well prepared, changing (broadening) your company goal and introducing a new activity. Tax losses carrier forward are recoverable indefinite in time.

For example: doctor’s company investing money in real estate on the sea side.

13

A benefit in kind on the income statement. It’s what we need to do to make our company happy: a car, a sea side. Calculating a benefit in kind that is taxed in the income tax. No longer the case now they really look at the company goal.

Vendor/target considerations: advantages: assets1. Higher cash receipt likely 2. May be able to use entity for other purposes3. May sell only part of the business4. May retain benefit of favourable contract5. May retain tax losses and other tax benefits

Vendor/target considerations: disadvantages Shares acquisition

1. Must dispose of entire business and favourable contracts o The new owner will dispose of every contract and the whole company.o Basically, you sell everything, including good business & interesting contracts that are linked

to the company.

2. Requirements to give broad indemnities. (verplichting om hoge vergoedingen te geven). o Bid co as the new owner of target co will require indemnities (vergoedingen). You need to

give broad indemnities or you have to foresee guaranteeso You have to give high guarantees to the bidding company, which wants to be able to cover

the debts of Target Co. E.g. Doubtful debtors, claims.

3. Transfer tax losses or other tax shelterso In case Target co has tax features, they follow target co. Potentially, depending on what

happens with the company, it will be still Target co under the new shareholder being bid co that will be able to use the tax losses or other tax benefits

o All the tax benefits are being transferred

4. Transfer intellectual property rights.o They are owned by target co, so they will follow the company. Intangible asset will remain

within the company so the new owner will be able to use these in their benefit. o Patents are also transferred, & buyer is then eligible for patent income deduction.o BUT some founders of companies are personal owners of patents, then the patent is not

transferable and the patent income deduction cannot be claimed.

Vendor/target considerations: disadvantages: shares1. Must dispose of entire business and favourable contracts2. Requirements to give broad indemnities3. Transfer tax losses or other tax shelters4. Transfer intellectual property rights

Assets acquisition 1. Retain liabilities

Liabilities remain with Target Co.

2. Difficulty in passing profit on sale to shareholders in tax-free manner. (Moeite met het passeren/doorgeven van de winst op de verkoop aan aandeelhouders op een belastingvrije manier).

14

o 25% withholding tax by giving out a dividend to the shareholders. o Assets deal are in principle not favourable taxed. Not only pay corporate tax on the gains of

the asset transfer, but the net tax is still on the bank account. This money isn’t vendor’s yet. If they want to take out the money they can do it by paying it out in dividend, and then they also have to pay withholding taxes.

3. Realise any unrealised gains/deprecation recapture (het realiseren van niet-gerealiseerde winsten of het “herveroveren” van afschrijvingen).

o If you sell an asset you have to account for the gain: pay taxes on the gain. The gain will be taxed because it is not realised yet.

4. Potential tax liabilities on retained earnings.o If you book something on the retained earning, it is not yet the shareholders, you still have

to pay the withholding tax.

Vendor/target consideration: disadvantages: assets 1. Retain liabilities2. Difficulty in passing profit on sale to shareholders in tax-free manner3. Realise any unrealised gains/deprecation recapture4. Potential tax liabilities on retained earnings

Overview Vendor/target considerations: advantages: shares

1. Any previous tax liability or other claims are being transferred 2. Likelihood of reduced tax on sale3. Transfers existing tax liability on retained earnings4. Transfer unrealised capital gain tax liability on the underlying asset5. Sell all balance sheet liabilities6. Responsibilities for employees and the industrial relations is with new owner




15

Bid co considerations: advantagesShares acquisition

1. Lower capital outlay – purchase net assets only (lagere kapitaaluitgaven, want je koopt enkel de netto active aan).

o You buy everything: price is going to be determined from the net assets. This results in a lower price to be paid.

2. More likely to be attractive to vendor. (Meer kans om aantrekkelijk te zijn voor de verkoper, aan een relatief lagere prijs).

o Highly likely that a share deal is more an advantage to vendor, shareholder of target co. That might facilitate the negotiation procedure. Helping Bid co to agree on the transaction.

o A seller will not prefer to sell shares if Target Co has a lot of losses. When buying shares you have no registration obligations. When you buy over shares, it has advantages for the seller and therefore he will be prepared to sell the shares at a lower price than assets.

3. May benefit from tax losses carried forwardIf Bid co buys shares form Target co, it may benefit from tax losses carried forward. Not only tax losses carried forward that can be used by bid co also investment deduction, dividend received deduction = tax features of the company. This tax features remain with target co, the new owner can benefit from the tax features. But there is a provision in the law. Provision: in case the shareholder of the company is being changed, the future tax features of the company can be questioned by the Belgian tax authorities. Change of shareholder situated in the same consolidation: no problem. In our example it is not in the same group, so not applicable.

New owner continues the activities and keeps the employees. By maintaining the employment then Target co with the new owner bid co can use the tax features.

If u take over a company with tax features and I dismiss everybody and change the use of the company than the use of the tax features will not be possible anymore.

In the past you could buy an empty company with tax losses carried forward. = tax features. U could use the tax losses and change the main use of the company, u could start a new company. The price is a percentage of the tax losses. Use tax losses to set of a business. Practice in the 80’s 90’s. Now if you change the business activities of a company, or you maintain the activity but dismiss everyone, you could not use the tax losses carried forward. = witte boord criminelen.

4. May gain benefit of existing supply or technology contracts (voordelen halen uit de bestaande leveringscontracten of technologie contracten)

o You can use everything the company owns, when you buy the company.

5. Lower capital duty (lagere kapitaalverplichting dan bij activa).Capital duty: registration duties. Registratierechten. What kind of rates of registration duties you know on the Belgian market?

7% of the market value when you buy your own house for private use. In 2020 6%. 10% of the market value on your second house. If you are not buying a new built house,

there are only taxes on the land price. Registration duties on the sale of shares: zero.

Knowing that you have to pay nothing at all when you buy shares, or when you have to pay a maximum 10% when you buy real estate, people try to find way to circumvent the law

If you look at the big, expensive houses, a lot of them aren’t owned by real people, but by companies. They shelter the house in a company because of the leverage they get in return.

16

Companies took loans, bought villas and paid of the bank’s loan and interest with the return. Part of the villa is depreciated, together with all their other cost (heat, water) were put as a business cost.

People now want to get rid off this big villa Sell asset or shares? They sell the shares: they get rid of all the liabilities. Assume the only asset of the company is the house. As Bid co it is potentially good: there are no registration rights due: zero on a huge value. There aren’t many business activities. In the past big turnover, now almost zero turn over. No income, only cost and the asset is a house. Or there used to be a house (maybe accounting value is close to zero). If the shares of the company are going to be transferred and the registration duties on this share transfer are zero. If there would not be a transaction of shares but of assets, the registration duties would be 7% and for second home 10%. What will the tax authorities do? They will try to tax the transaction: they can only do it if it is a share transaction but the real object of the sale is the villa. The fact that sale of assets is a disguised a sale of shares. They try to requalify the sale of shares.

o Simple, less feesWhen parties do a share transfer it is potentially not only for vendor but also for bid co resulting in less fees, because it is simpler, more easy. In theory true, in practice only partly true. A principle that is an easy transaction: give money and now I’m owner. You do an investigation first. Tax investigation for example whether there are no hidden liabilities or risk laying around costly investigation that one of the parties or both need to pay. It can be a costly exercise in practice.

Bid co considerations: advantages: shares1. Lower capital outlay 2. More likely to be attractive to vendor 3. May benefit from tax losses carried forward4. May gain benefit of existing supply or technology contracts 5. Lower capital duty

Assets acquisition 1. Cost base step up (kostenbasis opvoeren).o By purchasing tangible fixed assets, the purchase price is shown on the balance sheet and

that price is then depreciated over the years up to 0 euro. These depreciations are included as an expense in our result, which means that the profit will fall.

o Basis: for depreciationo Step: difference between the original book value and the price paido In the case of participation (shares). No impact on profit. We don't go to write off shares.

2. Amortise (afschrijven) purchase price o You can depreciate assets, not shares less profit less tax.

Combine this advantages (1 and 2) together. Part of the balance sheet of target co is a factory: fixed asset. The accounting value (boekwaarde) is 500 and this equals the tax value. Market value is 2000.

What may create a difference between accounting value (: value at which the assets appear on the balance sheet of the company.) and tax value of an asset? Certain deprecations and the tax authorities should agree with them. For example: depreciate the factory in 5 years, very rapidly accounting wise. Economic lifetime of the building is 20.

Now we assume 500 is the purchase prince. New example. 1 2 3 4 5 100 100 100 100 100 Accounting wise= 100 per year.

17

20 years: tax wise: 25 per year. 1 2 3 4 5 …. 20 25 25 25 25 25

What will you see? The tax authorities will disagree and do an adjustment. In the tax return, it consists of various parts. On the taxable reserves, first part of the tax return, you will see a box: overdreven afschrijving or excess depreciations. What happens in the first year? Third year?... fifth year? The difference between the accounting and the tax depreciations will be added to the profit.

1 0 75 2 75 1503 150 2253 225 3004 225 3005 300 3756 375 350

Every year the difference (75) is added to the tax profit during 5 years. Difference between what is in the books and what is acceptable as a deduction. In year 6 your accounting depreciation will be 0, but tax wise you will still depreciate at the rate of 25%. How do you get this 25? This is outside the financial statements. You decrease your tax reserves with 25. You create outside the books a cost of 25 for the next 15 years.

Bid co has 2 options: buying shares or assets. We assume now that there is an asset with accounting value 500 and market value 2000. Vendor will determine its price based on the market value of the asset. We are interested in buying the asset, buying the factory. What is going to be the price target co is going to ask for the asset 2000. What is the difference between bid co buying the shares and buying the asset?

Advantage for the buyer of the asset? Let’s assume bid co is a corporation as well. The price is payed: 2000. It will appear in the assets and thus the balance sheet of bid co at market value. The asset will start a new life: 2000 will be depreciated again. Depreciated over the useful economic life time of the asset. Your purchase price, per anon of the depreciation will be added in the expenses.

You pay a price for an asset and you can depreciate it, and this depreciation can be taken into the expenses. If you put a share price on your balance sheet: you can not depreciate it. If you book a reduction on shares in the balance sheets: it is not tax deductible.

3. No liabilities inheritedOnly buy what you want. Sherry pick up to the maximum. You don’t take up liabilities or commitments.

4. Easier to rationaliseBecause you can choose which assets you want, you think through the whole acquisition.

5. No tax liability on retained earningsRetained earning remain on the balance sheet of target co. It is a liability for the shareholders of the vendor (target co).

18

6. May acquire part of businessAll about the sherry picking. You can choose to only take over part of the activity.

We discussed most of the elements last week

Bid co considerations: advantages: assets 1. Cost base step up 2. Amortise purchase price3. No liabilities inherited4. Easier to rationalise5. No tax liability on retained earnings6. May acquire part of business

Bid Co considerations: disadvantagesShares

1. Acquire unrealised gains o You take over taxes on the unrealised capital gains on the sale of assets. The new

shareholder acquires the unrealised gains.o Why potentially a disadvantage? Which part of the balance sheet? When are you

obtaining the gains?

We have Target co and bid co has taken over the shares: what happens when you take over the shares? You take over everything potentially also the stuff you do not want. For example, (it happens often): a family owned company with a factory, machines, employers. Somewhere on the balance sheet or very hidden you see a villa in Spain. Bid co is not interested in the villa in Spain, vendor does not want to take it out because he wants to get rid of it, it is yours, take or leave it. If you take over the shares you have to take over the villa as well. A stock quoted company will say ok we do it. What will the new owner do? He will sell it of, get rid of it as soon as possible. Big question: is there potentially a capital gain? Let’s assume that book value is 0 and you sell it of at a market value more than zero so there is gain. Before you can pay out dividend, you have to pay corporate tax on returns. If afterwards there is still a delta to give out a dividend on which withholding tax are due. All the taxes are for the new owner.

2. Liable for previous liabilities (aansprakelijk voor eerdere schulden)o All those liabilities are for the new owner o You are responsible for all debts and claims, although there are certain procedures in place

to prevent this.

3. No write off of purchase price (aandelen kunnen niet worden afgeschreven).o You have bought the shares; you can not depreciate. Difference with assets!

4. Acquire tax liability on retained earning o You take over reserves and are therefore obliged to pay withholding tax on this when you

pay out a dividend. Tax on reserves of retained earnings.

Bid co considerations: disadvantages: shares1. Acquire unrealised gains 2. Liable for previous liabilities 3. No write off of purchase price

19

4. Acquire tax liability on retained earning

Assets1. Need to renegotiate supply employment and technology (Noodzaak om opnieuw te

onderhandelen over de levering, de werkgelegenheid en technologie).o If you buy assets. It’s momentum where strong parties can re-discuss their terms and

contacts.

2. Higher capital outlay (hogere kapitaaluitgave)o If its an asset deal: higher price: when you sell of asset you know that you are going to pay

corporate income tax on the gain: take in an account when determine the price.

3. Unattractive to vendoro For the selling parties, the sale of assets is less interesting than the sale of shares. So they

are going to ask for a higher price.o Not in all cases. Example: capital gain: Target co may have had tax losses carried forward.

Not always the case that you have to pay taxes on the capital gain. As bid co, need to get hold of the tax position/agenda of target co when it sells of assets

4. High transfer taxes o High registration duties. Certain assets: high capital or registration duties are due.

5. Acquisition goodwill o Business is taken over by an asset deal & goodwill is being purchased, accounting profits will

be impacted. Because of depreciation or appreciation.Disadvantage about acquiring goodwill and what has it to do with impacting the accounting profits? If you take over a business: what is goodwill? The intangible value of experience for example. You buy goodwill what will happen at the level of Bid co? It will be activated and then depreciated. Depreciated from accounting point of view.

o By consequence: can decrease Bid Co accounting profitAdvantage: you pay less taxes. If the shareholders are used to receiving an annual dividend, the annual dividend may (potentially) be impacted negatively by depreciating the goodwill from an accounting point of view.

Big question? Whether depreciations on goodwill are deductible? Not in every country they are tax deductible. Shelter the goodwill where you can depreciate the asset and put it on a balance sheet in a country where this deprecation is accepted from a corporate income point of view. They can choose which group entity is going to buy the goodwill. make sure it is in a country where it is deductible.

Bid co considerations: disadvantages: assets 1. Need to renegotiate supply 2. Higher capital outlay 3. Unattractive to vendor 4. High transfer taxes5. Acquisition goodwill

Overview Bid co considerations: advantages: shares

1. Lower capital outlay

20

2. More likely to be attractive to vendor 3. May benefit from tax losses carried forward4. May gain benefit of existing supply or technology contracts 5. Lower capital duty


Bid co considerations: disadvantages: shares1. Acquire unrealised gains 2. Liable for previous liabilities 3. No write off of purchase price4. Acquire tax liability on retained earning


OverviewVendor/target considerations: advantages: shares

7. Any previous tax liability or other claims are being transferred 8. Likelihood of reduced tax on sale9. Transfers existing tax liability on retained earnings10. Transfer unrealised capital gain tax liability on the underlying asset11. Sell all balance sheet liabilities12. Responsibilities for employees and the industrial relations is with new owner




21

Bid co considerations: advantages: shares1. Lower capital outlay 2. More likely to be attractive to vendor 3. May benefit from tax losses carried forward4. May gain benefit of existing supply or technology contracts 5. Lower capital duty


Bid co considerations: disadvantages: shares1. Acquire unrealised gains 2. Liable for previous liabilities 3. No write off of purchase price4. Acquire tax liability on retained earning


Acquisition of shares by Bid co.Tax liabilities of target Co? Undisclosed liabilities

o Once the shares of Target Co. have been acquired, Bid Co. has full responsibility for the obligations of Target Co.

Target co has potentially tax liabilities potentially on the balance sheet (taxes to be paid) as well as hidden liabilities (future liabilities for example) future or transfer pricing audits.

In case of a share deal you get to know of all the tax labilities that the company has, that’s the theory. In reality when you buy shares of a company you want to have a guarantee that you are not going to have liabilities especially the hidden, undisclosed (not referred to in the books) liabilities. You need to protect yourself from them.

How is Bid Co going to try to do this? 3 ways: in most cases a combination of these 3 approaches.

1. You can go to the tax authorities and ask for a tax clearance. Are there any open tax liabilities? Ask for Certificate: this has only limited value.

o Potential buyers can go to the tax authorities and ask for tax clearances.

What’s the relevance of your company being located in the big or small cities; there are companies that are to small to have been audited. What is the value of such a tax clearance if they have never carried out a tax audit?

22

Sometimes people give tax authorities a call: do me a favour; a potential client, target co, the shares, are going to be potentially bought. Announce a tax audit. So that afterwards, we know that the recent 2 years are being audited so that the liabilities are no longer hidden. This is an other form of tax clearance: call tax office for an audit. Order an audit.

2. Ask for a due diligence (= boekenonderzoek) to review tax matters – would not rely on alone. o Ask a third party (e.g. audit company, tax specialists) to perform a diligence to review the

books and records of Target Co, together with the previous tax returns to determine whether the taxation matters have been properly dealt with and tax liabilities are reasonably provided for.

What is in the books, is that a correct reflection of the reality? Auditor to check this. Are there any liabilities against third parties?

Order tax due diligence. Searching extra information.

Purpose of a due diligence? Not only trying to get more certainty. More pragmatic: know how much taxes you will be paying in the future. Vendor will maybe already have a price, that price is the start of position. The purpose of this due diligence is not only to get certainty about what is on the table. But also to get the price that is being asked down. If vendor asks 100.000 but if due diligence shows there’s a hidden tax liability of 250.000, then they try to get the price down.

3. More legal protection: indemnity clauses in the sale agreement. Shares transfer is subject of a sale agreement and we have an indemnity clause foreseen in the sale agreement. You ask for 100.000. but our due diligence shows this 25.000 tax liability. Let’s agree that I pay you already 75.000.. So 25.000. being the difference we put on an escrow account on which the 25 thousand is being paid by bid co, but it can only be taking out of the account when both Vendor and Bid co agree on getting out the money.

25 thousand is not released at once but statue of limitation: tax authorities have a specific period of time to audit a company to increase the taxes.

Statue of limitation in Belgium:Target co closes 31/12/2019 Financial year 2019 Assessment year 2020. Retention of part of sales price until statue of limitation expires.

o Normal assessment period is 3 years starting 1/1/2020 till the 31/12/2022. In practice a little bit shorter because a thirty days’ reply for tax audit.

o 7 years: in case of fraud. That’s why due diligence is interesting, to see if the company is committing fraud. If you are still interested in buying the company, the money will say on the escrow account for 7 years.

o In case target co has always generated losses. If you are acquiring a loss making company, you have to be very careful. The Belgian tax authorities may adjust the amount of tax losses carrier forward: almost unlimited in time. Once it achieves profit and deduct the tax carrier forward: they may look at the full time in which tax losses were being build up.

three ways to protect yourself from hidden liabilities and often a combination of all tree.

Tax losses and other tax benefits of Target Co - Availability of losses may be dependent on no change in ownership.

23

- Other taks benfits may also be affected: foreign and domestic taks credits, export incentives, etc.

- If Vendor/Target Co are co-operative, may be pre-acquisition steps to preserve or utilize tax benefits which may otherwise expire.

What happens if a company has tax features? Tax losses carried forward, dib deduction,… What happens if Target co is taken over by Bid co? Change of ownership. If there is a change of ownership you have to consider domestic tax law to see what the impact is. In Belgium there is a provision that says: when there is a change of ownership, outside the consolidation parameters, which is normally the case namely a third party. Target co can no longer use these tax features unless Target co can prove that there is an economic need. For instance: Target co implies no change of activity and the level of employment is kept at the same level. If you take over and keep everybody on board then Target co can further use the tax features.

Last paragraph: it’s not entirely one to one linked with the change of ownership and the risk of tax features being lost. But contrary to what is applicable in Belgium, there are countries where tax losses carried forward cannot be carried forward in time. In Belgium there is no expiration date on the carry forward date. For this example the losses may not be transferred to next year. The transfer is limited in time. Target co has tax losses that expire next year.Tax losses risking to expire: what can be a pre-acquisition step that Target co and Vendor co could take in order to preserve this tax benefits? Bid co is also interested in these tax losses carried forward, but the tax features will expire. Tax losses are no longer available because the use of losses is limited in time (legal restraints). Not because there is a change of ownership. So what could they do? They are in a share deal. Pre-acquisition transaction/step: suppose 2019: transfer of ownership in 2020: you could for instance say: let’s sell of a building or a warehouse. We realise a capital gain and that capital gain is set off by the tax losses that are still available in 2019. We are not paying taxes on this capital gain because we have enough tax losses to eat up the capital gain. The rent kicks in, pre-acquisition sale of the building. Building is owned by Bid co, then after the sale Bid co will rent out this building to Target co. We are no longer able to use the tax losses because they have already been eaten up. Depreciation of the building: this will eat up the rental income, again if it’s well scheduled no or limited tax. What do we have at the level of Target co? Target co is going to pay rental cost to the new owner (Bid co), if it is a market rent, the rental cost is going to be tax deductible. Every year we have a cost. We create an extra advantage for target co. Tax beneficial. BIG BUT: What can be a deal breaker? Definitely in Belgium if we sell of a warehouse: registration duties. If you sell on an asset you have to consider registration duties. In Belgium these duties are very high. This can potentially be a deal breaker.

Tax transfersLower rates of stamp duty (a taks that is levied on documents) or transfer tax may apply to share transfers (lagere tarieven van het zegelrecht (stamp duty) of overdrachtsbelasting (transfer tax) kan gelden voor aandelentransfers)Share liability to duties with vendor? Cross-border transactions – duties in more than 1 jurisdiction

What is typically for a transfer of shares? Normally subjected to no transfer taxes (Belgium) or a lower rate of transfer taxes because not subjected to registration duties. Example of real estate company, villa in Brasschaat: see above. Even in case of a share deal you need to consider: are we really in a country where there is no or low transfer taxes on the share transfer?

24

If there is a liability part of negotiation process.

Cross border transactions: transfer of shares: do not forget to consider where registration duties are due. Once he had to advice a client that bought a Belgian company, but the real estate was located in Spain. Registration duty was due because transferring shares of a company that had real estate in Spain. You can pay transfer in tax, normally no transfer tax in Belgium. Consider potential application of registration duties on the underlying asset in other countries. Investigate!!

Sales of shares by vendorRelevant jurisdiction: residence

Vendor jurisdiction Target’s jurisdiction Jurisdiction where the sale took place

Capital gains tax exemption when participating privilege/dividends received deduction applies in some countries CGT planning: presale step

Presale dividend

Relevant jurisdiction: residenceo Vendor jurisdiction = country where the vendor (persoon of bedrijf) is locatedo Country where the target is locatedo Country/place where the sale took place

When transferring shares of a company consider the possibility of a cross-border transaction

Which country is able to tax the capital gains which are realised by vendor? You need to (in case of a cross border transfer of shares) investigate, not only in the country where vendor is located. But in case of a cross border set up also consider the law in the country where target is located. Suppose: parties agree to register the sale of a share in Swiss. Fixed date of the transfer. Transfer is being registered in Swiss. Does Swiss law for see any taxation law regarding this case? Analysis of all the countries.

Capital gains of shares. Whether capital gains on shares are tax exempted or not, it is often linked whether target co would pay out a dividend, is this dividend eligible for the DIB-deduction?

CGT: capital gain tax planning: presale step - If the Vendor is taxable in a jurisdiction which taxes capital gains, it may be tax efficient

for Target Co to pay out dividends to Vendor prior to a sale of Target’s shares.Pre-sale step: paying out a dividend before the sale of the shares of target co. In which case will you claim as much dividend as possible out of target co as a pre-sale step?

Belgium withholding tax rate on dividends is 30%. Knowing that, when would you consider as a pre-sale step a pre-sale dividend? Vendor deciding I’m the shareholder of target co and before I sell out my shares to bid co, I’m going to get a dividend out of target co as big as possible.

- The pre-sale dividend will reduce the sale proceeds of Vendor’s shares pro rata and will therefore also reduce the taxable gain of Vendor pro rata, unless the dividend has a direct link to the cost base.

25

- Important to consider the withholding tax position on dividends of Vendor. In which case can this be a favourable decision for vendor? When the tax on capital gain is higher than the withholding tax rate on dividends. Not the case in Belgium: because it is probably not going to be higher than 30%.

It can always be in the law that you also need to consider the tax losses of Target co. Country where Target co is located is also able to tax. If a cross border is considered and 3 countries are involved then do the analysis of all the 3 companies in the 3 countries. There is no logic in fiscalism. You always have to do your analysis in each of the countries involved.

Target – Shares sold to Bid coTax losses/tax credits

Availability of tax losses and tax credits/deductions may be affected by changes in (beneficial) ownership (as already discussed).

Residence status Cross-border change in shareholding may alter the effective management and control

and residence status.E.g. if a company is no longer located in Belgium, than it is bankrupt for the standpoint of the tax authorities.

Relation between residence status of Target co and the new owner Bid co. Target co is taken over by Bid co, how can this impact the residence status of Target co? Target co is a typical family owned Flemish family. Bid co is a multinational, located far away in the USA. What could happen? Country where Bid co is located can claim taxes. What can happen that may trigger the country to claim the taxes? Board of directors was first filled with Flemish family members and now they kick them out and replace them with “our” people. If this “our people” are no longer Belgian, tax authorities will look into it. Tax authorities see that in the Bid co company mister X is located in the USA. Is this still a Belgian Company? Or can we claim taxing rights, because the majority of the board of directors is residing other else.

Acquisition of assets by Bid coAllocation of purchase price – tax relief on assets acquired Transfer taxesOther issues

Allocation of purchase price – tax relief on assets acquired Major consideration for Bid co: to maximize tax relief on assets acquired (het maximaliseren van de belastingvermindering op de verworven activa)

Acquisition of assets. We are touching upon the features of an asset deal. Buying the assets of a company or group. Sometimes these assets are located in various spots. There is a price being agreed upon for the assets. The purchasing price needs to be allocated over the various assets involved. Here there is a small interaction with taxes, up to a certain degree, the allocation can be influenced by taxes. What will Bid co, as they buyer of the assets, try to achieve? One of the advantages of an asset deal for Bid co: cost base step up and deprecating the cost base. The tax goal of Bid co is to pay a price, preferably, they will have the cost base being depreciated up to a maximum and as quick as possible.

26

Maximize the tax relief on the assets acquired. Depreciations are creating a tax cost and this tax is hopefully tax deductible (tax relief). They want to have the tax relief maximized. By allocating the purchasing price to assets that can be depreciated AND allocating the purchase price to the assets that can be depreciated over a short period of time.

Usually possible for plant, equipment, building and inventory, intellectual property and goodwill. Rates (tarieven) may differ. Intellectual property and goodwill subject to restrictions.

Allocate part of purchasing price to ‘’land’’; you can’t get a tax relief because you can’t depreciate land, unless it is industrial land that you can exploit. (e.g. coal mine)

Same goes to certain intangibles of goodwill. Goodwill is not always depreciatable, and certainly not from a tax point of view. You need to be careful to which company of the group of Bid co, you allocate the goodwill into the books because it needs to result in a deprecation that is deductible for tax purpose.

Allocation of purchase priceo Possible conflict with Target co. Capital gains tax planning.

If you start to allocate the purchase price of the asset deal, we also need to take in account the agenda at the level of target co. After the sale of the assets by Vendor, it will be Target co that needs to register a possible gain on the assets and will potentially have to pay taxes on it. Bid co needs to take into account what happens at the level of Target co too.

Tax strategies: Pre-acquisition of assets in a favourable location Transfer of goodwill

o What happens sometimes is that the goodwill is put in Luxemburg and is depreciated there, so it is tax deductible. The Luxemburg company gets a royalty income in return for the goodwill. It was used to shelter goodwill upon an asset acquisition.

But consider substance requirements -BEPSo Base erosion and profit shifting. Often the case was that in Luxemburg there were

companies with goodwill on the balance sheet, but actually there weren’t any people in Luxemburg. No letter box/real residence. Belgian tax authorities are taking that into account now.

Target – asset sold to Bid co Capital gains tax payable on disposal of certain assets

Vermogenswinstbelasting (belasting op meerwaarde) op verkoop van bepaalde activa.

Incentives may be forfeitedPrikkels kunnen worden verbeurd verklaard.

May attract indirect taxes recoverable or not? - In an asset deal, Target Co is a Belgian company and a new building is part of the assets that is

being transferred. Building is one year old, very new building. What will happen in Belgium? Apart from the capital gain tax in the hands of Target co. What may be due when a new building

27

(not necessarily new built, but just new for the application of a certain indirect tax). What taxes may be due if the buyer is a physical person? What indirect tax will be due?

o Registration duties will be due on the part of the price that relates to the land. VAT (Value Added Tax/btw) of 21% will be due on the part that relates to the new building.

- If the buyer of the asset is a company, what happens with the 21% VAT? Bid co taking over the assets: you pay the VAT and you get it back. It is refundable, normally it is not a cost. The purchase price is put on the balance sheet which you depreciate. VAT return is credible tax. On your input you recover VAT. Is this always the case? Always recoverable? For which companies it is still a cost and a big cost?

o Banks o Insurance companies

These companies are in most cases not entitled to recover their input VAT at a 100%. These are mixed VAT payers (=gemengde belastingplichtige). On a big part of their turnover they do not pay VAT, to compensate this they cannot deduct the input VAT. Now we look deeper into the VAT situation: how much of the input VAT can they recover? If a big chunk of the purchase price is going to the new building, VAT is being payed on the new building and then the bank can be confronted with high taxes which they cannot recover.

Funding the investmentForm of acquisition: issue of shares/cash/assets Internal/external finance (thin capitalisation requirements/ATAD developments)Maximising the interest deduction Withholding tax

How to fund an acquisition? In case of debt financing you have external financing: you go to a bank or another

financial institution. Internal financing : multinational has its own internal bank.

o If you fund an acquisition in means of debt financing, take into account where you put the debt financing. And also if there are tax rules in the country where you put the debt financing. ATAD : anti-tax avoidance directive: prevent tax avoidance.

Maximising the interest deduction: if within a group an inter-company loan has been provided, an interest rate needs to be put on this loan. Multinational will want to achieve full deduction of the interest that is due. But you cannot charge whatever interest rate. You have to take into account the characteristics of the loan.

Withholding tax: for the company paying the interests: can we achieve an exemption, or go to the double tax treaty? Very important source of tax leakage. At the level of the entity receiving the interest, we should consider: claim of a tax credit (vordering van belastingsvermindering)

28

Corporate reorganisations - mergers

2 kinds of mergers to visualise what a merger means. The end of the merger is the same.

o 2 companies A and B and they merge into a new company. New company is formed namely AB. In return of the merger the shareholders of AB receive shares in A and B. They become the shareholders of New co. The companies A and B disappear.

o We have the company AB resulting out of B that is merged into A. B disappears. Afterwards only one entity that survives the merger namely A. The shareholders of B receive newly issued shares of company A.

MergersA merger is, in a way, a combination of the interests of two or more shareholders for the purpose ofthe material benefit to all shareholders.

Tax issues Capital gains rollover relief (meerwaarde rol over aflossing) Tax free reserves Tax losses in both entities (fiscale verliezen) Transfer taxes (overdrachtsbelasting)

What happens if B disappears? What happens if we liquidate the company B from an incorporate tax point of view? We are talking about a liquidation not a bankruptcy. Liquidate the company because you no longer need it but you don’t want to sell the assets. What happens with the assets? They go to the shareholder. The shareholder gets the remaining assets/liabilities. Belgian company and the shareholders are not Belgian. Reaction of the tax authorities of the country where the company was resident? They will try to raise taxes on the assets that are being transferred. Deemed gain on the assets: try to tax this. Is there a surplus? Can I tax the difference between the tax value and the market value? If there is a gain, they tax is. This is the asset side. Deemed gain: gain that was exempted earlier but taxed now.

29

What can there be on the balance sheet of the liquidated company that may be interesting for tax authorities? Tax free reserves. If a company is liquated and there are tax free reserves on the balance sheets the tax authorities will try to collect taxes on this. Tax-free reserves is the profit that not yet has been subjected to corporate income tax.

Tax losses carried forward of a company that is being liquidated. Tax losses carried forward are not going to the shareholders. They are lost.

Suppose building on the balance sheet but not a new building. Building is owned by other person or persons. Transfer of ownership: registration duties. In the first case of a mergers, we are not going to liquidate B because we do not like to pay taxes. We need to get companies together in a tax optimal way. How do we achieve this? By organising a tax-free merger. List of articles for when merge 2 or more companies, they need to respect different conditions/formalities. Tax free merger which is in fact the opposite of tax merger or liquidation. What happens with the deemed gains? 2 companies have real estate on the balance sheet. If we merger these entities in a tax-free manner, what happens? the real estate of A and B will appear on the balance sheet of AB.If you have A B together with real estate. Real estate of A: 100 million, B: 50 million. Books of the merged entity: 150 million. They keep their historic book value. You do not have to express the gain in the books of the merged entity. If then later on, the merged company sells of the real estate, then you will calculate the gain and compare this with the historical value.

Same goes with tax free reserves; they remain their nature, they remain tax free reserves. You postpone the paying of the corporate income tax to a later moment.

Transfer taxes: registration duties, indirect taxes, VAT. In case of a tax-free merger and you transfer everything then there is no VAT due on the transaction. Very interesting for banks as well, in case of a liquidation or taxed-mergers, registration duties due on the real estate of B. It’s a neutral merger. The 2 entities come together, and you don’t have to express the gains on the assets. Keep the tax-free reserves on the balance sheet and your transfer is benefiting from an exemption from VAT if you fulfil certain conditions.

A B AB B ABNTV 100 200

TLCF 20 0

NTV: nett tax value of A is 100 and the nett tax value of B is 200. What will happen after with the 20 (Tax losses carried forward) after the merger? If A would be liquidated then the 20, if it could not be used to set off capital gains or eat up tax free reserves, will be lost. What happens with the 20 when A and B merge? They can be transferred to the other company (A). In case of a tax-free merger: this 20 can be transferred to the merged company up to:

Tax losses carried forward x Nett tax value of A = 20 x 100Nett tax value of A + nett tax value of B 300

= 6,6 TLCF.

30

Specific rule that foresees a transfer of the tax losses carried forward to the companies involved in the merger, to the merged entity. In Belgium Tax losses carried forward can still be carried forward to a certain part in case of a tax-free merger.

Corporate reorganisation - demergers

- Company AB Is demerged, resulting in companies A and B- Shareholding may be maintained or different groups of shareholder may elect to take an

interest in one of the entities formed- Also called spin-off or division.

Demerger = opposite of merger namely splitting. One company and after the demerging process we have 2 or more companies. The points for a merger are also relevant for a demerger. So see above.

EU-merger directiveApply to

Mergers Demergers Exchanges of shares Division

Reliefs Defer (uitstellen) capital gains Carry over transferee’s tax exempt provisions Carry over of losses (where already in domestic law)

Why do we have a specific procedure? It is an EU merger directive. A directive needs to be translated into domestic law. It deals with:

Defer capital gains (uitstellen van meerwaarden) Ensure that tax exempt provisions can be carried forward without any tax leakage

(vrijgestelde verliezen) Certain degree of carry-over of losses (overdracht van verliezen)

31

Basic concepts and fundamentals transfer pricing: topic 3Contents of sessionContents of Session Arm’s Length Principle (ALP)

Why transfer pricing is important? International recognition of transfer pricing

OECD - Key Terms and Transfer Pricing Methods Comparability factors Key terms

Basic concepts further elaborated on the basis of various stages in a transfer pricing analysisConsequences for the taxpayer Transfer pricing at the level of the European Commission

EU Joint Transfer Pricing Forum Course material (* posted on Blackboard):

Slides (133 slides - *) Attending classes and taking notes OECD 2017 Transfer Pricing Guidelines (* reading material)

Reading material: OECD transfer pricing guidelines. Some of the concepts we discuss in class, will be coming back in this document. New or renewed explanation of some topics.

Most important tax topic in a lifetime: transfer prices. Intro on the basis concepts.

What do these companies have in common?

All these companies do ring a bell. Common element for those companies? They are all multinationals and they have all been named and shamed in the front page of the financial times. Because they had or still have a serious cat fight with mainly the European commission on taxation issues. For the specific cases: it has a lot to do with transfer pricing. Not mainly, but there is a connection. They are facing challenges in the tax domain, they have been challenged by the government on the correctness of their taxes or their transfer prices systems.

What can a transfer price relate to?Between the related parties, companies that are part of the same multinational group, a lot of transactions do take place. Diversity of the nature of these transactions.

Controlled, or related-party, transactions can take many forms: Transfers/use of tangible property

o Goods o Assets: for example machines or a building that’s transferred from one country to

another.

32

Transfers/use of intangible property. It can be transferred or put at the disposal of other companies.

Transferring the legal title to the new user. o Patents (octrooien). o Processes

Manufacturing processes o Copyrights

For software. o Trademarks (handelsmerken)

All intangibles that float around in a multinational group. One or a few legal entities in the group are assigned to be the legal owner, and others are the users of this intangibles.

Services (intra group services)o Low-Value Adding

A service that is been rendered within a multinational. It does not match the core activity of the group and it is supposed to support the main activity of the multinational group. Examples: accounting, finance, HR, IT, legal advice, audit, controlling. Debate: IT: without a good IT-infrastructure nothing is happening in a finance company. Some parts of IT are high value that should not be considered as low value.

o High-Value Adding Look at services which are rendered by the c-levels, the top directors. Examples: procurement, strategic management advice.Why do we make the difference between these two? The remuneration that is expected for these two categories is different. Classification. Low added: remunerate low-value adding because they have a small mark up, 5%. High value: high mark-up, up to 25-30%.

Financial transactions How does a multinational group finance its operations? Internal financing: the pricing of this transactions becomes very important.

o Loans Classical loans, profit participate loans (difficult).

o Cash pooling If group member participate trough the cash pooling systems it is a transaction that needs to price.

o Guarantees Explicit or implicit guarantees. A formal guarantor: then it is a transaction. It’s an intercompany transaction that needs to be priced.

Cost Sharing/Contribution Arrangements (CSA/CCA)Typical arrangement, that you most commonly see in a multinational context, where related group entities agree to organize or to do something together. What is typically an activity which is shared in the way that some qualifying group entities say: let’s pull our know how, resources together to do something together because on our own we are too small or lack some capabilities. Research and development: group members of a multinational decide to team up and do research and development together. In some sectors more often than others. Especially in the chemical, life science and automobile industry. Also in the financial services industry but remember here: indirect tax recoverable: banks/financial institutions sometimes have a leakage of VAT. CSA has some side effects as well, namely it can have an impact on the VAT qualification. CSA can benefit regarding withholding taxes. CSA: does not qualify as a royalty in a lot of countries: no withholding tax due. Optimize in this domain.

33

All those transactions can be covered. Why transfer pricing is important? Growth of MNCs (= multinational corporations)MNE typically split operations between affiliates in different countries, e.g.:

Research & Development Centers Global / Regional Sourcing Operations Regional / Global Manufacturing Plants Marketing and Distribution

o Prices between related parties are typically not set by market forces, so related parties may be over- or undercharging for a particular good or service. This can affect overall profitability of an entity

You have a lot of transactions between the group members/entities. Mainly this is between group entities: separate legal entities. Sell and buy from each other and so a lot of invoices. Which prices should be put on each intra-group transaction? It is the price on that transactions that we call the transfer price.

A multinational is not that much concerned about the price that needs to be put on transactions. It are the tax authorities that are concerned. Multinationals are not driven by laws, they want to make money, beat the competitor, they do not care about boundaries of countries because they are operating globally: see which country is the best to put something in. Tax reasons will play a role, because in certain countries you have tax incentives for Research and development, for example in Belgium. Procurement centre: put the activity where you have to pay the lowest taxes. For example the activity is manufacturing. There are economic reasons why this activity is moving to Asia, West-Europe… Manufacturing activities are going were labour costs, energy costs or the rules on the environment are low. Being close to your market, transportation cost and tax are also important. Multinationals operate in countries where it is most interesting to be settled in.

If there would not be rules on the game, there is a big risk that they would over or undercharge a transaction What is the impact of this? The taxable income of a country. If a Belgian company buys materials from a swiss related company, buy it for 100, or buy it for 50. Belgian tax authorities prefer the price of 50. The 50 or 100 is going to be a cost, taxable income will be lower if you buy it for 100 instead of 50. Tax authorities do care about the price of a transaction because it impacts the taxable profit of a company.

What do companies and what do tax authorities want? Their goals are not the same. Tax authority is serving the goals of a country: to collect as much taxes as possible. Goals of a multinational are completely different.

Therefore, tax authorities are concerned that multinationals may set transfer prices on cross border transactions to impact taxable profits in a given jurisdiction

Area of conflict within MNC: management accounting versus taxation ~ manage goal congruence

Something within the company that plays a role: the role that transfer pricing plays in the remuneration policy of the company.

In certain companies KPI’s are influenced by transfer prices. If we gain transfer prices, the turnover can be influenced. If the bonus of directors depends on the turnover, that can get give rise to

34

frictions, as transfer prices will have an impact on the statuary turnover (turnover in the financial statements). Large MNCs = Primary target for Tax Authorities

US Corp. Tax Rate (at Federal level) has been 35% since 1986 till 31 December 2017 (21% since 1 January 2018)

o One of the highest in OECD, in developed countries o Yet effective tax rate has dropped over time

Similar trend elsewhere in the world How is this possible?

Corporate tax rate under Donald trump reduced from 35% to 21%. Significant reduction. 35% was there for a long period of time. If you would see in absolute amounts: divide the total amount of corporate tax income collected by the American tax authorities, and you would divide by the GDP of America. You will see that the percentage will go down. Nominal rate stable, and the importance of the corporate tax rate goes down, so the revenues/GDP go down. If your nominal tax rate is too high or much higher then elsewhere, the tax base will erode (this is a given). The tax base is getting irrelevant. Take away the profit from companies and put it elsewhere changing the transfer prices. This is caused by transfer planning, which is partly caused by transfer prices.

Main motives of MNE when setting up a transfer pricing systemGoals you want to achieve with determining your transfer prices. For multinationals. It is a tax planning tool. First 3 goals are opposite to the goal of a tax authorities.

o Maximalisation of (consolidated) profit (after taxes)o Differences in tax rates and tax lawo Limitations to repatriation of profits and dividends from abroado Competitive position of foreign subsidiarieso Import duties and customs regulationso Limitations to royalties and management feeso Maintaining good relationships with local authoritieso Sufficient level of cash in foreign subsidiarieso Import limitations imposed abroado Performance analysis of foreign subsidiaries

1. They want to maximize the consolidated profit of a group after taxes.This profit is mostly used to pay out dividends to the shareholders. They want to achieve a maximum of profit after taxes. Maximize profit, if you do not optimize your taxes and you give away 30-40% of your profit to taxes, multinationals do not want this. Transfer prices are used to achieve a maximum of profit that is available for distribution to the shareholders. Most important motive. Very transparent

2. Differences in tax rates and tax law When trump was reducing the tax rate, you saw a lot of multinationals in America that were redirecting their profits to the US. Differences in tax law: in Belgium tax losses can still be carried forward unlimited in time. Suppose the government makes a change in Belgian tax law because they need money. Suppose you give companies 5 years to recover their tax losses. If you introduce such a new rule, multinational will use their transfer prices to increase the profit of the Belgian companies so they can still use their tax losses carried forward.

35

3. Limitations to repatriation of profits and dividends from abroad Not necessarily a tax reason. If you put profit in a country, it is almost impossible to get it out. Developed countries: limitation in recalling the profits. Once a profit is realised, it cannot be given to the shareholders without any string attached. They take the money out on another means (under which transfer pricing).

4. Competitive position of foreign subsidiaries Nothing to do with taxation but it is a bit fooling the competition. In Belgian when you have a nv or a bvba, a corporation with limited liabilities, companies have to deposit their financial statements. Everybody wants to see how another company is doing especially when it is competition. Fool competition: show a profit, but if we would have applied the right prices it would have been a loss. Strategic reasons. If you want to compete with new markets, you have to gain market share. You can do thisthrough lower prices than competitor. In order to stimulate this, the following will be taken into account with transfer pricing.

5. Import duties and customs regulations Selling for 100 instead of 50 additional cost lower profit lower taxes. If you import goods form outside the EU: then potentially other taxes will need to be payed. For instance: import duties. What you win with increasing your price, so on direct taxes you may lose on import duties. Impact of increasing the price on other taxes!

6. Limitations to royalties and management feesSome tax authorities do not look at the deductibility of royalties. In certain countries/certain governments are allergic to inbound royalty fees or management fees. For instance, a typical country that does not like their companies to pay fees /royalties to foreign group entities is China. If you would charge a royalty fee or management fee: high likelihood that you are not able to deduct this fee as a business expense in the hands of the Chinese company. Better not to charge the fee. Increase the price of another transaction, do it in another way.

7. Maintaining good relationships with local authorities Give a profit to a foreign authority in the hope they won’t bother the company.

Conclude: what is the main driver of a multinational to determine its transfer prices? It is all about taxes. Transfer prices: most important international tax issue of today.

Rat race in transfer pricing regulations More and more countries with transfer pricing rules

36

On the one hand tax authorities, on the other hand: taxpayers or the companies. Both parties have opposite goals. When tax authorities know that multinationals use transfer prices to reduce the tax burden, they are going to have tax laws that say that companies need to document their transfer prices.

Timeline: 1994: 25 years ago, there were only a very limited number of countries that had specific transfer prices rules, this were only the big countries. Now every country has more or less transfer pricing regulations. These regulations are mostly based on the work of the OECD.

International recognition of transfer pricing Transfer pricing involves cross border transactions therefore every single transaction will involve at least two countries. If countries tackled transfer pricing in isolation huge risk of double taxation

Transfer pricing is assumed to be the most important (future) international tax issue Getting the transfer pricing tax issue right from the first time is important

International recognition through forum of OECD (Organisation for Economic Co-operation and Development)

“Arm’s length”-principleMembers of a group should do business with each other as if they are independent parties. They should interact with each other as if they are not related! Prices that are put on these transactions should be the same if it were transactions with other unrelated parties.

OECD works as a referee with its guidelines (framework TP), it has to make sure that both parties have different goals. Referee has also make sure that both parties are playing by the rules. OECD: they have published rules that tax authorities and taxpayers have to respect in the domain of transfer pricing. They should respect the arm’s length principle.

The arm’s length principle

37

Try to price the related transaction as if unrelated parties with unrelated transactions would have concluded the price for the same or a similar transaction. The transfer price should match the price that 2 or more unrelated parties have concluded for a similar transaction.

Related parties should interact or deal at arm’s length At a price (and conditions) which would have been agreed upon between unrelated parties

engaged in the same or similar transactions under the same or similar conditions Article 9 (1) OECD MC

Directly or indirectly Participation in management, control or capital If ALP not respected ~ adjustment ~ double taxation

Article 9 (2) OECD MC Corresponding adjustment: In case double taxation occurs, the counterparty has to make a

corresponding adjustment. Insofar agreement to adjustment made by other State Otherwise: MAP – art. 25 OECD MC

Arm’s length principle is a principle that is copy-pasted by most of the countries. How many countries are member of the OECD? 35 members. Many of these countries are the rich countries. Old/western/European/American countries, the old economies. Also a lot of countries follow the guidelines without being a member of the OECD.

Double tax treaties are conventions that countries conclude with each other in order to prevent double taxation. What happens if every country would do whatever they want to do? Belgian company buying goods from related company for 100 instead of 50. Belgium does not agree with 100 and says the price should be 50. Double taxation exists: a part of the 100 is going to be taxed twice. Belgium says: ‘I do not accept 100 but I only accept 50 as a cost’. But in the other country, the country of the related company, the Belgian company will be taxed on the full price.

Countries try to include the ALP in the double tax treaties. Most of the treaties are, not always, mainly based on the so-called OECD MC: OECD model convention: it is the basic concept of a double tax treaty and the model convention is offered from the OECD to the countries. A concept you can use or copy, or sherry pick some parts.Most of the countries with treaties, have inspired the treaties by the OECD MC. So the ALP is embedded in most treaties.

Paragraph 1 and 2 of the OECD MC. Paragraph 1: article which is copy pasted in most of the cases. Most double tax treaties include this article. What does paragraph 1 say? For so far companies are directly or indirectly related to each other and that relation can be expressed by a common management/same control of ownership by voting rights or participation in the capital. If ALP is not respected then a tax authority that believes that the ALP is not respected, can adjust the tax base of the related company.

For instance: 100 vs 50: Belgian tax authorities believes the 100 is not matching the ALP price, the ALP price should be 50. They do a transfer pricing adjustment (upwards), tax authorities will increase the tax base. Adjustment will be 50, but that 50 will be creating double taxation. Paragraph 1 for tax authorities: if you think the ALP as we have explained it in the guidelines is not respected, then you as a country are entitled to challenge the price and adjust the tax base. No tax authority will object that it gets the right to increase the tax base of its clients That’s why we will find it back in most tax treaties.

38

Paragraph 2: you will read this to a lesser extent in double tax treaties (this is on purpose). Oke, so the country, in our example Belgium, increases the tax base. According to paragraph 2, it says: if one country increases the tax base because the ALP is not being respected, the other country should perform a downwards adjustment: decrease tax base for the same amount for so far it agrees with the adjustment made by the other state in our example Belgium. By that the double taxation is avoided.

What happens if the other party does not want to decrease the tax base? Then, there is potentially another article foreseen in the MC. Paragraph 2: mutual agreement procedure. (MAP). Procedure where parties say: indeed, there is double taxation, but I’m not agreeing with your upward adjustment, so I’m not going to do a downward adjustment. Let’s come together and see what we can do. Most countries do not like that other countries are intervening in our tax law. So that’s why they leave paragraph 2 of article 9 out. In Belgium it is mostly included in the double tax treaties: they are willing to listen. This is how the ALP can be found back in the OECD MC.

OECD – its main guidelines and reports1979 - Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations 1984 - Report on 3 Taxation Issues (Banking/Services/MAP) 1995-1999 - Updated Transfer Pricing Guidelines 2010 - Updated OECD Transfer Pricing Guidelines

In 1979 there were already OECD transfer pricing guidelines. There have been some special reports on banks in 1984. Very important update 95-99. Guidelines have more or less been implemented by most countries, since then things have changed. Also in 2010 an important update.

Attribution of Profits to Permanent Establishments (Report 22 July 2010) Article 7 OECD MC (new version) PE = functionally separate entity Two step approach (AOA=Authorised OECD Approach)

o PE = functionally separate entity ~ dealings o Profits determined by applying ALP ~ functional analysis

Part II – IV (banking/global trading/insurance)

1 Belgian entity with a head office in Belgium that has a permanent establishment in France., there is only 1 legal entity. From a tax point of view we have 2 taxpayers: head office (Belgian taxpayer) and the French permanent establishment is going to be a French taxpayer. If finished goods are sent from Belgium to France, there is a psychical steam of goods. The goods are already property of the entity, the entity can’t sell to itself. For tax purposes, transfer prices, we consider a permanent establishment it to be a functionally separate entity.

If there is a sending of goods from a Belgian head office to the French establishment: there is dealing: deemed transaction. We need to put a price on the dealing. We need to fix a transfer price on that "dealing". 95% of the things offered from the OECD, is also valid for dealing between a head office and a permanent establishment.

Comparability and Profit Methods Upgrading profit methods (no longer status of last resort) Revised Chapters I, II and III of OECD TPG (22 July 2010)

39

Update on transfer pricing methods: before the update in 2010 you had a very strict hierarchy of the methods. Preferred method was the first and so on… the pick order has been left behind since 2010 more or less.

Business restructurings (New) Chapter IX of the OECD TPG (22 July 2010)

o Economic substance o Being in control of risks o Options realistically available o Commercial rational: group level versus separate entity approach

Key topic given current economic climate 21 U

In 2010 a new chapter has been added to the guidelines: chapter 9 business restructurings. This chapter has everything to do with, not legal mergers or demergers, but moving business activities from one country to another country. For example: assets, functions, risk.

Why has the OECD created a chapter 9? It needed to be created, what were the members of the OECD saying? A lot of the activities that were originally located in western-Europe were moving out. Typically, example: KBC: IT department of KBC moved mid 2000 to Hungary. What happened? IT people lost their jobs, or they moved. What happens if a company moves a part of the production line for example, what is the impact on the company? Negative impact on the turnover, people are being laid off, restructuring cost in the profit and loss account, some assets and machines are being written of. Impact in tax terms: there is a huge decrease in the tax base. A lot of cost. Authorities needed to intervene: chapter 9. Exit taxation, goodwill calculation: if valuable assets are being moved then there needs to be a price in return and that price we are going to tax.

Not going to accept all the cost as tax deductible. Because it impacts the tax base of the original country negatively.

OECD Report – Base Erosion Profit Shifting (“BEPS”) Growing realization that there is a change in global business models and taxation

Value creation upstream (e.g. design, R&D) or downstream (e.g. marketing, branding) Growth of digital economy (i.e. no taxable presence in country of business) Globalization of corporations Large multinationals coming under scrutiny (nauwkeurig onderzoek) (e.g. Starbucks, Google,

Amazon)

Very important part!!! BEPS project: on going. BEPS 1.0, BEPS 2.0 now. Quite complicated and in-depth. Why BEPS has been taken on board by the OECD and what the outcomes are. BEPS: base erosion and profit shifting

Base erosion is all about tax base: base is being eroded because of various things, interest deduction for example. Eroding the base means less income for the tax authorities.

Profit shifting: moving activities from one country to another: moving activities from the old to the new company often from high to low taxed countries. In addition, economic reality has changed, there are not a lot of industries were multinationals do no play an important role. Big parts of the economy in hands of the multinationals and they try to reduce profitable taxes.

40

Digital economy has become very important: economy is increasingly no longer physical, but it is all in the cloud. People are doing business without having a decent presence in the country where their market is located.

Times have changed: taxation is on the front page of every common magazine. Who reads “het laatste nieuws”? In “het laatste nieuws” something about taxation: 2.8 billion that the Belgian government has given to the pharmaceutical industry by means of tax incentives. Shamed and named in “het laatste nieuws”. 1/3 of the R&D spend is paid by the government.

Your grandmother for example, some of them are nowadays interested in what happens with the money they pay to the government. Everyone pays the same share. People care what happens with their taxes and it needs to spend wisely. Mindset of people has changed. G20 & the OECD: because of this our current tax rules are no longer capable of taxing multinationals in a propriate way. We need to change the rules of the game.

OECD Report on BEPS published on 12 February 2013 Key pressure areas: Increased transparency on effective tax rates They (countries and by definition the tax authorities) want to obtain insides, have transparent communications in structures (especially the aggressive ones) that multinationals apply and the effective taxes they pay spread through geographies. Transfer pricing, shifting/monitoring risks and intangibles Harmful preferential regimes Tax treatment of related-party financing, insurance, and other intra-group financial transactions

General anti-avoidance rules, anti-avoidance measures

Intra-group insurances: captive insurance: most multinationals have this structure, it was completely unknow by tax authorities till 6 years ago so the authorities needed to examine this.

All of this resulted in:o BEPS Action plan (July 2013) 58 action points that are very ambitious. The company’s thought that this points were too ambitious, they are never going to achieve this. But this was not the case. 2 years later most of the topics were dealt with (not in full), but a big chunk of the goals were already achieved. This action points hit the taxation world in the hart.

o Publication of (most) reports (5 October 2015) o New updated OECD TP Guidelines (2017)

BEPS Action plan

Action points have been built around 3 key words: - Coherence

41

We are now globally, big part of the world supporting the regime. If we change something in our tax laws, we need to do this together and in a coherent way so the tax loups in the law are closed or made as small as possible.

- SubstanceInstead of taxing multinationals according to the contractual stipulations, let’s go back to try to tax the multinationals where they have substance= factories and people (2 most important things)

- Transparency Multinationals need to be transparent about their taxes.

Let’s take the 15 action points according to the basic concept they have ben build on. Tackle them in order.

Coherence

Hybrid mismatch arrangements (2)What can be a hybrid mismatch arrangement/ what could the word hybrid mean? Hybrid in finance concept is that consultants were selling products all over the globe. One of the most popular hybrid financial instrument was named by PPL: profit participating loan. What were the characterises of a PPL?

- Loans that were concluded for a very long period (40-50 years). - The interest was quite often defined in function of the results of the company issuing the

loan. When company’s did well, you obtained a high interest. Unsuccessful company, interest was low or zero. In function of the profitability.

Opportunity to use or abuse these PPL, this was the aim of the game. Country A and B. In country A you had a company X that granted a loan to Y in country B. Y was paying interest to company X. What was the ambition? To have these interests being accepted as a deductible expense, we are going to calculate what a defendable interest rate is taking into account the characteristics of the loan. Quite often we were speaking about very high interest rates. In the country were the interest was received , the interest was a deductible cost on the one side of the border. But actually it is not interest that we receive because the money that we put in the loan, we have to miss the money for a long time.Loan is subjected to the business risk. Interest income but we think that it is dividend income on the other side of the border:

Consequence of it being dividend income? Does it qualify for the DBI-aftrek or a similar tax features in the country were the interest was paid? We created an interest: deductible expense and a non-taxable income in the two different countries. If it was well structured we could create a lot of deductible expenses. Very popular in the late 90’s and the beginning 20’s. But know they wanted to get rid of these tax products.

To summarizeIn country A it was a deductible interest.In country B, a dividend that is fully legally is not taxed in the country were the income is received. Tax story behind it is no longer valid. If you want to claim exemption you need to prove that you have not benefited from the deduction in the other country: consequence of the action point.

Interest deductions (4)

42

In Belgian tax law nowadays there is much more limitation. How much interest is begin paid and try to deduct in different countries: there is now a limit on this. Earning stipping rules that limits the interest that is being payed to 30% of a groups EBITDA. EBITDA: tax definition of EBITDA.

CFC: controlled foreign corporation (3)A concept that already exists for a long time in the US. It didn't exist in Belgium until BEPS was implemented in Belgium. Basic idea behind it? If a multinational with a head office has subsidiaries that are in fact in tax heavens and if these companies do not have a lot of substance. Then tax authorise based on these cfc rules will be able to, under circumstance, tax the profit of this paper/empty company’s in the country of the mother company. It gives a tax authority the right to tax the profit of foreign entities in so far these entities are empty. Belgium tax quote nowadays has cfc provisions.

Harmful tax practices (5)2 concrete examples of actions point 5 in Belgium.

- You can go in a lot of countries to the tax authorities and say: my client wants to do the following: do you agree with it under certain conditions? Under which conditions do you disagree? We want an upfront agreement with the tax authorities about what we want to do, this is called a ruling. Following BEPS these rulings (cross border transactions) are being exchanged with the tax authorities of the countries that are involved.

- The old tax incentive regime was applied on gross income. Following the BEPS program, Belgium and also other countries, had to change these taxation regimes from a gross to a net income. Obligatory change because of BEPS. Practical consequence: rulings are being exchanged and Belgium had to change the innovation income deduction regime for instance from a gross income system to a net income system.

4 actions build on the coherence concept

SubstancePeople, bricks and risks and assets.

Preventing tax treaty abuse (misbruik van dubbel belasting verdragen).Company in Ruanda is paying royalties to a Dutch company. What may happen if a company pays royalties to another company? It may happen that they are taxed in both countries, how is this taxation going to occur? Dutch company (royalty: income) and it is taxed. How could the taxes be levied in Ruanda? Withholding tax.

30%: let’s assume this is the domestic rate. What are you going to try to figure out? Whether they have concluded a double tax treaty. Have Ruanda and the Netherlands a double tax treaty? Suppose that Ruanda and the Netherlands do not have a double tax treaty: what will happen? Our royalty income will be taxed twice: in Ruanda at 30% because the domestic rate is applicable and also in the Netherlands.

Assume that this royalty stream is huge: 50 million euros. We lose 15 million euros. What could we try to set up in order to reduce the tax burden? We can put a company in between. We think of Belgium, mostly there is a link between taxation and history. If you look at the tax treaties of France, they have good treaties with their colonies. Ruanda and Belgium do have a tax treaty. If the withholding tax leakage is 30% and there is no double tax treaty than put a company in between. A company that is in a country that has a very good tax treaty with Ruanda.

43

With old colonies: royalties are quite often payed for using intangibles. Withholding tax will be zero or maximum 15%. Saving 15% or 30%. BEPS: we want to avoid that tax treaties are being abused. If these Belgian company has a real function, than it is fine. If the company is only put in between to get a lower withholding tax rate than it is going into the direction of abuse. It needs to be a real company with substance, not a shell company.

Avoidance of PE status (7)Permanent establishments is defined in article 5 of the OECD model convention double tax treaty. Thing that are often abused by companies, and that are not PE’s, are described in Article 5, Paragraph 4. Examples of the list of Art 5, Par 4:

Providing information and collecting information on a market. If a company sends people to Germany to prove information about the market potential of a product, but that person can’t deduct any sales, he/she is protected by Article 5 and can’t give rise to the company having a PE in Germany.

Article 5 par 4: one of the big players is abusing this paragraph. When the tax authorities come, they say they don’t conduct sales in a particular country, but that they only have people who give information in that country.

To prevent this kind of abuse, it was changed, needed to adapt it to the current business environment. An anti-fragmentation rule was implemented. Quite a lot of companies in the area of industrial projects that make use of a fragmentation policy: what do they do? Suppose I’m an Irish engineering office and I’m specialized in bridges. In article 5 there is a provision that says; if an Irish company is doing an industrial project in Belgium, and that project is exceeding 12 months (a certain period in time) than the Irish company needs to pay taxes on the profit that is generated. It takes 6 months to build the bridge. Article says: if the Irish company has a lot of projects in the same natures, than you have to combine these projects to see whether the time is being exceeded. Irish group was advised: set up an Irish company per bridge and every company builds a bridge. No taxable presence.

New rules: if the Belgian tax authorities see that these 30 companies can be connected to each other and they are being established to avoid paying taxes, the anti-fragmentation rule will play. Now a day’s tax authorities have better instruments in their hands.

TP aspects of intangibles (8)What is hard about valuing intangibles? Tax authorities around the globe they say that tax authorities are not as good informed about what will happen in the future as taxpayers are assumed to be. Tax authorities are assumed to be less informed (information asymmetry), so we give authorities a little bit more time to value the value of an intangible that multinational will give. Tax authorities will get the right to look back.

Patent: difficult to estimate the future CF, you will do your best to predict the future CF. Authorities can say: let’s look back. Let's see what the patent has realized: if the CF’s are much higher than the CF that you have valuated, then authorities are supported to adjust the value that has been put by the taxpayer or the consultant. Look back means making use of post factum information to challenge ex ante assumptions.

44

Value is based on the future: very hard to predict what the CF are, very hard to predict these intangibles.

If that adjustment gives a rise to double taxation, then you can try to settle this as well. But the taxpayer cannot say: we have overestimated the CF’s.

Transparancy Disclosure rules (12)

The purpose of this action plan is that taxpayers/big multinational need to disclose their aggressive tax planning techniques to the tax authorities. In practice, it is moving very slowly. Multinationals are disclosing certain information on their tax strategies. In 5 years, there will probably be a lot more information publicly available.

TP documentation (13)Multinationals have to prepare transfer price documentations. Depends on 2 or 3 parts. Come back on this later.

Dispute resolution!!! (14)All these new tax rules are going to lead to a lot of debate and a lot of conflicted actions from different tax authorities. Double taxation: the same income is taxed twice in 2 different places is going to increase a lot. That double taxation can under certain circumstance be revolved. The procedures do not yet work perfectly. Some of these procedures work very slowly.

Atypical actions: Digital economy (1)

Digital economy and taxation is very complicated: they are still working on it, but they need to hurry. Some countries have not awaited the outcome of action point 1 and they launch country specific taxes for digital groups, e-commerce companies. Spain, France… a lot of countries are launching their own tax rules.

Multilateral instrument (15)Startup individual negotiations for all the double tax treaties.Having the various countries sing up to the MLI:

- I’m approving these changes to the OECD MC but I’m not approving these. They can sherry pick. Once a country has signed up to the MLI and the other country also, it’s going to be applicable for the double tax treaty immediately.

Solution for the country: they do not have to negotiate the double tax treaties on a bilateral basis. What have the countries opted in and opted out in the MLI? You need to analyze the MLI as well.

Overview1. Digital economy

Description: clarify the application of international tax principles to the digital economyExpected output: Report identifying the key issues and actionsDeadline: September 2014

2. Hybrid mismatch arrangementsDescription: cevelop treaty provisions and recommendations to neutralize the effects of hybrid mismatch arrangementsExpected output:

• Changes to the OECD Model Tax Convention

45

• Recommendations regarding the design of domestic rulesDeadline: September 2014

3. CFC rulesDescription: develop stricter rules for CFCsExpected output: recommendations regarding the design of domestic rulesDeadline: September 2015

4. Erosion of the tax base through interest deductions and other financial expensesDescription: assessment of the existing rules and development of guidelines for best practices to prevent base erosionExpected output:

• Recommendations regarding the design of domestic rules• Changes to the OECD Transfer Pricing Guidelines

Deadline: September 2015

5. Countering harmful tax practicesDescription: emphasis on transparency and substance in the analysis of harmful tax practicesExpected output:

• Review of local regimes• Strategy to extend participation to non- OECD members• Revision of existing criteria

Deadline: September 2014 for the first. September 2015 for the second and third.

6. Prevent treaty abuseDescription: develop guidelines to deny treaty benefits in inappropriate circumstances

• Expected output: changes to the OECD Model Tax Convention• Recommendations regarding the design of domestic rules

Deadline: September 2014

7. Avoidance of PE statusDescription: change definition of PE to avoid artificial avoidance of PE statusExpected output: changes to the OECD Model Tax ConventionDeadline: September 2015

8. Transfer pricing: intangiblesDescription: develop guidelines to ensure profits associated with intangibles are allocated in accordance with value creationExpected output: changes to the OECD Transfer Pricing Guidelines and to the OECD Model Tax ConventionDeadline: September 2014/ September 2015

9. Transfer pricing: risks and capitalDescription: develop guidelines to avoid the inappropriate transfer of risks, or allocation of excessive capital, among group companiesExpected output: changes to the OECD Transfer Pricing Guidelines and to the OECD Model Tax ConventionDeadline: September 2015

10. Transfer pricing: other high risk transactions

46

Description: develop guidelines to identify transactions that would not (or only rarely) occur between third partiesExpected output: changes to the OECD Transfer Pricing Guidelines and to the OECD Model Tax ConventionDeadline: September 2015

11. Data collection on BEPSDescription: analysis of the effectiveness of the BEPS approachExpected output: guidelinesDeadline: September 2015

12. Disclosure of aggressive tax planning arrangementsDescription: design mandatory disclosure rules for aggressive/abusive arrangementsExpected output: guidelinesDeadline: September 2015

13. Transfer pricing: enhance transparency of TP documentationDescription: develop new rules regarding transfer pricing documentationExpected output: changes to OECD Transfer Pricing Guidelines and guidelines regarding the design of domestic rules (cfr. White Paper)Deadline: September 2014

14. Make dispute resolution mechanisms more effectiveDescription: develop solutions to obstacles to mutual agreement procedure and arbitrationExpected output: changes to the OECD Model Tax ConventionDeadline: September 2015

15. Multilateral instrumentsDescription: development of multilateral instruments to facilitate the quick implementation of the BEPS measures between different countriesExpected output:

• Identification of potential tax issues• Development of multilateral instruments

Deadline: September 2015 (1), December 2015 (2)

Other relevant developments Not only the OECD plays a role, also others:

United nations TP manual for developing countries

Member of the OECD are manly the classic, big countries, rarely a developing country that is part of the OECD. Nowadays if you advice a multinational on international tax or transfer pricing issues, you need to be familiar with what the OECD has published but also with what the united nations have published on the taxation. o UN has published a manual for transfer prices for developing countries. What do we see? Prof

has a transfer pricing audit in Nigeria, Ruanda, Ethiopia, Mozambique… Why are they suddenly waking up in the international domain of transfer prices? Part of it is thanks to the work that has been done by the UN.

47

Mozambique tax inspectors they were heard by Norwegian tax inspections. Assistance was given. Tax authorities in Ruanda: they are helped by bounty hunters = European transfer pricing consultants. Quality of the transfer pricing business in Africa is going up.

Economic climate Crisis/need of taxable income

Population is growing older and we need to finance it. Everybody needs money and transfer pricing is one the areas that is a powerful source of taxable income, if well managed. Tax authorities nowadays have people that are specialized in transfer pricing.

Public opinion General public/ NGOs (e.g. Tax Justice Network)

BASF: confronted with a book about the tax planning applied by BASF. Book written by NGO’s. Book purely based on google search. It all seemed unlogic. If tax authorities read this, they will know it is pure shit. But people with no experience will believe this.

Focus on Corporate Social Responsibility (CSR)Multinationals: focus on corporate social responsibility.

Means of cooperation Amongst tax authorities

Change in how tax authorities interact with each other. They will share knowledge so they have other colleagues participating in the trainings

o Fiscalis/JITSIC-programJITSIC: training at OECD level. They exchange ideas.

o Joint audits (belastingcontrole)Countries audit a multinational group at the same time.

Between tax authorities and tax payersTax authorities and taxpayers interact:

o Horizontal monitoring (e.g. NL, in Belgium under construction)In the Netherlands they have horizontal monitoring: multinationals and SME’s have one spokesperson. One account manager and if we want to check something, we inform that person. We keep that person informed about everything that we do. There are insights in the systems of the companies and what the companies are going to do in the future. If tax authorities know all of this, the company won’t be audited, but there are a few conditions. In the Netherlands they already have this for 10 years. In Belgium now trying this out. + ERP system needs to be transparent.

o Risk assessment (e.g. UK)Many companies have limited resources. To encourage experts to find more tax revenue. Certainly use experts for companies that are estimated to be risky. Belgium has a similar system: if there is a big drop in profitability, for example, there will be extra control.

o Reorganisation Service Big Companies in Belgium

Financial reporting and transfer pricing!! Interpretation of US accounting rules that require businesses to analyse and disclose income tax risk.

FIN 48: CFO needs to tell if the company is in line with the “arms-length principle”A Belgian subsidiary of an US tock quoted company gets a visit from the Belgian tax authorities: CFO is mostly bad informed by the head office. Tax authorities are using documents to shake up taxpayers. Job of CFO is more challenging now than it was 10 years ago.

48

RD 10 August 2009 (CBN/CNC-Advice 13 January 2010; IBR/IRE-Advice 5 March 2010)

IBR: instituut van de bedrijfsrevisoren.

Royal decree: external auditors have to report in the financial statement of the company, that are deposited by the Belgian national bank, when they see that their client has important non arm-length transaction. Intercompany transactions for which the auditor does not believe the transfer prices are set following the principle of ALP’s. Professor has seen it once, but zero is a better guess: an auditor is paid by the company and a company does not like that the person is going to put this in the financial statements. Very few or almost no auditors do this.

Guidance for applying the ALP – Post BEPSChapter 1, section D, OECD Transfer Pricing Guidelines

Makes specific reference to information likely to be included in the master file and local files. Identify commercial and financial relations. o Review the contractual terms of transaction versus the actual conduct of the parties. o Importance of functional analysis and additional guidance on risk, the control over risk,

the financial capacity to assume risk. Recognition of the accurately delineated (afgebakend) transaction. Evaluating the reasons for consistent losses. Assessing the effect of government policies and interventions. Use of customs valuations. Location savings and other local market features. Assembled workforce. MNE group synergies.

Location savings: multinational companies organizing themselves disregarding geographical boundaries, as close to the market as needed. The multinationals optimize by putting their distribution network/production facilities there where the location savings can be achieved.

- Location savings at the distribution side. For example: multinational wants to be in China/India. Why? Potentially a lot of consumers, average spend goes up every year of the Chinese population. It is in an interesting market.

- Same goes at the production side: multinationals select a country for various reasons but also for the local cost such as labor, energy, environmental cost,… Sometimes they go to the highest bidder: government that gives the multinational the best conditions.

Location saving: the fact that if you are successful on a Chinese market, what are the local specifics that generate this?

o Magnitude of the market

Key question about location savings: what happens with this savings? Because it is an increase of income or a reduction of cost, a lot can happen with this. This savings can be used by the multinational to save something to lower the prices.

- Savings are given towards the market (the business contacts or the clients of the multinational).

- If this location savings are not given to externals than it is kept in the company, so we have higher profits.

Which tax authority is entitled to levy taxes on the location savings? Each country will find its own entitlement to tax in the OECD guidelines.

49

Example China: “we are entitled to tax the location savings because we are the government of China and the consumers are Chinese, we are a big country”. Germany: “we decided to sell auto’s in China, so we are entitled to tax”. 2 countries believe they are entitled to tax according to the OECD: a lot of double taxation. Guidelines have become a basis (for the location savings) for double taxation.

Why do various countries/tax authorities with opposite interests will find their version of the truth in the guidelines? Guidelines have become a political instrument. Complexity in the guidelines has to do with survival, not a lot of countries are member of the OECD, mainly old economy countries. Look at a global scale: which countries are becoming more and more important? Not the old but the new economies, OECD is a big organization and a lot of people work at the OECD, they are pleasing the new economies. Geopolitical.

MNE group synergies (multinational enterprise)o Implicit : just by being a member of a group you are benefitting from certain benefits. Not an

activity, just by being a member.

o Explicit: OECD guidelines focus on the synergies that deliberate from consolidated action. Centralize its buying power/procurement in a central place. Multinationals are doing this. They have one or a few hot spots. The countries where these procurement activities are centralized, are mainly countries where the effective tax rate is low.

Example: Switzerland is a typical hub for procurement activities. Nominal and effective tax rate in Switzerland? Geneva: 9-10% and in the least attractive cantons: 8 or 9%. Tax rates are low in Switzerland.

What is a typical procurement hub in Asia? Hong Kong or Singapore. Singapore is a typical hub to shelter procurement activities because they have an attractive tax system.

What was the aim of the game? From a tax management point of view, you want to have as much profit as possible in these low tax countries. Puts the typical tax structure in danger. What is the nature of a procurement activity? Core can be various things, for example: experts. If it’s a center of experts and if the functions are really import and are high value added than it is appropriate to locate a big chunk of the profit here. Substance and you have a lot of people who are negotiable about the goods, they are experts. BUT these procurement centers are quite often equipped with a lot of assets or substance, which are not necessarily people with a special skill. If the centers are only bringing the volumes of the various plants together and they use the consolidated volumes to go on the market to negotiate higher discounts, so, they are centralizing the buying power of the various group members and have no special skills. In that case the benefit that results from these procurement activities should not stay in the procurement center, but it has to be redistributed to the participating group member/ operational plants. Excess profit needs to be distributed, operational costs can be in the procurement center. Almost every multinational is currently being questioned about these procurement centers.

o Concerted

Guidance for applying the ALP – Post BEPS (N.b.)More focus on people and functions Transfer pricing generally focuses on:

50

Historically, MNEs have:

• Used contracts to move assets and risks to principal companies • Moved the economic responsibility for, and key benefits from, important local

functions to principal companies • Limited local returns

The OECD and other key G20 countries pushed to: • Increase the importance attached to people and local functions • Focus on key decision makers and where they are located • Limit profits associated with “bare” contractual rights

Key Themes in Chapter I Guidance • Contractual arrangements and actual conduct should be considered • Need to look at the location of decision-makers and the decisions they have made,

especially with respect to risk

Guidance for applying the ALP – Post BEPSRisk analysis: profits of transfer prices are to be determined in function of the function they have performed. Risk allocation and bearing risk has always been very important but it has become more important nowadays.

Analytical framework on Risk – The six-step approach. What do multinationals need to do when they allocate risk?

1. Identify economically significant risks with specificity Identify the risks that are economically significant

2. Identify contractual assumption of the specific risk How have risks been allocated on paper? What is the contractual allocation of the risk amongst group members? If related companies interact with each other than in most cases there is an agreement that is made up. Consult the agreement to see how the risk is allocated amongst parties within the legal contract

3. Functional analysis. Establish conduct and which enterprises perform control functions and risk mitigation functions and have the financial capacity to assume the risk

Compare the alliance with the contractual allocation of the risk. Before doing the comparison, you have to do the analysis.

4. Is the contractual assumption consistent with the conduct? Do the entities follow the contractual terms and does the party assuming risk exercise control and have the financial capacity to assume risk?

Check or double check at the level of the entity to which the risk is allocated. o First test: if we allocate contractually a risk to a group entity, has the entity the management

capabilities to manage the risk? If this is not the case, then there is a transfer pricing problem. You cannot allocate a risk on paper if the group entity does not dispose the right capabilities.

51

o Second test: financial capability to bear the risk. It’s not because the entity has the right skills to monitor the risk that they also have the financial capacity to bear the risk. If something goes wrong, then the group entity also needs to have a financial capacity to bear the risk: having sufficient equity or having the possibility to get loans on the market (internal or external).

5. If the party assuming the risk does not control the risk or does not have the financial capacity to assume the risk, then allocate the risk to the group company having most control and having the financial capacity to assume the risk

If not the case, there should be an adjustment. Does not control the risk: does not have the right management skills. Guidelines give tax authorities/consultants/multinationals the possibility to deviate from the contractual agreement terms for so far entities are bearing risk they should not bear.

6. Price the accurately delineated transaction taking into account the financial and other consequences of risk assumptions, as appropriately allowed.

OECD – Key Terms and Transfer Pricing Methods p 50

Basic principles Operational Transfer Prices (OTPs) versus OECD Transfer Pricing methods to determine/test the OTPs

- Distinction between 1. how multinationals determine their transfer price on a daily transactional basis and 2. how taxpayers (multinationals) or tax authorities test whether transfer prices result in an outcome (profit) that is in line with the functions being performed/assets being deployed.

- Main purpose of the 5 methods is that the methods are mainly used to analyze whether the outcome of the operational transfer price (OTP)/daily used transfer price used by multinationals is resulting in an arm-lengths outcome. A profit or loss that is in line with the functional profile/risks/assets being deployed by the group entity.

OTPs determined on the basis of o Price lists

CFO and financial director get every quarter a price list from the head office. Price at which you can sell goods to the market. Transfer price is this prices minus 20% for example. We deduct a margin.

o Standard cost price Manufacturing set up-plant controllers speak about standard cost price. Concept which is not used in the transfer pricing methods that we will see. But if a plant controllers says: “we produce goods in a plant in Belgium, we calculate the standard cost and then we increase the standard cost with a margin and that is our transfer price”: you cannot put the method in the methods we see, but it is a valid way to determine the OTP.

o Budgets

Periodic adjustments needed o Is outcome resulting from OTPs in line with envisaged arm’s length statutory/tax result?

On each transaction/invoice you put an OTP. Use whatever method they use as defined in the transfer pricing policy of the group. Monthly/yearly, the company is going to check if the outcome (profit/loss) of all these prices is this an outcome which we can defend towards the tax authorities? Are the results of all these OTP’s being defendable or not? In order to check whether it is defendable we use one of a combination of the 5 methods we will see.

52

o Need of “True Ups”/Year-end adjustmentsIf not entirely defendable we need to adjust the OTP’s. We need to do so called “true ups”. Once a year is the bear minimum but much better to do this much more, even on a daily basis. If we know that the OTP’s are going to result in a non-defendable result (non arm’s length) then the outcome of the OTP’s needs to be adjusted. Preferly do this before year-end.

Difference between analysis whether the outcome of all the OTP's results in an arm lengths outcome and the skills or the policy that is used by a multinational to put a price on each individual transaction. This can be 2 different things.

Interaction between business model and applied transfer pricing methods Big interaction between the methods we are going to see and the business model a multinational is using. You have in fact three kinds of business models, but the main 2 ones are:

Service provider model What is the basic idea behind a so-called service provider model? Business model applied by a multinational group whereby one of the members decides what happens in the group, other entities have to listen, they are the puppets. A lot of Belgian companies are puppets on the strain, they need to apply what’s been put on by the head office. A lot of the multinationals in Belgium operate through this model. They get guidelines from a foreign head office.

Sales: Limited Risk Distributors (LRD), Commissionaire, Agent Group of entities taking care of the sales. We often see terms as LRD: group entity that is distributing the goods of the company on paper. This entities are only bearing limited risk. They limit their functionality to what they are created for namely sell things they have received from aboard. Difference legally between distributor and a sales agent. We have a foreign principal entity (entity that is given instructions to the Belgian entity.

o Sales agent can be an individual but also be an NV or a BVBA : a legal entity. What is a sales agent doing? Sales agent is saying: “Ok principle, I will look onto the Belgian market for clients that want to buy your products. I give you the clients if in return you give me a commission (which is quiet often a % of net sales). The sale as such, the legal transaction, the transfer of the ownerships of the goods: they go from the principal entity to the client.

Sales price is 100, assume that sales agent gets commission of 20%. Commission of 20 received by the sales agent. Sales agent never becomes owner of the goods. Invoice goes from the principal entity to the client. There will be a 100 on the invoice.

o Alternative: sales agent as a limited risk distributor. LRD is also looking for clients but instead of bringing the parties together, he buys the goods from the foreign principal entity: legal transfer of the goods for 70. LRD is owning the goods and LRD (NV or BVBA) is going to look for a client and sells the goods for 100.

Transfer of goods to the clients: LRD and sales agent are subsidiaries of the multinational.

Production: Contract or toll manufacturers = maak – loon werkersWhat the difference between a contract and a toll manufacturer? 90% of the manufacturing plants in the harbor of Antwerp are contracts or toll manufacturers. You cannot tell with your eyes if you are walking on the plant of a toll or a contract manufacturer. From a statutory/tax point of view it can be huge difference. Has nothing to do with outsourcing out the group.

o Contract manufacturer buys the raw materials: legal owner of the raw materials.

53

o Toll manufacturer does not buy the raw materials. He is being provided by the raw materials. Process the raw materials but there is another owner of the materials.

Where do we have to look to find this difference? 60 account: purchase of raw materials. Profit and loss account of a toll manufacturer you will almost see an empty 60 account. There is no stock value in the balance sheet. A contract manufacturer buys the raw materials and we have a value in the 60 account and a value on the balance sheets on the stock side.

What is the relevance of this difference between a contract or toll manufacturer in TP? Cost + a margin.

Entrepreneurial ModelBusiness model that is being used by a multinational whereby the group members are conducting themselves as entrepreneurial. They take fully risk taken, going for gold, competing against own group members. Really operating as entrepreneurs. In an open economy in Belgium with not a lot of multinationals it is a business model that is not often encountered.

If you see during the exam!!!!! Example of a service provider model whereby the profit splitting method is being used. That’s by definition wrong, you cannot apply a profit split model between the principal company and the other entities. In a service provider model a profit split model can never be encountered. In an entrepreneurial model we can.

OECD - Comparability FactorsIn order to check whether the outcome/prices result in a defendable position towards the tax authorities you will notice that in these 5 methods we are going to look for: what would an independent party have obtained as an outcome in the same circumstance, selling the same goods.

Finding the right independent comparable and for that you need to form a comparability analysis.

CharacteristicsInvestigate what the characteristics are of the goods or services which we are considering. Do not compare apples with peers.

Economic circumstanceFor instance, we are looking for independent distributors, take in account the level of the market where the distributor is operating.

Geography: important in the pharmacy industry. Can you compare the Portuguese/Italian market with the Belgian market? Because the pharmacy market in Belgium is seriously regulated and this has an impact on the prices. Suppose this is also the case in Portugal/Italy than the economic circumstance become the geography. Can we compare the markets? Less hart diseases in Spain.

Business strategy

54

Try to find a comparable independent company and that independent company that is doing distribution shows a loss. Explanation of the loss? Recently entered the markets and it still follows a market penetration strategy. Explicable from an economic point of view.

Assume you have an LRD in Belgium and that LRD is operating in the Belgian market for already 7 years and that Belgian LRD is part of a multinational. The LRD shows in its profit/loss account a loss. Can you use, as an LRD, that in the 7th year you are still following a market penetration strategy? Can you defend your losses in the 7th year by the market penetration strategy because it is my business strategy? Look for independent parties that also follow a market penetration strategy: is this defendable? No, if this tax authorities nock on your door, they will not accept these losses. If you would have been an independent distributor, you would already stopped using this penetration strategy. You have no advantage in taken in these strategies if you are an independent distributor. Only advantage if you are part of an multinational.

Key Terms In transfer pricing it is useful to distinguish between:

Business model ~ functional analysis Transfer pricing policy Transfer pricing method

The business model defines how the company will manage and measure the business. The business model determines the functions and risks of each (legal) entity (legal): 2 taxpayers can belong to the same legal entity.

The transfer pricing policy is the internal implementation by the business of pricing and cost allocations of intercompany transactions.

The transfer pricing policy defines how the OTP’s are being determined, the OTP’s are aiming at achieving an arm’s length result, but it will not be achieved at once. Periodic adjustments.

The transfer pricing method (or transfer pricing analysis method) is the method used to analyze a company’s transfer pricing, particularly to test for compliance with tax transfer pricing rules

Business Model Service Provider Model

A single entity (generally the parent) assumes all entrepreneurial risk for the company, and sets business strategy and policies centrally. Other entities provide services supporting the overall business in their local territories

Highly centralized model Risk-sharing Model Not used often in practice.

The entities operate in effect as joint venture partners. They collaborate on entrepreneurial efforts and divide total profits

More decentralized model Entrepreneurial Model

Each entity has full ownership of risks and rewards of the business in its territory. The parent has limited control over the budgets, pricing, and other operational aspects of the local entities. The local entities have the risk profiles of independent companies, and may have volatile profits and losses

55

Significant decentralization

Transfer Pricing Policy Transactional

Intercompany transactions (e.g. goods and services) are charged on a transactional basis between entities

Examples of transactional charges are hourly charges for (engineering) consultation services

Cost Allocation Costs are being allocated on the base of various methods. come back on this

Costs incurred by one entity are allocated out to other entities who benefit from the services for which the costs are incurred, according to some measure of relative benefit

Typically based on allocation keys, using an activity based costing method Critical matter: distinguishing between stewardship/ shareholder services vs. non-

stewardship services

Book Entries/True-ups In order to align the outcome of the OTP’s you need to account for true ups or adjustments.

Transfer Prices are usually based on standard costs, which often suffer variances that would be recovered if charged at arm’s length

Where transactional and cost allocation transfer pricing entries are incomplete (in that they do not capture all intercompany transactions), or do not fully reflect the risk profiles of different entities, journal entries are generally used to book true-ups to transfer pricing to achieve suitable results based on an analysis of appropriate results

OECD Transfer Pricing Methods The 5 methods. Considered of equal importance in the new guidelines.

Traditional Transaction Methods o Comparable Uncontrolled Price (CUP)

CUP method was the method in the past, the preferred method of the authorities. But CUP can hardly be applied in practice.

Comparable material: material to support our analysis. CUP: prices (comparable material) between unrelated parties and related parties. Reference material that can be assumed as arms lengths. Price is reference material.

o Resale Price Method (RPM) o Cost Plus Method (CPLM)

RPM/CPLM: conceptually very interesting but also very difficult to apply. You use KPI’s which are influenced by how much you account for them. Source of information e.g. belfirst (etc.) A lot of accounting differences which makes these methods difficult to apply.

We use a growth profit margin that a third party obtains when that third party would have similar functions as the company we are analyzing/testing.

RPM: deduct from the sale price a margin. CPLM: gross cost plus method: start from a defined cost base on top of which we add a

mark-up. Which mark-up or which margin we deduct/add? That’s the question.

Transactional Profit Methods o Profit Split Method (PSM)

Method of the future.

56

o Transactional Net Margin Method (TNMM)Method of last resort in the past, now the method that is most often used in practice.

We use a margin or a KPI. Profit level indicator that is not defined at gross profit level. But a profit level indicator that is mainly going to be determined in function of the operating profit of the company. Look for KPI’s that are obtained by independent companies that are showing identical activities with the company that we are analyzing.

What’s the basis of the methodology in principal? No hierarchy. In the past there was, but nowadays conceptually all methods are assumed to be equal. Difficulties in applying the methods: in practice the most often applied method is the TNMM.

Comparable Uncontrolled Price – CUPA transfer pricing method that compares the price for property or services transferred in a controlled transaction to the price charged for property or services transferred in a comparable uncontrolled transaction in comparable circumstances

Internal comparison External comparison

We are going to look for prices that are put on a transaction (for either a good or a service delivery) that is delivered/sold in a comparable uncontrolled transaction. We need at least one party in the transaction chain that is an unrelated party. Why? It is a party who does not belong to the controlled entity. Transaction between unrelated parties. Where do we find these CUP’s? We can find them either within the organization or outside the organization.

CUP Internal ComparisonCompare with the price charged or paid by the company in transaction with unrelated parties.

German company that belongs to our multinational group and it is producing goods. The German company sells these goods when they are finished to a Dutch sales subsidiary (dochteronderneming), it is a related entity. We need to put a transfer price on this transaction. Or we put a price on this transaction, and we need to test whether this price is an arm length’s price.

When applying the CUP: does this Germany company also sell goods to unrelated parties? If we find such a price, the key question is whether we can use THAT price as a method/reference material in order to test wether the TP Is in line with the arm’s length principle.

57

Assume we put on this transaction a price of a 100. Our related German company is selling the same goods to an unrelated distributor and the sales price is also 100. Is this then by definition an internal CUP? Is this reference material a price that we can use towards the tax authorities to defend that the TP is arm’s length? Yes, but you need to be critical towards the presence of a potentially internal CUP.

The key question: is this unrelated distributor active in the same market as our related distributor? Perhaps these Dutch subsidiaries can sell to companies and the unrelated distributor can sell to end customers. In that case the prices are NOT comparable. Other: what is the volume? Is the volume the same?

It’s not because price is identical that by definition this price can be used as reference material. Yes, but you need to be critical. That’s an example of an internal CUP.

CUP External Comparison Compare with price charged or paid by or for similar products by unrelated parties Difficulty arising in accessing this data from unrelated companies Most likely competitors in the same market

Look for references/prices which have been applied between unrelated parties for the same or similar products on the market.

Hard to find prices which have been applied between unrelated parties. If we find price material can we use this? What is the comparability of the underlying

product or service? Method from a conceptual point of view very easy to understand but not easy to use in practice.

CUP External Comparison- Example

Norwegian company is selling to a French subsidiary. We apply a transfer price and in this case, we have found a price that has been applied between unrelated parties. Example supporting the theory.

CUP - difficulties Unique goods/services ~only sold to related entities Goods are product of sophisticated research

No comparable exists and wide margin between production costs and end price o Within a multination group products/services/intangible are sold between group

member that would never be sold to unrelated parties: unique transaction. You cannot find a comparable transaction. You even can’t find an internal cup because we would never sell that kind of product towards an unrelated party.

o Very hard to find a good comparable on the market.

58

Sales in similar goods take place at different levels in the market (e.g. retail as opposed to wholesale) Or at the same level but in vastly differing quantities (e.g. bulk sales as opposed to specific

small orders)o These methods are not that often applied. Almost impossible to find perfect/adjustable

cups for comparable transactions.

Major problems can arise with the valuation for the use of intangibles No useable comparable at all for something like a royalty payment made in respect of a

unique product Consider using an inexact comparable and adjusting In practice applied for interest rates (e.g. Bloomberg), royalties (e.g. RoyaltyStat TM), raw materials

Interest rates: a multinational group has provided a loan to a subsidiary. What kind of interest rates do we need to apply to the intercompany loan? Is the interest rate in line with the interest rate that is provided on a loan between unrelated parties? Is it an arm’s length rate?

In the Bloomberg dataset, we can look for a given day in a certain year. We can look at loans with the same magnitude and other characteristics. Look for comparable loans.

- Take the credit worthyness into account. - Looking for external CUPS.

Royalties: if products are being protected by a patent, it can be put at the disposal of group companies. In return, a percentage of net sales is being asked (licensed fee or royalty). Look in databases for royalty rates that have been applied between unrelated parties. The databases are mainly fed by American data (weakness).

CUP was in the old days the preferred method of the tax authorities because it is easy to understand and visualized. In theory it is fine but in practice not easy to apply. Mainly in practice being applied for interest rates, royalties and in a lesser extent for raw materials.

Resale Price Method (RPM) • Look at end selling price and deduct a reasonable gross margin to arrive at cost/transfer

price • Need an end sale to a third party, with the intra-group transaction earlier in the chain • Most useful where a distributor purchases goods intra group and sells to third parties. The

resale minus method will set the price of the intra group purchases by reference to the third party sales

• Less useful where goods are further processed or incorporated into a more complicated product so that their identity is lost or transferred

• Difficulties where reseller contributes substantially to the creation or maintenance of intangible property (e.g. trademarks/tradenames)

• Practical issues o Define and determine gross margin o Accounting differences

Reference material: gross profit margin.

59

We are going to start from the resale price. What is the resale price? Related distributor: related group entity that distributes the products on the German market. We know that this distributor is a selling entity and it’s selling the products that it is buying from a related French manufacturing towards unrelated parties (the markets).

Unrelated parties are willing to buy the products from our German distributor for 100 euro. The 100 is a given, also a trustworthy price because it is the price an unrelated party is willing to pay on the German market.

Appropriate gross margin is 10%. We should give the German distributor a gross profit margin of 10%. TP between French manufacturer and German distributor: we take the 100 and deduct from the 100 10%. Goods are sold from the French manufacturer to the German distributor for 90.

How do you get to these 10%? You deduct an appropriate gross margin. Where can you find gross margins that are obtained by independent companies that are doing the same as the company you are analyzing? Access to databases: Belfirst for example. What is feeding these databases? Issued by the market by bureau van dijck which is now part of a multinational. What is the source of the data used by bureau van dijck to feed their databases? Financial statements of the companies. Sourcing all the financial statement of all companies around all the world.

Is it easy to find gross profit margin in a Belgian GAP financial statement? Almost impossible to calculate a correct growth profit margin on the bases of the data we have. Everyone uses the same databases to find comparable companies. What you cannot find in database are comparable gross margins. Why? Still huge differences in how companies report their financial data. There are so many accounting differences. In theory we find the 10%: in the databases. In practice we cannot find them. No universal definition of what constitutes a gross margin. Convert or apply your definition of a gross margin in the financial statement then it’s impossible to find the correct.

RPM seams conceptually easy and intellectually easy to understand. But almost impossible to do it in real life due to different accounting rules.

Cost Plus Method (CPLM) The cost plus method begins with the costs incurred by the supplier of property or services to a related purchaser. An appropriate percentage mark-up is applied to the costs to give the arm’s length profit

CPLM. Gross cost-plus methodSame problems that you will encounter when you want to apply the CPLM.

60

What’s an appropriate cost price? Where do we find a direct and indirect product cost in the Belgian GAP financial statements? I’m going to add all the 61, 62, 63 accounts? No, it doesn’t work like that. In a financial statement not more data: you have the 60 account and then some commentary but not more. You cannot derive the cost price of a company, you will not be able to calculate correctly the cost price. How to determine my cost base = first hurdle. Prevents you from applying the CPLM in real life.

Example

Second hurdle: assume we are able to calculate the cost price of our contract manufacturing company. The cost price is 180. How do we get to the TP that is going to be applied between the Dutch and the German and the British company? Apply CPLM: assumed to add a gross margin to the cost price and again we need to look for an arm’s length gross mark up. Again, we have taken 10. Where do we find these 10% gross mark up? Same answer as before. You need to look at the databases, but you can hardly find appropriate gross mark ups in the databases due to the differences in accounting methods.

Theoretical it is fine, but in practice you cannot apply the rules from the OECD. Not enough comparable data. You cannot derive arm’s length profit data from databases.

When to use it (mainly as operational TP method): Pure manufacturing companies within a group (e.g. contract manufacturing) Group services companies providing basic services such as administration support Limited sales function companies Smaller branches of overseas entities

Method is not always suitable as assumes perpetual profit (methode veronderstelt eeuwigdurende winst) Useful where:

Some simple or peripheral service is being provided Costs are relatively stable and predictable Provider does not participate in the risks associated with making the profits and therefore

has no right to share in the profit or losses

61

Cost Plus Difficulties Difficulties arise where:

Unstable costs Heavy capital expenditure may be sign that cost plus is not appropriate Activities are inherently complex or risky – would not be commercial to expect one party

simply to pay another’s costs Finding the right cost base (accounting policies differ from country to country) Look at all costs associated with providing the service

o If stocks financed by borrowings the interest o If fixtures and fittings are used then depreciation

Bad management – generally you would not expect the costs of being inefficient to be recharged

Apply methodology with great care. When a related party knows it will get back it costs + a margin, it can lead to bad management. You don’t want to stimulate that kind of behavior.

Allocation of costs may be distorted by intra-group arrangements

Who is guarantying that the cost base is provided with the arm’s length principle?

Second and third method almost never applied in practice due to absence of useable gross margin data in the databases. Differences in accounting report.

Profit Split Method Begin with the overall profit from start to finish e.g. from obtaining raw materials to end sale Allocate share of profit to each company in the chain In order to do this – have to evaluate the economic contribution made by each group

member taking into account assets used and risks assumed by each company PSM is useful where transactions are very inter-related and cannot be evaluated on separate

basis

Profit split method is the method of the future. Methodology which is not often applied in practice, but liked by the tax authorities. Why? It enables authorities to see how much profit/loss/break-even is attributed to each of the parties in the supply chain.

Strict conditions need to be fulfilled to apply this method. The conditions are threefold: 1. Fully fledged companies. 2. All the group entities participating in the supply chain need to own or have valuable

intangibles. Marketing/manufacturing intangibles. Which kind of entities will you miss? All the strict functional profiles. Entities that do not own valuable intangibles: commissionaires/sales agent (see previous class).

3. Complex supply chain.

Two kinds of profit split application but it comes down to the same result. Take a certain supply chain and you calculate the result, not necessarily a profit (loss split

method). And when you have calculated the results, you are going to have to work out a methodology: how to split this result over the participating entities? You need to define/apply an allocation key that can be used or that is economically relevant for that supply chain.

• Split of the combined profit

62

Calculate total profit or loss and split that result over the participating group member. • Split of residual profit.

We cannot wait until the end of the financial year to see how much profit/loss has been obtained and then split it. During the year we allocate a routine profit towards the participating parties.

2 group companies who are related. These related entities are fully fledged, they have valuable intangibles and they agreed to share the profit that can be attributed to part of the supply chain for which they are responsible.

50/50 split. You find it quite often in the IT industry: software developers. Joint venture split of the profit. During the year we are already going to give a small profit to the related parties on the bases of the net cost-plus method.

Cost base of 250 for B: we give them a markup on operating cost of 10%, so we give them a profit of 25. At the end of the year A has an remaining profit of 25 and B of 45. Total remaining profit is 70, so B needs to give 10 from its 45 to A. because this is what they have agreed upon.

It is being applied in practice. Euro stock exchange is using this method for certain business lines. Authorities are promoting this because in the last method we only test one entity. If we test one entity, these are the simpler functions. They get only inside in the profitability of one entity. In the split method: what is the profit and how is the profit is split? Do I get a reasonable share of the profit? We can’t apply it always, only when the participating group member are fully fletched and have valuable intangibles.

Strengths Generally does not rely directly on closely comparable transactions Less likely that either party to transaction will be left with an extreme or improbable profit

result Weakness Need ready access to detailed information Differences in accounting methods and standards in different jurisdictions may cause

difficulties

Transactional Net Margin Method (TNMM) This method looks at the net profit margin compared to appropriate bases for a particular transaction

E.g. profit to sales ratio, profit to costs ratio, profit to assets ratio

Applied in 99% of the cases. Why applied so often? Only method than can really be applied in practice. Why is it a method that can be applied? The bulk of the KP, the method uses, is determined in function of the operating profit. The lower you go down into your profitability than it doesn’t

63

matter where you put a certain cost. That’s why profitability indicators, that are defined in function of the operating profit, are more reliable than methods based on the gross profit.

- This method can in principle only be used on individual transactions or groups of the same transaction ~ remark: daily practice insight

- Where companies perform one or more different types of transaction, need to look at the transactions individually, e.g. contract manufacture, sales and marketing etc.

- Often used as a corroborate (bekrachtiging) or test method (corroborate to other test method/testing operational TP method)

Typical profit Level Indicators of TNMM

Most used: Operating margin

Profit level indicator that we use to test/analyze related distributors. The outcome of the transfer price should be an operating margin which should be defendable. Try to find independent companies that are doing similar (not identical) functions to the company that we are testing. Mainly used for bench marking.

Net cost plus60-64 account. Profit level indicator used in order to benchmark manufacturing entities. Or to analyze distribution centers (not selling), logistic centers or service providers.

Rate of return on capital employed Secondary methods in order to support the methodologies operating margin and net cost plus.

Berry rateProfit level indicator that defines in function of the gross profit. In practice rarely applied.

Example

How does it work We have a subsidiary that is buying products from its parent company. The sales subsidiary is selling on the market towards a third party, the sale price is 200. The subsidiary has an operation cost of 20.

Sales activity so the profit level indicator is the operating margin.

64

We are going to try to find ,in databases, what an arm’s length operating margin could be that unrelated companies earn. Unrelated companies that are doing similar activities preferably in a similar market.

On the right we have one company from which we have information. Operation cost of 90. Operating profit of the company: 10.

Operating margin: 10%. If we give our entity an operating profit of 20 (10% of 200) than we can prove to the authorities that this company is sufficiently rewarded towards the functions it performs.

160: net sales20: operating cost

Need to go to a profit of 20. If we put on our transfer price a price of 160, then 160 is going into the 60 account. It matches because 200-20-160 gives our Belgian subsidiary an operating profit of 20.

Summary of TP methods

Basic concepts further elaborated on the basis of various stages in a transfer pricing analysis

Typical stages in a transfer pricing analysis

Before we are doing this exercise of analyzing we need to understand what the company, which we are going to analyze, is doing.

1. Information gathering. Fact gathering. They normally do interviews, so they have a good idea of what the tested party is doing. Review agreement and financial information. Functional analysis. What functions is the company is performing? What is the risk that the company is bearing? Which are the valuable assets this company is issuing by performing its activities?

65

2. TP analysis: agree appropriate TP methodology. Determine search strategy for comparable data.

3. Comparable data: identify comparable data in databases and determine arm’s length range. 4. Documentation. Document everything, we have found out in the previous cases. Produce a

TP report. Prepare TP documentation to comply with OECD/local TP legislation documentation requirements.

5. Future process: put in place a plan for regular updating the TP policy and the TP documentation.

Stage 1: Information gathering process Identification and analysis of

Characteristics of goods and/or services Group structure and its commercial and industrial environment

o Economic circumstanceso Business strategies

Group transactions and contractual terms between group members o Compliance of contractual terms

Characteristics of functions performed, risks borne and use of intangible assets Other factors that influence comparability

What has been agreed on in the intercompany agreements? Do group entities behave themselves according the contractual provisions?

Functions Research and Development Production Stock management Sales and distribution Marketing (strategy, publicity) Administration (accounting, finance, HRM, IT, legal, etc.) Delivery and transportation

Often more detailed analysis required Quantitative versus qualitative functional analysis

Some of the key functions that have to be mapped Not only a pure quantitative analysis.

For example: washing powder: not because the manufacturing looks very impressive that it is the biggest contributor to the value of the supply chain. Marketing is much more value added here. Not only looking at the quantitative importance of a function also at the qualitative.

Risks Risks linked with changes of costs, prices and/or stocks Risk of success/failure of research and development Financial risks (exchange rate, interest rate) Risks with respect to the production of goods (e.g. product liability, warranty risk) Risks linked to the ownership of the goods and equipment

Investigation whether related companies bear the risk that are aligned with contractual terms

66

An entity that is bearing a lot of risk should get a higher reward. High risk should equal on a long term a higher return. Study the risk that has been taking on board by the related parties.

Stage 1: Typical Manufacturing Models

All the functional and risk profiles you will encounter in a manufacturing environment. Order from the least difficult and low risk-taking company to the most complex, the most risk-taking company.

• Important similarity between contract manufacturer and toll manufacturer. They both do not own valuable intangibles.

• Licensed manufacture is an in between form. • Full-fledged manufacturer: functional profile that you can find back when applying the profit

split method.

Functions and Risk Analysis

Which functions are taken care of by this entity? If you go from left to right. A fully-fledged entity would take on board much more functions, bear much more risk than the lowest of the functional profiles.

67

Manufacturing Profitability

A toll manufacturer is typically an entity that is going to get a low but steady reward. Contract manufacturer potentially is getting something extra because it is owning the material. The fully-fledged manufacturer potentially gets it all, but it will be much more volatile (not steady).

Operational loss is something you only expect at the level of the fully fledged

Normal distributor

Principal- Responsible for product R&D and manufacturing functions- Retains limited / nil control on selling activities- Does not take debtors / inventory functions / risks- Does not own marketing intangibles- Enjoys profits related to trade intangibles (e.g. technology, patent, etc.)

68

- Does not enjoy selling profits

Normal Distributor (ND)- Normal buy-sell distributor- Carries out marketing / sales promotion functions on own account, spend on marketing

within industry standards / limits- Takes debtors / inventory functions / risks- Stocks inventory- Creates marketing intangibles (e.g. customer list / dealer network etc.)- Can suffer start-up losses; also enjoys future higher profits

Limited Risk Distributor

Principal- Responsible for product R&D and manufacturing functions- Retains all distribution strategies- Requires LRD to implement marketing / sales promotion strategies & reimburses costs- Takes debtors / inventory functions / risks- Creates & owns marketing intangibles in selling country- Bears start-up losses in distribution ; Enjoys future super selling profits- Key People functions performed by Principal

Limited Risk Distributor (LRD)- Merely executes the strategy formulated by Principal- Takes flash title of goods- Marketing functions, if any, on behalf of principal against reimbursement of costs generally

with mark-up- No debtors/ inventory functions / risks- Debtors / inventory pass through books- Entitled to routine / steady returns; Unlikely to make start-up losses- Should not make future super profits

69

Functions and risk analysis

A LRD is occurring more risk than the commissioner/sales agent. The normal distributor is taken on more functions and bearing more risk.

Distributors Profitability

Fully fledged has higher risk: higher return but higher volatility.

Commission agent does not take title of goods but brings parties together. A LRD or a fully-fledged in comparison does buy and sell.

Stage 2: Transfer pricing analysis Determination of the transfer pricing method

There is no method that can be used in all possible situations Free choice in the determination of the transfer pricing method Combination of possible methods is possible

Determination of search strategy for comparable data

Once you have out on paper which entity is doing which functions, is bearing which risks and deploying which valuable assets, then we need to choose our method. No longer a strict hierarchy so you have a clean choice. But we know that our choice of methods is limited because of practical reasons.

Combination of possible methods: you think you have found a CUP, but it is not perfect, then use a second method to support your analysis with for example TNMM.

70

Stage 3: Comparable Data Within the group (group member is active outside the group)

Transaction should be accomplished within the normal commercial terms Price should not be an artificial “arm’s length”-price

Outside the group (between independent parties) Often searches in databases Also foreign (European) markets (pan-European) Influence of geographical differences and accounting standards

Where do we find comparables? • Inside organization

You are able to find an internal CUP you can use. • Outside the organization

External data in all the other cases. External CUP. Transactional margin methods with databases. Databases: information available outside the group.

Key concepts Arm’s length range Interquartile range Use of multiple year data Intentional set offs

How does an outcome of such a search for independent comparable data look like?

Example: Economic analysis – LRD

9 companies that perform comparable functions with our tested company/LRD.

Range of operating margins. Aim of the game is to try to have our company in the range. In theory it is good to be in the full arm’s length range. In reality you need to be in the interquartile range, between the 25 th and the 75th percentile. Then you are on the safe side but if you are flirting with the 75th percentile…. It is better to be closer to the 50th percentile.

71

Stage 4: Documentation Possible content of a transfer pricing file

Profile of the group Market description Function and risk analysis Economic analysis Conclusion

EU TPD-format/OECD (Master File/Local Files) Will be discussed in other section

Stage 5: Future process Continuous update of Transfer Pricing Documentation Transfer Pricing Policy Ruling/Advance Pricing Agreement (APA) …

You need a plan to update your TP policy regular. How many times or on which time it needs to be updated depends on the tax authorities.

Ruling: up front approval of what they are planning to implement. Advanced agreement of the Belgian tax authorities about what you want to do.

Multilateral agreements involve multiple countries.

Consequences for the taxpayersThe same goes for the taxpayers. Most countries (OECD member or not) have more or less copied the same concepts in their country. Every country has the same obligations that are put on the taxpayers in their tools.

Consequences for the taxpayersIncrease of compliance costs following the “rat race” regarding transfer pricing

o Tax authorities are always looking for food (like a rat). They are always looking for a taxable income. The total pie of cheese is limited, if the cheese goes down rats become more aggressive. Same with tax authorities, aggressivity goes up when the tax base is going down. Tax managers of multinationals or CFO's have to try to keep up with that pace, with that rat race and that results in compliance costs. What? Costs that companies incur in order to be compliant with the obligations that are put on them by the tax authorities.

o Main purpose of a multinational is not to make consultants rich. It’s not a very good development. There is more in a life of a consultant than try to help the client to be compliant.

Country specific requirements Language requirements Specific opinions regarding comparable searches

Use of local databases Industry codes (US/UK SIC, NACE, CSO, etc.) Use of ‘secret comparable’

Specific documentation requirementsIncreased risk for double taxation

Main challenge that CFO’S/multinational have is the issue of double taxation: part of the income of the multinational is taxed twice.

How can we more or less resolve the tackle of double taxation?

72

There are other means of trying to manage the problem. The 2 solutions discussed are solutions when the problem already has arisen, there is already double taxation. You could question: “how can we as a multinational avoid facing double taxation?” You can knock on the door of the tax authorities and ask to get approval in advance on the TP policy that you want to apply. Unilateral, bilateral, multilateral… You cannot cover all your intercompany transactions by means of rulings, this is not realistic. It is too costly, too time consuming. So not 100% waterproof. You can also say: “I’m going to document everything, involve a consultant and this person will draft all the documentation so it will be alright.” Not a blanco check for tax authorities to see if it is ok. Is it valid? Does the documentation represent underlying facts? Documentation can also be challenged so it is also not totally waterproof. Other thing is a pragmatic solution to circumvent the legislation. If we are faced with tax authorities, we adapt our invoices when double taxation arrives. Not waterproof either.

Difficult to avoid double taxation. In fact, 3 solutions. Only 2 on the slide. When you are facing double taxation, you have to check in the domestic tax legislation

whether a domestic procedure exist that foresees in a potential solution to relief from double taxation. The other two solutions are foreign.

o Unilateral intra domestic procedures: firms can go to the regional tax inspector. You are facing an upward adjustment to the tax base in a foreign country. Increase of the German tax base and you can go and ask for a decrease of the Belgian tax base. They could ask: “could you give me a downward adjustment?” Today: regional tax inspector doesn’t feel comfortable enough to have a say about the transfer pricing policy. So, they have to contact someone else and this is costly and time consuming.

Current means for avoiding double taxation are not efficient enough MAP (DTT): Mutual agreement procedure. (double tax treaty).

o Complex/time-consuming/expensive o No certainty about a (timely) solution/exemption

If your transaction is not between EU companies or for instance between Belgium and a country with whom Belgium doesn’t have a double taxation agreement, then you cannot solve the problem.

Have these countries concluded a double tax treaty? Yes. Then you could see if that treaty includes a mutual agreement procedure. Most treaties include such a procedure. What is the problem with this procedure? It obligates tax authorities to sit together, but it doesn’t obligate them to find a solution.(Het is een bemiddelende verbintenis geen resultaatsverbintenis). They may come to a solution, but in 95% of the cases, they are not obliged to do so. In some treaties (Belgium – US: arbitration clause). They have to come to a solution (= resultaatsverbintenis) Almost always a guarantee that your double taxation will be solved. Treaties especially between Belgium and EU countries and some not EU countries.

European Arbitration Convention Convention that needs to be applied. Translate it in the domestic legislation of the EU-members. Every EU-country needs to foresee this in their domestic legislation. The right of a company established in the EU to call upon the provision in the EAC. Can only be applied between EU members. For example: Belgium – VS: you cannot apply this convention.

73

What does it foresees in this convention? EAC is split in mainly 2 parts:

1. You have a 2 year period where you have, similar to the double tax treaty, also a mutual agreement procedure. Tax authorities of the two EU member countries involved have 2 years to find a solution. They NEED to come to a solution, it is an obligation. Outcome will be a solution to the relief of double taxation. 2 years where tax authorities will be meeting each other.

2. If after 2 years they still haven’t come to a consensus solution, if that’s the case then an AC (arbitration commission) will be assembled. Number of wise people will be there. Find a solution and propose the solution to the countries. This is a 12 months period. 6 months period that is given to the 2 countries to establish the commission. Once the commission has been established, the commission has 6 months to find a solution. After 3 years the relief from double taxation will be realized. (Companies cannot choose entirely who they put in the commission.)

But what is there in practice? In practice these 2 year period takes much longer. When does this period start to run? Same goes for the 6 months. When does this period stars and ends? We can have a debate on that, everyone is having various visions so it takes longer. In real life it sometimes can happen faster, but mostly it takes a very long time.

Certainty about solution/exemption within defined period 15 old EU-members only ratified the necessary protocols in summer of 2004 Re-entered into force since 1 November 2004 Still some uncertainty on specific issues (infra. Code of Conduct)

Consequences transcend tax and financial issuesImpact on cash

• Double Taxation• Unexpected cash calls• Interest on Tax• Penalties• Fees for external advisors

BusinessImpact on people

• Increased efforts for defence, several years after event• Take resources away from other issues• Impact on bonus/job• Status of tax department within organisation and with tax authority

Impact on group • Negative publicity (not “good citizen”)• Stability of financial reporting and provisioning• Pressure on tax strategy• Decrease in shareholder value• Perception of quality of management

What are other consequences? Impact on cash

o 2 taxes on the same income it has a cash impact. o Interest on taxes for late payment. o Sometimes they levy penalties so that’s also a problem.

74

BusinessIf as a CFO you don’t manage your problem of double taxation in an efficient way, you can get fired. Often also bad publicity that can lead to dismissals or can have a negative impact on the price on the stock markets for the company.

All this problem led to: EU joint transfer pricing forum Assist and advise the European commission on TP taxation matters.

EU Joint Transfer Pricing Forum Facts Need for mutual consultation between the tax administrations and business community

within the EU Procedure EU JTPF

Proposal for set-up (23 October 2001) Call for candidates (16 April 2002) Appointment of 10 private persons as business members (10 July 2002) Mandate of EU JTPF numerous times renewed and since 1 April 2015, 18 organisations

(including NGOs) are member

Composition EU JTPF Representatives of the tax administrations of the members states (1 permanent member per

country) Representatives of the European Commission Representatives of the business community Representatives of the tax administrations of the candidate member states and a

representative of the OECD as observers

First time that tax authorities, the business community, the OECD, the candidate member states of the EU and the EC were brought together and were discussing TP topics.

Goals EU JTPF Pragmatic solutions

Improve working of APAs without legislative changes A common approach for documentation requirements (in line with OECD) Improve practical application of the Arbitration Convention

In order to Avoid double taxation Reduce compliance costs

Tools/outcome: ‘Soft law’ instruments

What was/is the goal of the forum? Improve the working of advanced pricing agreements (rulings). For example: without legislative changes to find a common approach for documentation : how can we give form to TP documentation within the EU? Improve the practical application of the arbitration convention = in 2002 some issues in terms of the convention were not ratified in certain member states or re-ratified. All more or less resolved in a mean time.

Outcome could only result in soft law. Hard law within the EU in the domain of tax is a directive. This is the directive and you as a member state have to copy paste this directive in the domestic legislation. The directive is forced on to the member states.

75

Soft law are guidelines, code of conduct. It is offered to the member states and they can in theory say: “I don’t care”. Quite difficult because all the member states are also sitting in the room and they agree with the guidelines so its difficult for a county to say that they do not agree. What most countries have done based on the soft law instruments: changed the tax law or administrative guidelines which were addressed to their tax authorities.

Realizations EU JTPF European Arbitration Convention

‘Peer pressure’ ~ ‘speedier’ ratification procedure Renewed entering into force of EAC on 1 November 2004 Code of Conduct (23 April 2004, OJ C/2006/176/8 of 28 July 2006) Revised Code of Conduct (14 September 2009, COM (2009) 472 final; EU Council

approval on 22 December 2009; OJ C/2009/322/01 of 30 December 2009) Working can still be improved (60% of the EAC-cases are dealt with within two

years-period) Transfer pricing documentation

Code of Conduct (27 June 2006, OJ C/2006/176/1 of 28 July 2006) Introduction of EU TPD/Masterfile-concept

EU guidelines on APAs (26 February 2007) Report on (low value adding) intra-group services (February 2010/ECOFIN 17 May 2011) SME-Guidelines (4 March 2011) Secondary Adjustments Report (18 January 2012) Transfer Pricing Risk Assessment Report (6 June 2013) Compensating/Year-end Adjustments Report (January 2014)

Skip the EU offering because it is outdated. The concept offered by the OECD in the domain of the transfer prices documentation is exactly equal to what has been offered to the companies by the EU joint transfer pricing forum. They took it from the European commission.

Transfer pricing documentation – OECD – BEPS – Action 13Basis of many legislation that describe how TP documentation looks like anno 2019.

Transfer Pricing Documentation

“Taken together, these three documents (country-by-country report, master file and local file) will require taxpayers to articulate consistent TP positions.

76

Action 13 foresees a cryptic namely a set of documents that consist out of 3 parts: Masterfile

Document that is created by the multinationals, it is created by themselves or the consultants created it for them. It gives an insight in the business of a multinational organization. That’s the booklet. Magnitude: 10 years ago, 300 pages. The average master file today has between 40 and 80 pages. One document for the entire multinational normally. Masterfile needs to be relevant. We have some huge multinationals (Japanese and American) that are so huge that they have to create various master files. For each subdivision (sub multinationals), they create a master file.

Local fileFor each qualifying entity you will see a local transfer pricing documentation file. It’s a document that shows to the authorities: your client company X member of a multinational group Y, what are the activities and the operations? What is the company’s structure? What risks do they bear? Does its own intangibles? How are the TP policies? What is the TP policy being applied on to this company and is the outcome of the OTP’s applied giving an outcome that is in line with arm’s lengths principle?

Country by country report. For multinationals with a consolidation of gross turnover of more than 750 million. Very brief overview of the supply chain of a multinational. Our big multinational has operations in those and those countries. In this country we manufacture, in these countries we distribute, in this country we do finance…

All of these documents need to tell a consistent story. The headquarter is mostly responsible for the master file, they need to avoid saying they are owner, whereas the local file says that someone else seem to be the owner.

A lot of multinationals have cleaned out their structure (e.g. Shell companies in Luxemburg).

The Master File - Provides a high-level overview of the MNE group business:

- The nature of its global business operations - Overall transfer pricing policies - Global allocation of income and economic activity - Organizational structure - Description of MNE’s business

Both from a legal and operational perspective.- Description of intangibles - Intra-group financing activities - Financial and tax positions

Master file requirementsA description of the business

Important drivers of business profit Description of the supply chain Description of the main geographies Important intra-group services Important business restructurings Organization structure

Intra-group financial activity How the MNE is financed Identification of central financing companies Transfer pricing policies related to financing

77

Intangibles Development strategy A list of important intangibles Agreements related to intangibles TP policies related to R&D intangibles Important transfers of intangibles

Financial and tax position Consolidated financial statements Unilateral Advanced Pricing Agreements (APAs) and other tax rulings relating to the

allocation of income

Masterfile provides you with a nice insight of what the company does, how the supply chain is working and where the value is created.

The local file- Detailed information related to specific intra-group transactions - Focuses on information relevant to the transfer pricing analysis of a local entity - Similar to the transfer pricing documentation currently prepared - Similar details required for each local entity (subject to local law) - Assuring the tax authority that the local entity has complied with the arm’s length principle

for its material intra-group transactions in that jurisdiction

Show how the transfer prices policy has been applied on an entity level and you demonstrate this by using one of the 5 methods (or a combination). You demonstrate in the local transfer prices file that your OTP’s have resulted in an outcome that is defendable from a tax point of view.

The Local File Requirements Local entity

Description of the management structure Description of the individuals to whom local management reports A local organizational chart Description of business strategy Description of business restructurings Description of intangible transfers Key competitors

Controlled transactions Description of material controlled transactions and context of transactions Intra-group payments for each category by jurisdiction of counterparty Copies of material intra-group agreements Most appropriate transfer pricing method and tested party Important assumptions in applying the transfer pricing methodology Reasons for concluding transaction was conducted on arm’s length basis A summary of the financial information used in applying the transfer pricing method A copy of existing APAs and other tax rulings which are related to the controlled

transactions (but do not involve the local entity)Financial information

Annual local entity financial accounts for the fiscal year concerned Information and allocation schedules showing how the financial data used in applying the

transfer pricing method may be tied to the annual financial statements Summary schedules of relevant financial data for comparables used in the analysis and the

sources from which that data was obtained

78

Country by country report: - Country by country breakdown of financial and tax data - List of all entities, branches and PEs, with relevant activity from a tick list - Assumptions and narrative to support and explain the data - Aggregate tax jurisdiction wide information relating to:

- The global allocation of income - Taxes paid - Certain indicators of economic activity among the tax jurisdictions in which the MNE

operates

Purpose of CBC report High level transfer pricing risk assessment

o Identify if revenues and profits generated are commensurate with substance Evaluate other BEPS related risks

o Greater transparency on the location of permanent establishments and brancheso Visibility of where groups are located in tax havens or have tax incentives

Economic and statistical analysiso Identify artificial shifting of profitso Provide a global view of a multinational’s value chain

What happens with this document? Document has to be filled in and needs to be filed by the ultimate parent company. What happens in the other countries where the parent company is present? All the other companies have to file a notification, they have to notify the tax authorities that they belong to a multinational group that is obliged to file a country by country report.

What happens next? Japanese tax authorities (for example are going to do the distribution of the country by country reports. Send this report to the Belgian tax authorities for example. Same applies to the other countries as well. For so far procedures are foreseen. For example: procedure foreseen to exchange documentation between Bahamas and Japan? They probably don’t get a copy of the country by country report.

Risk assessment tool, high level = very easy.

Best Practice for Documentation Timeline:

- Master File to be updated in line with filing deadlines of parent - Local File to be required no later than due date of tax return - CbCR to be completed within one year of the end of the fiscal year of parent

Materiality: - Master File – based on prudent business principles - Local File – established by local jurisdictions

Frequency of updates – Searches to be re-performed every 3 years (with annual financial updates) Language – Encouragement to tax authorities to accept ‘commonly used languages’ Penalties – Discussion of compliance incentives e.g. penalty protection or shift in burden of proof Confidentiality – Tax authorities should take all reasonable steps to ensure confidential information is not disclosed publicly Local comparables – Most reliable available information to be used

79

Most transfer pricing documentation is written in English. Most local transfer pricing reports are drafted in local language. Why? Because the law requires it, or those countries have tax authorities that are unable to understand another language. For example: Italian company has to draft their local report in Italian.

Country Implementation Summary

35 members of the OECD. Many more countries today have this format enchanted in the local legislation.If you draft a master file, they know the concept almost everywhere in the world.

Has action 13 been implemented in my country? Look at the map.

Belgium’s implementation –BEPS – Action 13 (Law 1 July 2016)Most (European) countries have implemented action point 13 in the legislation. How does the implementation in Belgium looks like? Belgium implemented it in a special way. Copy pasted the OECD for the master file: each qualifying entity needs to draw a master file and needs to file the master file to the Belgian tax authorities. Local file in Belgium: authorities have created a form, a local file form. In addition to the master file, Belgian companies also have to fill in a local file form if they qualify.

The Belgian TP Documentation RequirementsCbCR

Qualifying groups (with a consolidated gross turnover exceeding €750 million) would have to file the CbCR report with the Belgian tax authorities within 12 months after the closing of the consolidated financial statements of the group.

Reporting in English possible

MF and LF Threshold Three thresholds(1) A sum of operational and financial income of €50 million OR(2) A balance sheet total of €1 billion OR(3) An annual average of employees of 100 FTEs The transfer pricing documentation requirements introduced for financial years starting on or

after 1 January 2016 (de facto assessment year 2017) To be completed/filed per Belgian legal entity/branch which exceeds one of the thresholds Penalties up to € 25.000 as from the second infraction

80

MF and LF Overview

Master File: The contents to closely follow OECD format To be filed with the Belgian tax authorities within a period of 12 months after the close of

the reporting period of the groupLocal File:

Filed electronically together with the Belgian income tax return Provided in a format (form with annexes to be filed with corporate income tax return)

consisting of two partso General information filed by all companies or entities who meet one of the 3

thresholdso Qualitative information on the various types of intercompany transactions (per BU).

Required if cross border intra-group transactions exceed €1 million in total value (as from 1.1.2017)

Reporting in English possible

Country by country reportCopy pasted what the OECD has proposed. When does the group closes it financial year ends? Within 12 months after closing you need to file the country by country report. The head office needs to file it. The other ones need to file a notification. How many groups in Belgium have a consolidated turnover of 750 million? Almost 70 companies. Belgian based multinationals, we don’t have a lot of them. Small economy.

There are so called Belgian groups on paper, but they are not Belgian groups because a lot of them consolidate in Luxemburg. Top holding is quite often not in Belgium located but in Luxemburg.

For every Belgian taxpayer: Belgian company with a separate legal entity or an establishment needs to check whether one of these 3 thresholds has been exceeded.

If they exceed 50 million they have to prepare a master file, file a master file form, and upload onto the platform a local file form.

Balance sheet total, if you are exceeding a total of 1 billion euros you have to meet the transfer prices documentation obligation.

If you exceed an annual average of employees of more than 100 people (FTE’s). o Practical solution of this: create a second company and move a part of your

personnel to the second company. The criteria are judged on an entire basis. If they don’t exceed the first 2 but they exceed the third they solve it like above.

81

1. Belgian master file form

Make yourself acquainted with the form.

If you have a normal master file: you obtain from the head office a copy from the master file or you are responsible for drafting yourself a master file. Everything has to be filled in, the 5 boxes have to be ticked and the document has to be uploaded to the platform of the Belgian tax authorities.

2. Belgian local file form partIf you go through it: a lot of the things that at we have discussed about transfer pricing, it all comes back. Belgian tax authorities will ask about: functions, organization structure, risk that that they bear, transfer prices methods they use and so on. And they ask for almost every sort of intercompany transaction that you can imagine sale of goods – cash pooling system: commodities transactions, delivery of services.

3. Country by country report

3 pagers but only 2 pages are foreseen with content. You provide the tax authorities on a worldwide level with an insight of where you are present, what your revenue is, whether in a country you obtain a profit or a loss, what taxes has been paid, how many people are being deployed. Used as a high risk assessment tool = very sensitive. Have to file it and have to mention the weak spots of the multinational in the document. It all has to be revealed.

82

weducforum.files.wordpress.com · Web view2020. 10. 21. · Balance sheet of AB Inbev Belgium:...

Documents

Transcript of weducforum.files.wordpress.com · Web view2020. 10. 21. · Balance sheet of AB Inbev Belgium:...