The NatWest Saga continues - NatWest III

For the ones that follow international tax case-law, the Natwest cases in the US have been a must (although difficult) read. National Westminster Bank (NatWest), which is a publicly-held U.K. corporation engaged in a world-wide banking business, conducted business in the United States in both branch and subsidiary form. The cases (three until now) concern the amount of profits that should be attributed to the U.S. branch operations of NatWest under Art. 7 of the U.S.-U.K. Treaty, and whether NatWest overpaid its U.S. federal income taxes on those profits.

In 1999, the US Court of Federal Claims held in NatWest I that the U.S.-U.K. Treaty was inconsistent with Treasury Regulation Sec. 1.882-5, which provides for interest deduction allocations of foreign corporations engaged in a trade or business in the United States. In that groundbreaking case, NatWest claimed that the IRS had incorrectly denied the plaintiff’s interest deduction for interest paid on funds the branch had received from NatWest headquarters and other non-US NatWest branches. The court ruled that the regulation was inconsistent with the separate entity provision of Art. 7(2) of the Treaty. The Court focused on OECD Model and found that the interest apportionment formula in Treas. Reg. Sec. 1.882-5 was incompatible with Art. 7. The court further held that the profits of a U.S. branch of a U.K. bank should be determined on the basis of the branch’s books and records, “maintained as if the branch were a distinct and separate enterprise, dealing wholly independently with the remainder of the foreign corporation” subject to adjustments as necessary to attribute “adequate capital to the branch” and “to insure use of market rates” in computing interest, also referred to as the “arm’s-length” issue.

In 2003, the Court of Federal Claims in NatWest II ruled on the question of capital imputation and found that the Treaty does not permit attribution of regulatory or marketplace capital requirements of a separately incorporated subsidiary to a branch operation. The court held that the government could not require NatWest to recharacterize loans from other branches to establish a 6%-7% capital base, which was approximately equal to the amount that would have been required if the branch were a domestic subsidiary. Instead, the court agreed with NatWest that under the Treaty the court was bound to look at the business records of the entity and make adjustments only to the extent that the branch’s capital was not properly identified in the branch’s books and records.

In NatWest III issued on December 2005, the Bank was entitled to partial summary judgment on its tax refund claim. Based on the parties’ arguments, the court was required to decide: (1) whether the books and records of NatWest’s branch offices were “properly maintained”; (2) what number of “PEs” NatWest maintained in the United States for tax purposes; (3) whether NatWest paid interest (which it then deducted from its profits) on allotted capital or amounts to be treated as allotted capital; and (4) whether NatWest paid and received arm’s-length interest rates on both (a) money market transactions and (b) clearing account transactions.

The judgment is long and quite complex to follow (just as the preceding ones). Nevertheless, for international tax experts the issue of whether NatWest (which had six different branch offices) maintained in the United States one, three or six PE’s for tax purposes is an interesting one.

Basically, the dispute was whether these six branch offices can be treated as a single PE for purposes of calculating NatWest’s tax liability or whether each must be treated separately for purposes of calculating NatWest’s tax liability.

NatWest asserted that it had a single PE in the United States and therefore the books and records of the six branch offices could be aggregated into a single unit for tax purposes. In that regard it argued that under the Treaty the right of a host country to tax a foreign business in the United States turns on whether the foreign corporation operates a “PE” in the host country. NatWest contended that there is not a single reference in a case or the OECD Commentary to suggest that a bank operating several offices in a single host country is deemed to be operating more than one PE.

On the contrary, the IRS submited that NatWest should separately account for “capital” at each branch and that it is not allowed to aggregate the balance sheets of the six branches into a single PE. The IRS considers that NatWest must account for profits and losses on a segregated basis. Since NatWest maintained six separate PE’s in the United States, each must be accounted for separately for tax purposes.

The Court considered that the fact that NatWest operated separate banking operations in different jurisdictions within the US territory does not mean that it operated several PEs. In addition, the Court held that the fact that the six offices maintained separate books and records for internal accounting purposes does not mean that the offices are not part of a single PE for tax purposes under the Treaty. In fact, the Court identified that there was no precedent for treating the branches as separate establishments either in the U.S. or in the U.K.

In conclusion, the Court of Federal Claims (on the issue of how many PE’s) agreed with the plaintiff that as a matter of law NatWest operated a single PE in the United States and thus NatWest may account for capital and interest paid on capital contributions on an aggregated basis.

For the remaining issues please see the decision.

Selected bibliography
- Connors, P.J., NatWest decision prevents IRS adjustments of US branch's interest deductions : impact on capital allocation, Derivatives and financial instruments, Vol. 7 (2005), no. 4 ; p. 173-175
- Leeds, M.H., What does the taxpayer victory in NatWest II mean for foreign bank branches?, Journal of international taxation. - New York. - Vol. 15 (2004), no. 7 ; p. 44-50
- Jie, W.A., The NatWest Saga: the beginning of an end? , Tax notes international, Vol. 34 (2004), no. 7 ; p. 765-780
- Katz, J.L., Treaties and interest expense allocation: moving in a NatWesterly direction, Tax notes international, Vol. 86 (2000), no. 3 ; p. 403-424

2005 Year review - IBFD Journals

As a researcher on international tax issues, I need to keep up to date with developments on the international tax arena. As any specialist is aware, the updating involves a process of selection. Such selection process starts by choosing your topics and then choosing the adequate sources. A colleague asked me recently whether there was a selection of “must read” 2005 articles on certain topics of international tax. My quick answer was “NO! But it does not mean it cannot be done!” Following his request and starting "in-house", I outline below a list of (35) selected articles issued on 2005 published on IBFD Journals - Bulletin For International Fiscal Documentation, European Taxation, Asia-Pacific Tax Bulletin, Derivatives & Financial Instruments, European Taxation and International Transfer Pricing Journal (I left out the International VAT Monitor not because I do not consider VAT to be tax but because I recognize my ignorance on that subject).

Bulletin For International Fiscal Documentation

(1) The Attribution of Income to a Person for Tax Treaty Purposes
Joanna Wheeler
This article explores the issue of the attribution of income to a person for tax treaty purposes. The article considers how the attribution of income to a person relates to various areas of current international concern and offers some thoughts on what, the article argues, is a more fundamental issue in this respect, namely, the relationship between treaty entitlement and the determination of the taxable person. Specifically, the article discusses beneficial ownership, income conduits and entity conduits, attribution under domestic law, and the relationship of domestic law with treaty entitlement.
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 11

(2) Solving Conflicts Of Qualification By Analogous Application Of Tax Treaties
Stephan Gündisch
This article deals with the interpretation of tax treaties in respect of conflicts of qualification. The article shows that there are many situations that are not covered by the wording of tax treaties. In these situations, tax treaties cannot be applied directly, but they should, if possible, be applied by analogy. Qualification conflicts also exist where tax treaties are directly applicable. In these cases, differences in the treaty application which result from a qualification conflict could and should be prevented by a subject-to-tax clause. The author thus favours a new dogmatic approach to the interpretation of tax treaties. This approach leads to taxation that is similar to the taxation that follows from the principles of treaty interpretation in the 1999 OECD Partnership Report. The theoretical and dogmatic background of this approach, however, differs considerably from the OECD's interpretation. The author illustrates the problem based on the taxation of partnerships.
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 10

(3) “State of Residence” may as well be “State of Source” – There is no Contradiction
Klaus Vogel
The term "state of source" is used often and as a matter of course in talking about tax treaties and seems to be indispensable for rulings and discussions on double taxation. Thus, it is surprising that the OECD Model Tax Convention on Income and on Capital does not know the term. Its distributive rules designate one contracting state by mentioning a connecting factor - e.g. the situs of immovable property or the residence of the owner of an enterprise - and call the treaty partner state simply "the other Contracting State". The Commentaries and the OECD reports on double taxation, however, use the term abundantly as opposed to "state of residence". This article shows that this terminology is based on an insufficient understanding of the system of distributive rules. The "state of residence" and the "state of source" are not opposites; as long as only two states (and not more) are involved, and therefore only one treaty is applicable, the term "state of source" is redundant. The term "state of source" may, however, be helpful in discussing triangular (polyangular) cases.
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 10

(4) Rethinking the Design of Australia’s CFC Rules in the Global Economy
Lee Burns
The introduction of controlled foreign company (CFC) rules has come in two "waves". The "pre-globalization wave" saw CFC rules introduced in the United States in 1962 and in Canada, France, Germany, Japan and the United Kingdom in the 1970s and early 1980s. In the "globalization wave", CFC rules were introduced in most developed and some developing countries in the period from the late 1980s until now. The broad design of CFC rules introduced during the globalization wave has largely followed the rules developed in pre-globalization times. This article reconsiders the design of Australia's CFC rules in the context of the global economy. The article examines the key design features of Australia's CFC rules to see whether they effectively counter the use of tax havens and preferential tax regimes but, at the same time, do not unnecessarily inhibit a country's multinationals from competing in the global economy. The article is written from the perspective of Australia (where there has been much debate over the last few years on the design of CFC rules), but many of the issues raised are of general application.
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 7

(5) Software Royalties in Tax Treaties: Should Copyright Rights Be Reconsidered in the OECD Commentary on Article 12?
Alejandro García Heredia
This article focuses on determining when software payments are deemed to be royalties in tax treaties pursuant to the Commentary on Art. 12 (Royalties) of the OECD Model. The article first discusses the importance of classifying software payments as royalties and sets out the main studies and reports on this topic. The article also examines the question whether software payments may be included in the wording of the royalty concept which refers to "the use of, or the right to use, any copyright of literary, artistic or scientific work". Finally, the article looks at the aspects which should be taken into account or disregarded in classifying software payments as royalties.
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 6

(6) The Aftermath of the Lamesa Case: Australia’s Tax Treaty Override
Michael Kobetsky
This article evaluates Australia's tax treaty override following the decision of the Full Federal Court of Australia in Lamesa, in which the Court held that Art. 13 (Alienation of property) of the Australia - Netherlands treaty is limited to the direct alienation of real property. The article contends that Australia breached its international law obligations by overriding its tax treaties and discusses, among other things, Australia's treaty network, the rights and obligations imposed by the Vienna Convention on the Law of Treaties, the application Art. 13 in Lamesa, the international law consequences of Australia's treaty override, the interpretation of tax treaties in Australia, and the influence of the OECD Model and the OECD Tax Treaty Override report.
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 6

(7) “Taxes Covered” - What is a “Tax” according to Article 2 of the OECD Model?
Michael Lang
Art. 2 (Taxes covered) of the OECD Model Tax Convention on Income and on Capital contains a crucial requirement for the application of tax treaties. This article examines the term "tax" in Art. 2, the list of taxes in Art. 2(3), and "similar taxes" according to Art. 2(4). The article also looks at taxes on income and capital versus taxes on estates, inheritances and gifts and considers the interaction between the OECD Model Tax Convention on Income and on Capital and the OECD Model Double Taxation Convention on Estates and Inheritances and on Gifts.
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 6

(8) Taxing Electronic Commerce: The End of the Beginning?
Richard M. Bird
This article examines the taxation of electronic commerce and looks at what this "new frontier" in the fiscal wars may mean for future fiscal developments. The article first sketches three views on what the growth of e-commerce means for taxation and makes the obvious, but still important, point that, as yet, the fiscal implications of such commerce in practice remain limited, though the future may be different. The article then discusses what appear to be some of the key points at issue with respect to consumption taxes, noting some differences in the situations facing the United States, the European Union and Canada. As regards income taxes, the article notes that everyone seems to be in generally the same boat. The article also considers whether the new technology may offer solutions as well as create problems for those in the tax business. The article concludes that, on the whole, the sound and, at times, the fury of the international discussion on the taxation of electronic commerce have until now considerably exceeded its real significance.
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 4

(9) Agreement between Switzerland and the European Union on the Taxation of Savings – A Balanced “Compromis Helvétique”
Xavier Oberson
The bilateral agreement on the taxation of savings (Savings Agreement) between Switzerland and the European Union, signed in October 2004, is important for both parties. For the European Union, it represents the implementation of "equivalent measures" to those in the EC Directive on the taxation of savings income in the form of interest payments. For Switzerland, it is the result of a balanced compromise between the introduction of unilateral measures to secure the taxation of interest within the European Union, while preserving bank secrecy. After summarizing the main features of the Savings Agreement, this article analyses its three essential elements: the retention on interest payments, the exchange of information in the case of "tax fraud and the like", and the introduction of rules comparable to those in the EC Parent-Subsidiary and Interest and Royalties
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 3

(10) Will the OECD Initiative on Harmful Tax Competition Help Developing and Transition Countries?
Charles E. McLure, Jr.
In connection with its initiative on harmful tax competition, the OECD issued a list of uncooperative tax havens in 2002. Upon the issuance of the list, the Chair of the OECD Committee on Fiscal Affairs stated that the ultimate success of the project will benefit all countries: OECD countries and non-OECD economies, including developing countries and those with economies in transition. This article examines whether that outcome is likely. The article first considers how tax havens are used to evade tax on income from passive investments. The article then describes the OECD project and discusses both the appearance and the reality of progress to date, indicating the crucial role played by the EU Saving Directive and the unwillingness of the United States to exchange information on interest paid to foreigners. Finally, the article describes the implications for developing and transition countries.
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 1

(12) Intra-Bank Loans: Determining a Branch’s Business Profits under Article 7 of the OECD Model
Michael Kobetsky
A key factor in determining the business profits of a branch of an international bank is the deductibility of interest on intra-bank loans. Art. 7 of the OECD Model Tax Convention and the Commentary on Art. 7 contain principles on the deductibility of interest on intra-bank loans. The 1984 OECD Report, Transfer Pricing and Multinational Enterprises: Three Taxation Issues, deals, inter alia, with the allocation of business profits on intra-bank loans to branches of international banks. This article critically examines the current OECD rules in Art. 7 and the Commentary and in the 1984 Report on the deductibility of interest on intra-bank loans. The article first examines the problem of allocating profits on intra-bank loans to branches in accordance with the arm's length principle. The article then considers three key issues in resolving the main question of whether interest on intra-bank loans is deductible: (a) whether the interest expense on intra-bank loans is recognized for tax purposes, (b) whether an international bank can impose a profit margin on notional intra-bank loans, and (c) how to determine the equity capital of a branch to ensure that interest is not charged on it.
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 2

(13) Place of Effective Management as a Residence Tie-Breaker
John F. Avery Jones
This article summarizes the discussion at the joint IFA/OECD Seminar at the 2004 IFA Congress in Vienna on the place of effective management as a residence tie-breaker. The seminar considered the meaning of "place of effective management" in Art. 4(3) of the OECD Model as the tie-breaker for dual resident persons other than individuals. In this context, the panel looked at four cases involving the place of effective management: the directors' meetings, the parent company's involvement, the peripatetic management, and the one-person company.
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 1

(14) The Observations on the OECD Commentaries in the Interpretation of Tax Treaties
Guglielmo Maisto
All the OECD Member countries have expressed reservations and observations on the OECD Commentaries in order to express their disagreement with the OECD Model or its interpretation as laid down in the Commentaries. This article examines the role and effect of the observations in the interpretation of tax treaties. The article considers unilateral interpretative declarations under general international law, observations on the Commentaries and unilateral declarations, implied reiteration of the observation at the time a bilateral treaty is concluded, and the other state's reaction to the observation when the treaty is concluded.
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 1

(15) The Judiciary and the OECD Model Tax Convention and its Commentaries
Frank van Brunschot
In this article, the author examines the influence of the OECD Model and its Commentaries on the judiciary when the judiciary decides a case involving a tax treaty. Specifically, the author considers treaty terms, their interpretation and the role of the OECD Model and Commentaries. The author also discusses several treaty cases recently decided by the Netherlands Supreme Court.
Bulletin For International Fiscal Documentation
Volume 59 , 2005 , No. 1

European Taxation

(16) "Dancing With Mr D": The ECJ's Denial Of Most-Favoured-Nation Treatment In The "D" Case
Georg W. Kofler and Clemens Philipp Schindler
This article provides an initial analysis of the ECJ's decision in the "D" case, together with a consideration of the likely effects of the decision on pending cases and the possible future developments.
European Taxation
Volume 45 , 2005 , No. 12

(17) The 2005 OECD Model Convention And Commentary: An Overview
Raffaele Russo
This article contains a review of the changes introduced in 2005 to the OECD Model Convention and Commentary, together with comments by the author.
European Taxation
Volume 45 , 2005 , No. 12

(18) The Free Movement Of Capital And Third Countries: Some Observations
Cees Peters and Jan Gooijer
The authors commence by briefly considering Art. 56, Art. 57 and Art. 58 of the EC Treaty and the history of the free movement of capital. They then discuss the direct effect of Art. 56 of the EC Treaty, the scope of Art. 57(1) of the EC Treaty and the possible justifications for its breach. The article concludes with a consideration of possible future developments.
European Taxation
Volume 45 , 2005 , No. 11

(19) A Comparative Study Of The Thin Capitalization Rules In The Member States Of The European Union And Certain Other States:
Bruno Gouthière
European Taxation
Volume 45 , 2005 , No. 9/10

(20) Harmful Tax Competition Revisited: Why Not A Purely Legal Perspective Under EC Law?
Luca Cerioni
This article provides a detailed examination of the question of whether or not the European Union should rely on tax competition rather than on tax harmonization with regard to corporate taxation. The author considers the competition between the Member States in designing their general corporate tax regimes and concludes that national tax policymakers may decide that the significant predictability in the effects of competition based on general corporate tax regimes could be in their long-term interests.
European Taxation
Volume 45 , 2005 , No. 7

(21) Cross-Border Loss Relief In The European Union Following The Advocate General's Opinion In The Marks & Spencer Case
Gerard T.K. Meussen
In this article, the author comments on Advocate General Poiares Maduro's Opinion in the Marks & Spencer case. Prof. Meussen places the issue of cross-border loss relief in a wider EU perspective and suggests solutions to the problems that arise regarding this.
European Taxation
Volume 45 , 2005 , No. 7

(21) The Transfer Of The Seat Of And The Freedom Of Establishment For Companies In The European Union: An Analysis Of ECJ Case Law And The Regulation On The Statute For A European Company
Elena González Sánchez and Juan Franch Fluxà
The authors consider the freedom of establishment of companies in relation to companies resident within the European Union transferring their seat from one Member State to another, with particular focus on the freedom of establishment of primary establishments. These issues are examined in the light of ECJ case law and the Regulation on the Statute for a European Company.
European Taxation
Volume 45 , 2005 , No. 6

(22) The Netherlands Interpretation Of The Term "Employer" In Art. 15 Of The OECD Model Convention
Hans de Vries
The author considers the Netherlands interpretation of the term "employer" by looking at its definition, summarizing recent Netherlands judicial interpretations of the term and providing an overview of the OECD's comments on Art. 15 of the OECD Model Convention, and, finally, reviews the current approach of the Netherlands Ministry of Finance regarding this issue.
European Taxation
Volume 45 , 2005 , No. 4

(23) Triangular Cases And The Interest And Royalties Directive: Untying The Gordian Knot?
Michele Gusmeroli
A three-part series article, which considers the Interest and Royalties Directive in relation to the problems posed by triangular cases.
European Taxation
Volume 45 , 2005 , No. 1, 2 and 3

(24) The Advocate General's Opinion In The "D" Case: Most-Favoured-Nation Treatment And The Free Movement Of Capital
Gerard T.K. Meussen
The author considers the significance of the Advocate General's opinion in the important European Court of Justice "D" case, with special reference to the comments made regarding violation of the principle of the free movement of capital and the application of the most-favoured-nation doctrine.
European Taxation
Volume 45 , 2005 , No. 2

Asia-Pacific Tax Bulletin

(25) International: the quest for marketing intangibles
Marc M. Levey and Monique van Herksen and Stephen Breckenridge and Kazuo Taguchi and James Dougherty and Antonio Russo
The authors look at the issues surrounding the concept of "marketing intangibles" and the allocation of costs to this item. Additionally, the economic benchmarking challenges and the future of "marketing intangibles" are discussed.
Asia-Pacific Tax Bulletin
Volume 11 , 2005 , No. 5

(26) India: income characterization of software payments - a contemporary tax perspective
Mukesh H. Butani and Aseem Chawla
The authors provide a detailed yet succinct overview of the current Indian legislative, administrative and judicial landscape with regard to the characterization and taxation of software payments.
Asia-Pacific Tax Bulletin
Volume 11 , 2005 , No. 4

(27) A New Three-Tier Proposal for Determining Corporate Residence Based Principally on Individual Residence
Dale Pinto
Determining corporate tax residence has become increasingly complicated with the advent of e-commerce. The author argues that the existing tests are inadequate and that using an individual's tax residence as the basis of determination is the best alternative.
Asia-Pacific Tax Bulletin
Volume 11 , 2005 , No. 1

Derivatives & Financial Instruments

(28) Controlled Foreign Companies and the EU Parent-Subsidiary Directive
Anton Joseph
Extensive article examining the role of controlled foreign companies in offshore investment by Australian residents and the impact of the EU Parent-Subsidiary Directive on them.
Derivatives & Financial Instruments
Volume 7 , 2005 , No. 3

(29) Cross-Border Repatriation of Dividends: Tax Neutral in the European Union?
Susan Bell
This interesting article deals with the proposed changes to the Parent-Subsidiary Directive. The Directive is examined in its amended form and assessed as to what extent it achieves its objectives, especially as compared to similar reliefs available under bilateral income tax treaties.
Derivatives & Financial Instruments
Volume 7 , 2005 , No. 1

International Transfer Pricing Journal

(30) Comparative Survey: Global Trading: International: Global Trading: An Adventure In Financial Markets And Instruments
Louan Verdoner
Louan Verdoner has written the introduction to this special issue of the International Transfer Pricing Journal on global trading and the possible impact of the OECD Discussion Draft Part III, The Attribution of Profits to Permanent Establishments. This article first explains briefly the context in which Discussion Draft Part III has been developed, and next it summarizes the contents of Part III in a consice and comprehensible manner. Louan Verdoner has also drawn up the questionnaire sent to the authors of the country chapters as the starting point for their studies.
International Transfer Pricing Journal
Volume 12 , 2005 , No. 6

(31) International: Let's Tango! The Dance Between VAT, Customs And Transfer Pricing Folkert Idsinga and Bart-Jan Kalshoven and Monique van Herksen
Transfer pricing for direct tax purposes also has an impact on VAT and customs duties. The joint application or at least movement in sync of direct and indirect taxes is addressed in this article. After setting out the general framework of VAT and customs duties, and their valuation methods, the authors focus in particular on the impact of corresponding and compensating adjustments of transfer prices for VAT and customs duties.
International Transfer Pricing Journal
Volume 12 , 2005 , No. 5

(32) In Tax Practice The Cost-Plus Method Is Often A TNMM In Disguise: What To Do About It?
Lars P. Haugen
In this article the author discusses whether transfer pricing methods that are in practice referred to as cost-plus methods are in fact applications of the TNMM method. If so, the author suggests that the OECD should recognize this and amend its Transfer Pricing Guidelines accordingly.
International Transfer Pricing Journal
Volume 12 , 2005 , No. 5

(33) Commissionaire Held Accountable For Justifying Its Relationship With Its Principal Established In A Tax Haven
Carlo Galli
This article deals with an interesting ruling of the Italian tax authorities concerning a Swiss-based principal, an Italian commissionaire (undisclosed agent) and the end customer. After expounding the law and the facts of the cases, the author takes a critical look at the ruling and its possible ramifications.
International Transfer Pricing Journal
Volume 12 , 2005 , No. 4

(34) Income Allocation In The 21st Century: The End Of Transfer Pricing?
Introductory Speech by Hubert Hamaekers
Should The Arm's Length Principle Retire? by Jeffrey Owens
The Case For Formulary Apportionment by Walter Hellerstein
On the occasion of Prof. Hubert Hamaekers' retirement as CEO of the IBFD, a panel discussion was organized on 6 May 2004 to address the topic of "Income Allocation in the 21st Century: the End of Transfer Pricing?"Prof. Hamaekers presented the introductory speech to the panel discussion. First, he described the two main different systems of allocating income to entities belonging to an MNE, and next discussed the development of the OECD output on transfer pricing. His introduction was followed by an analysis of what went wrong with the arm's length principle. Finally the question was broached whether formulary apportionment is a realistic alternative for the arm's length principle.
International Transfer Pricing Journal
Volume 12 , 2005 , No. 3

(35) Application Of Arm's Length Principle To Intra-Company Dealings: Back To The Origins
Raffaele Russo
This article examines the 2004 Discussion Draft on the attribution of profits to a permanent establishment. In his thorough account, the author goes back to the origins of the arm's length principle, makes a comparison between the 2004 Draft and the OECD Commentary to Article 7 of the OECD Model, and finally presents some of his own observations on future topics and issues that are or may become relevant in this area.
International Transfer Pricing Journal
Volume 12 , 2005 , No. 1

Two recent papers on transfer pricing

Transfer pricing is the area of tax law and economics that is concerned with ensuring that prices charged between associated enterprises for the transfer of goods, services and intangible property accord with the arm's length principle. In fact the multidisciplinary character of transfer pricing (law and economics or vice versa) makes it a very dynamic and interesting area where underlying principles are often questioned by changes in business and management developments. The papers below approach transfer pricing from a business management side and as any specialist in transfer pricing will say to you “understanding the business is essential to understand the business choices and therefore their pricing policies”.

Markus Brem paper, "Globalization, Multinationals and Tax Base Allocation: Advance Pricing Agreements as Shifts in InternationalTaxation?" (December 2005 Indian Institute of Management Ahmedabad),elaborates on the emergence of Advance Pricing Agreements (APA) ininternational taxation and corresponding APA programs in individualcountries. The author notes that the introduction of APA programs andthe generation of APAs are considered to be an example of governancechange and this paper seeks to identify factors which might explainvariation in the evolution of national APA programs and theimplementation of individual APAs between the taxpayer and the taxauthorities.
http://ssrn.com/abstract=874567

Markus Brem and Thomas Alexander Tucha paper, "On Transfer PricingConceptual Thoughts on the Nature of the Multinational Firm "(November 2005 Indian Institute of Management Ahmedabad), analyses theshortcomings of mainstream transfer pricing in multinational firms.According to the authors, the mainstream transfer pricing approachderived from the Arm's Length Principle is deemed inappropriate forglobalized MNEs. Referring to the value chain model, the papersuggests that entrepreneurial coordination is the key performancefeature to be used for valuing business activity and for allocating -for tax transfer pricing purposes - standard markups and residualprofits along the value chain.
http://ssrn.com/abstract=874568

2006 Austrian and Finnish EU Presidency

The operational programme of the council for 2006 submitted by the incoming Austrian and Finnish EU Presidencies was made publicly available. This programme sets out the main objectives for the work of the Council in 2006.

Accordingly, the two Presidencies will work closely together in order to ensure that the work of the Council during 2006 contributes to all beautiful things we (citizens of Europe) would expect from an institution like Europe (i.e. economic and social welfare, protection of environment, freedom and security of European citizens as well as strengthening the role of the Union within the world).

In the field of taxation, the program is short in detail. In that regard, the program set out to say that, “against the general objective of a more cost-efficient and transparent regulatory framework, EU tax rules need to be partly reconsidered and further developed. In addition, measures are necessary to remove obstacles for cross-border activities and distortions in competition between Member States”. This is again the “much I say about nothing” approach... Or "let the ECJ set the standard and we go along" approach.

With regard to indirect taxes, the two Presidencies will continue initiatives on simplifying and modernising the VAT system as well as the excise duties (e.g. alcohol beverages). In this field there is at least a set of objectives that need to be achieve in the medium term and therefore we know we can expect the “step-by-step” approach mixed with the “one step back two steps forward” approach (or inverse Lenine approach if you prefer).

With respect to direct taxes, the two Presidencies state that thy will look close to the work on a common consolidated tax base for companies which is expected to be continued at technical and political level. This means “let them go on with the work until I decide if I like it or not” approach.

As one can see, the approaches are now on the table and it is for the "leaders" to dance around the table and take the decisions!

QUOTE OF THE WEEK (Week I - 2006)

“Love all, trust a few, do wrong to none; be able for thine (your) enemy rather in power than use; and keep thy friend under thine (your) own life's key; be checked for silence, but never taxed for speech”
William Shakespeare (1564 –1616) - English poet and playwright.

For 2005 Quotes

Does a big Committee mean big changes?

The United Nations decided to substitute the UN's Ad Hoc Group of Experts on International Cooperation in Tax Matters (formed in the 1960s) by the Committee of Experts on International Cooperation in Tax Matters. So instead of a Ad Hoc group (academics) we have now a Committee (tax authorities). The rest remains, including the reference to expertise!

Accordingly, the new Committee, which comprises of 25 members (nominated for four years and acting in their personal capacity, reflects a more adequate geographical distribution of different tax systems. Let’s see:

- The usual (OECD) suspects, US, Spain, Italy, UK, Ireland, Korea, France, Norway, Japan, Switzerland, Mexico

- The strong “developing” elements: Brazil, South Africa, Russian Federation, China and Indonesia. By the way where is India???

- The outsiders: Qatar, Barbados, Morocco, Bahamas, Philippines, Tanzania , Zambia, Peru and Tunisia

Apparently, the UN expects that this new body will increase the organization's role in international tax issues. That only time will tell. But for the ones that do not follow these developments, the results of the first session of the Committee held in Geneva from 5-9 December 2005 were recently published in the UN website and such developments include proposed improvements in the Commentaries on Article 5 of the United Nations Model.

With regards to the proposed amendments (based on a paper by Hans Pijl and Ramona Piscopo) , they can be briefly summarized as follows: (a) The wording of article 5 of the text of the United Nations Model should not be amended; (b) The OECD Commentary should be used as a basis upon which to formulate United Nations amendments and therefore special regard should be given to the latest OECD amendments (2003 and 2005); (c) In that regard, the OECD amendments to paragraphs 42.1-42.10 on electronic commerce should be included in the United Nations amendments; (d) The addition of paragraph 4.5 to the OECD Commentary should be clarified further in that article 5 (3) of the text of the OECD Model is a special rule under the general rule of article 5 (1); and (e) Other minor amendments or linguistic improvements should also be considered.

At this stage, I expect that this document will serve as a starting point to a discussion on wider amendments to the UN PE article and commentaries. A discussion focussing, for example, on issues which raise controversy such as the taxation of services and the UN PE clause (See NOTE). Please note that you are free to forward your own comments to the Committee Secretariat no later than 28 February 2006.

Several papers were presented during the meeting, with some of them being made available on the UN website:
Abuse of tax treaties and treaty shopping
This addresses whether and how to amend the current comments on improper use of conventions which are found in the Commentary on Article 1 of the UN Model Tax Convention.

Assistance in the collection of taxes
This paper addresses whether an Article on Assistance in the Collection of Taxes should be added to the UN Model Convention and if yes, whether that Article should be drafted in accordance with the draft produced during the December 2003 meeting.

Revision of the United Nations Model Resolution of Tax Treaty Disputes
The present paper examines recent evolution as regards mutual agreement procedures. In that regard the paper addresses the EU arbitration convention, the recent OECD work on this area and outlines options for future work.

Application of the United Nations Model to payments received under certain financial instruments
The paper examines a number of examples in which a taxpayer uses financial instruments in light of relevant provisions of the UN Model Double Taxation Convention.

Proposed revision of article 26, Exchange of information, of the United Nations Model Double Taxation Convention between Developed and Developing Countries
Annex
This paper, presented by Davis Spencer, reflects the recent developments in exchange of information for tax purposes, including the OECD work and suggests (a) an update of article 26 of the UN Model and (b) additional work by the Committee of Experts in liaison with OECD, on what constitutes effective exchange of information for the purposes of article 26 of the United Nations Model Income Tax Treaty.

Report of the Ad Hoc Group of Experts Meeting on Exchange of Information (Revision of Article 26 of the United Nations Model Double Taxation Convention between Developed and Developing Countries)
The ad hoc group of experts examined the changes made by the OECD to Article 26 of its Model convention and discussed whether those changes would be appropriate for the comparable provision of UN Model convention. It was guided in that examination by the paper prepared by Mr. David Spencer.

OECD’s work on improving exchange of information
This paper sets out the issues that the OECD Member countries have been discussing in the area of exchange of information and also provides a summary of the OECD work in this area.

Tax cooperation and cross-border tax crime: Roles of international organization and potential roles for the United Nations
This paper addresses the role of the UN and whether the UN would want to engage in additional efforts to combat tax crimes through non-tax mechanisms.

(NOTE) Article 5, paragraph 3, of the UN Model contains a subparagraph (b) dealing with the furnishing of services, including consultancy services which are not covered specifically in the OECD Model Convention in connexion with the concept of PE. The UN felt that management and consultancy services should be covered because the provision of such services in developing countries by corporations of industrialized countries often involved very large sums of money. The UN was of the opinion that profits from such services should be taxed by developing countries in certain circumstances.