Base Erosion and Profit Shifting generally implies strategies that help taxpayers reduce their income tax amount, and is implemented by more than 100 jurisdictions and countries to shift profits to locations with low or minimal tax.
Base Erosion and Profit Shifting or BEPS is a practice by which plans or strategies are developed with regards to the planning of tax, wherein mismatches, loopholes and gaps prevalent in income tax rules and regulations are exploited to the extent where profits are transferred by artificial means to countries or areas where tax indemnity is extremely low or is practically non-existent. These are areas that are not economically active, thus allowing companies to pay very small amounts of corporate tax, or in some cases no tax at all. BEPS is considered to be a worldwide issue affecting developing nations that rely heavily on income tax revenue collected from multinational enterprises, companies and corporates.
Who does BEPS Affect?
BEPS affects all strata of government and society in the following ways:
- BEPS is directly harmful to governments since it brings about a reduction in tax revenue collections, and also increases the costs involved with the implementation of compliance standards
- It is especially detrimental to individual taxpayers, who have to take the burden of extra taxation upon themselves due to some MNE’s paying either extremely low tax or no tax at all
- BEPS also harms businesses in the form of loss of goodwill and reputation in the public eye. Domestic and local companies also face the brunt of taxation when competing with MNE’s that regularly avoid the burden of tax
- BEPS is detrimental to the integrity of the taxation system and plays a significant part in the eradication of trust and faith of citizens in the system
BEPS Package and Deliverables
In order to deal with the problem of BEPS, the OECD and G20 countries have outlined 15 actions that will provide government around the world with the necessary tools required to face the menace of BEPS head on.
The BEPS package will enable countries across the world to meet the following objectives:
- To make sure that profits are taxable in locations where any activity is conducted on an economic scale that results in these profits being generated
- To ensure that business are given clarity and assurance with regards to the reduction of any issues concerning taxation rules and regulations on an international scale
- To ensure that compliance needs and requirements are standardised effectively
There are 15 vital areas that have been identified by the BEPS Action Plan, which are to be tackled
- Action 1: Addressing the Tax Challenges of the Digital Economy
- Action 2: Neutralising the Effects of Hybrid Mismatch Arrangements
- Action 3: Designing Effective Controlled Foreign Company Rules
- Action 4: Limiting Base Erosion Involving Interest Deductions and Other Financial Payments
- Action 5: Countering Harmful Tax Practices More Effectively, Taking into Account Transparency and Substance
- Action 6: Preventing the Granting of Treaty Benefits in Inappropriate Circumstances
- Action 7: Preventing the Artificial Avoidance of Permanent Establishment Status
- Actions 8-10: Aligning Transfer Pricing Outcomes with Value Creation
- Action 11: Measuring and Monitoring BEPS
- Action 12: Mandatory Disclosure Rules
- Action 13: Guidance on Transfer Pricing Documentation and Country-by-Country Reporting
- Action 14:Making Dispute Resolution Mechanisms More Effective
- Action 15:Developing a Multilateral Instrument to Modify Bilateral Tax Treaties
Impact of BEPS Measures
The implementation of measures to address the problem of BEPS is expected to have the following impact in various areas:
- Improve Coherence: The BEPS measures look to take into consideration activities that take place beyond a nation’s borders to eradicate Hybrid Mismatch Arrangements that play a part in exploiting tax loopholes and differences leading to income going untaxed under the radar. Models have been developed to ensure that full disclosure takes place regarding taxable income, under which both corporates, as well as governments, will share and be privy to information regarding the generation of taxable profits.
- Tightening Substance: The implementation of this measure will see the rules concerning transfer pricing upgraded significantly in a bid to ensure that all outcomes are derived based on economic reality. To further aid developing countries, simplification mechanisms have been designed for transactions with regards to commodities as well as low-value-adding services. An approach to valuing and pricing intangible products has also been developed, while this measure also seeks to ensure that treaty benefits are doled out only to deserving parties.
- Ensuring More Transparency and Certainty: Indicators have been developed to measure the scope, scale and impact of BEPS, which will ensure that there will be a means by which the effectiveness of the BEPS measures can be monitored and evaluated. Transfer pricing documentation requirements have also been revised and agreed upon on a global basis, with the design of a standard template by which each country can report economically related activity. This measure will also ensure that there will be an exchange of information between countries with regard to taxation rulings. Mechanisms to deal with dispute management and resolutions have also been implemented, which also include the utilization of arbitration for those nations who choose to use it.