According to the Organisation for Economic Co-operation and Development (OECD), aggressive tax planning by multinational companies results in lost tax revenues of between $100 billion and $240 billion a year. That is equivalent to 4% to 10% of global corporate income tax revenue.
Moreover, since 2013, the effective tax rates paid by these companies have been 4% to 8.5% lower than the rates paid by similar companies that have only domestic operations.
In July 2013, the OECD launched the Base Erosion and Profit Shifting, or BEPS, project to assist governments in combatting tax evasion and tax avoidance by multinational companies. In October 2015, it published its final reports and a set of non-binding recommendations, providing an international framework for reform of the international tax system.
Changes to domestic tax legislation would be required to implement some of the OECD’s final recommendations, including those related to corporate tax reporting and the automatic exchange of information between tax authorities.
Improving tax transparency
One of the BEPS project’s objectives is to improve the tax transparency of multinational companies so that tax authorities, such as the Canada Revenue Agency (CRA), can determine whether these companies are paying the appropriate amount of corporate taxes.
In particular, tax authorities are concerned about whether multinational companies are using aggressive tax planning schemes – especially those related to transfer pricing – to avoid paying taxes (see Table 1).
Table 1: Selected Aggressive Tax Planning Strategies used by Multinational Companies
|Abusive transfer pricing||The intellectual property rights of a parent company are transferred to a subsidiary located in a low tax jurisdiction. A subsidiary of the parent company located in a high tax jurisdiction pays the subsidiary located in the low tax jurisdiction an overvalued amount to use the rights.|
|Exploiting mismatch arrangements||A financing instrument, such as a loan agreement, is signed between subsidiaries of a parent company. The instrument is treated as debt in country A and as equity in country B. The subsidiary in country A can deduct the interest on the debt that is paid to the subsidiary in country B. The subsidiary in country B does not include interest payments as income because these payments are considered dividends.|
|Treaty shopping||A parent company sets up a subsidiary in country A solely to take advantage of the provisions in that country’s tax treaty with country B.|
|Locating asset sales in lower tax jurisdictions||A parent company is located in a country other than country A. Assets are purchased and then sold by a subsidiary that has been set up in country A. Country A does not impose capital gains taxes on the sale of capital assets.|
Source: International Policy Fund Fiscal Affairs Department, Spillovers in International Corporate Taxation, International Monetary Fund Policy Paper, 9 May 2014.
Expanding reporting by multinational corporations
Currently, multinational companies based in Canada are required to provide some information to the CRA about their foreign subsidiaries. This information includes total assets, income and tax paid in other jurisdictions.
One OECD recommendation would require multinational companies to report detailed financial information about their foreign subsidiaries to the tax authority in the jurisdiction in which the parent company resides.
This practice is known as country-by-country reporting. The OECD has recommended that these reports should be filed with tax authorities for fiscal years beginning on or after 1 January 2016.
In particular, the recommendation would require certain parent companies to report the following information regarding each foreign subsidiary:
- jurisdiction of residence;
- amount of revenue;
- amount of profits or losses before income tax;
- amount of income tax paid;
- amount of income tax accrued;
- amount of stated capital and accumulated earnings;
- number of full-time equivalent employees;
- amount of tangible assets other than cash and cash equivalents; and
- main business activities.
This reporting requirement would apply to multinational companies with annual consolidated group revenue that is at least the equivalent of €750 million – or about C$1.1 billion – in a fiscal year.
With this threshold, multinational companies that control about 90% of global corporate revenues would file country-by-country reports. About 85% of multinational companies would be exempt from the reporting requirement.
Exchanging financial account information automatically
At present, the CRA shares selected tax information with tax authorities in other jurisdictions under exchange of information provisions found in tax treaties, tax information exchange agreements (TIEAs) or the Convention on Mutual Administrative Assistance on Tax Matters.
If the OECD’s recommended reporting requirements are enacted, tax authorities in various jurisdictions could exchange country-by-country reports through these same provisions. Countries would have to sign multilateral competent authority agreements to clarify how the information in these reports would be exchanged and protected by tax authorities.
In November 2013, Canada ratified the Convention on Mutual Administrative Assistance on Tax Matters; to date it has been signed by more than 92 jurisdictions, although ratification is pending in some of them. The Convention was recently used to implement the common reporting standard, a global standard for the automatic annual exchange of financial account information between countries.
Published by the OECD in 2014, the common reporting standard is based on an intergovernmental agreement developed by France, Germany, Italy, Spain, the United Kingdom and the United States to implement the United States’ Foreign Account Tax Compliance Act, or FATCA.
Most countries already exchange tax information. That said, the common reporting standard sets out the minimum requirements for automatic exchange of financial account information collected by financial institutions and reported to tax authorities. More than 90 jurisdictions have committed to implement the common reporting standard by 2018.
Canada’s 2015 federal budget noted that the federal government would implement the common reporting standard by 1 July 2017; the first exchange of information would occur in 2018. Canadian financial institutions would be required to have procedures in place to identify accounts held by non-residents, and to report information regarding those accounts to the CRA.
In June 2015, Canada’s Minister of National Revenue took the first step in adopting the common reporting standard by signing the standard’s multilateral competent authority agreement. It specifies how information will be exchanged.
Other countries – including the United Kingdom, Australia and the United States – have either implemented, or announced plans to implement, country-by-country reporting and the exchange of information for fiscal years beginning after January 2016.
Organisation for Economic Co-operation and Development (OECD), OECD/G20 Base Erosion and Profit Shifting Project – Executive Summaries 2015 Final Reports, October 2015.
United States Congressional Research Service, Corporate Tax Base Erosion and Profit Shifting (BEPS): An Examination of the Data, 30 April 2015.
United Kingdom, House of Commons Committee of Public Accounts, HM Revenue & Customs: Annual Report and Accounts 2011–12, 3 December 2012.
Author: Adriane Yong, Library of Parliament