FINANCIAL REPORTING AND IR

In the tax arena, the issue of corporations paying their ‘fair share’ is getting significant scrutiny by governments, the general public and the media. This shift represents a fundamental global change in attitude and approach to tax. Many countries’ tax regimes have fallen behind current business models and practices, contributing to real and perceived inequities. These issues have also been the focus of recent reports by the Organization for Economic Co-operation and Development (OECD), including its Action Plan for dealing with Base Erosion and Profit Shifting (BEPS).

The public is increasingly looking to businesses to ‘do the right thing’. As a result, tax disclosure by public companies, as well as transparency between taxpayers and tax authorities, will become increasingly important. Several related tax issues are currently being discussed at world-leader summits, including the G8 and G20 meetings. These issues include the items identified below.

Tax transparency

Tax authorities and public companies are increasingly expected to disclose amounts of tax paid and where those taxes are being paid. As countries around the world begin to enact stricter reporting requirements, the Canadian government has also committed to establishing mandatory reporting standards for Canadian extractive companies to highlight tax paid to domestic and foreign governments.

Transfer pricing

Transfer pricing’s historical focus on each separate legal entity and the notion of the arm's-length price has recently become a broader question of the appropriateness of the level of profit allocated to a company's operations in different countries. As a result, the OECD believes that these rules will likely shift from emphasizing legal structures and contractual conditions to the ‘reallocation of risk’, or will involve simplified ‘safe harbour rules’.

Permanent establishment

Permanent establishment tax rules allocate tax rights between the country where the wealth originated or was sourced and the country where it was spent. However, there has been a call to redefine exceptions for the provision of services and goods over the Internet, even though it may be difficult to gain international consensus on this issue.

Hybrids

In March 2012, the OECD released Hybrid Mismatch Arrangements, a report highlighting arrangements that give rise to double deductions for the same contractual obligation, or deductions in one country that are excluded from income in another. The report's main recommendation is for countries to adopt specific rules that link the tax treatment in one jurisdiction to the tax treatment of the same transaction in another jurisdiction.

Treaty shopping

Canada has started to look at possible solutions to ‘treaty shopping’, in which a non-resident seeks to obtain the benefits of one of Canada’s treaties by indirectly using an entity resident in another country with which Canada does have a treaty. The Department of Finance released a consultation paper on August 12, 2013 to explore approaches to prevent treaty shopping.

Stateless income

Stateless income concerns corporate tax structures residing ‘between’ a head company and the countries of source or the factors of production (e.g. land, labour, capital). Some commentators believe that this income can be taxed by allocating a multinational’s group profit to various jurisdictions, based on sales or other internationally agreed on criteria.

OECD Action Plan

In July 2013, the OECD presented its Action Plan for dealing with base erosion and profit shifting. This plan, which is supported by Canada and the other G20 countries, is intended to deal with perceived tax avoidance structures and will likely lead to fundamental changes in the way tax authorities view tax structuring and transfer pricing.

The OECD Action Plan includes: recommendations for coordination of domestic rules; greater transparency through the disclosure of tax planning arrangements by multinational enterprises; and updates for the OECD model income tax treaty and OECD transfer pricing guidelines.

Corporate action steps

As you keep abreast of developments in Canada and around the world, consider taking the steps outlined below to prepare for changes.

Plan for public discussion
Establish a plan to ensure senior management is aware of the potential risks of public discussion of a company's tax affairs, especially by ill-informed participants.

Develop a tax narrative
Be prepared to communicate the narrative underlying your tax numbers. Make sure the story is balanced, supportable, and deals with a proper time horizon.

Think reputational risk
Ensure decisions account for potential reputational risks and not simply whether your organization has complied with tax law in various jurisdictions.

Prepare for discussions with revenue authorities
Put in place processes to collect appropriate evidence to support discussions with revenue administrators. Early preparation can avoid expensive long-term conflict and litigation.

For more details on the tax morality debate and how best to respond, see KPMG’s Tax Morality and Tax Transparency: An Overview or contact Elio Luongo, KPMG Canadian Managing Partner, Tax.