Press Releases 2016

WTS study advises increased caution with regard to foreign permanent establishments

Tax risk particularly high outside of the OECD area

Munich, 12/05/2016 – Permanent establishments are increasingly becoming a significant tax risk factor for international companies. This was a conclusion of a recent study* by consulting group WTS, carried out in a total of 62 countries. The main risk drivers are the OECD Action Plan on Base Erosion and Profit Shifting (BEPS) and the resulting scrutiny of permanent establishment-related topics by tax authorities.

According to the WTS study, in almost all countries, the permanent establishment concept is a key legal basis for taxing foreign companies that start doing business in a given territory. EU and OECD countries in particular align themselves with the OECD Model Tax Convention, designed to avoid double taxation. However, significant differences exist in relation to non-OECD members, including the BRIC countries. Only very few countries do not recognize the permanent establishment concept.

“International companies of all sizes should always take local regulations regarding the tax treatment of permanent establishments into consideration in the selection of their business model and organizational structure – particularly when non-OECD members and BRIC countries are involved. In these countries, there is a very real exposure of unknowingly breaking local law and, on top of that, being encumbered with a massive tax bill due to possible double taxation”, explains Torsten Hopp, a partner at WTS Germany and editor of the WTS study.

BEPS increases compliance requirements

In 80 percent of countries, a permanent establishment must be registered with the tax authorities. Those failing to do so can generally expect sanctions.

Despite OECD guidelines, requirements for creating permanent establishments can vary greatly. Even today – before the upcoming reforms resulting from the OECD’s BEPS project – in 60 percent of countries, permanent establishments can arise due to regular business trips, or, in 80 percent of countries, due to home office activities.

A high level of risk can lurk in sales structures. Many companies enter a foreign market using their own employees and subsidiaries, which hold a power of attorney for the local sale of products. In 80 percent of the countries studied, this is enough to be considered an “agency” permanent establishment. Agency permanent establishments are therefore central to this discussion, as in the past, many companies have chosen structures to avoid such a status. As part of the OECD’s BEPS project, artificial avoidance structures are to be eliminated.

With its BEPS Action Plan, the OECD wishes to further reduce the permanent establishment threshold. “It is to be expected that these countries will pay increased attention to permanent establishments to generate additional tax income. Companies must therefore engage with this topic further to anticipate the increased risk of unintentionally creating a permanent establishment and the associated legal requirements (compliance)”, says Mr. Hopp.

Increased double-taxation risk

In 70 percent of the countries studied, to determine profits used as the basis for taxation, the OECD AOA (Authorized OECD Approach) is used, also known as the separate entity approach where the permanent establishment is regarded to form a separate independent entity when determining its profit. This AOA offers a certain degree of unification in terms of the rules for determining profits. If the AOA does not apply, the double-taxation risk is significant, particularly in non-OECD countries.

“For this reason, when a new permanent establishment is created, the remuneration method and administration of the permanent establishment must be set up correctly and wisely as from the beginning”, comments Jan Boekel, Transfer Pricing Partner at WTS in the Netherlands and editor of the WTS study.

To download the study, please click here: >> WTS Global PE Study (Download)

About WTS

WTS is a dynamically growing international consulting group. With a comprehensive service portfolio in its business units tax, legal and consulting, more than 650 employees in eight offices in Germany and an extensive global network in about 100 countries WTS is one of the leading companies in the German consulting sector.

WTS supports companies of all sizes in Germany and abroad as well as institutions of all different types of legal forms. Its clients include multinational groups, national and international medium-sized companies, non-profit organizations and private clients. In order to avoid any conflict of interest, WTS deliberately refrains from conducting annual audits.

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