There were a number of reasons practitioners might have approached 1 January 2021 with some trepidation. For intermediaries in most EU Member States, one was EU Council Directive 2018/822 (DAC6). Now that the clock has chimed for some of the various reporting deadlines, some elements of DAC6 deserve attention in the context of international business structures.
Policy objectives and interpretation difficulties
The principal objective of DAC6 is to provide tax authorities with early warning of arrangements that may involve aggressive tax planning.
Being an EU initiative, the intention is to have a uniform set of rules that apply across the EU, such that reporting is only needed in one Member State. Unfortunately, this objective will be difficult to achieve for a number of reasons, not least the different interpretations placed on the DAC6 rules by different intermediaries.
The fact that this is the case should not be surprising. The European Council, which is responsible for crafting directives, is not a legislative body in the normal sense of the term, nor is a directive designed to be legislation, but rather, in effect, an intergovernmental agreement between Member States. The upshot of this is that directives are not drafted in the precise way and with the rigour that is generally applied by Member States when preparing domestic legislation or regulations. However, Member States frequently enact local DAC6 legislation by simply replicating the terms of the directive.
The outcome is a set of unclear rules in a context where infringement of the rules may result in significant financial penalties. Therefore, there is a desperate need for official local guidance, the call for which has to some extent been answered. It is unfortunate that, in some cases (for example, Luxembourg), guidance has been prepared by professional associations and is available only to their members.
Particular challenges for intermediaries
The world of intermediaries is divided between those that are considered to be on the frontline when it comes to devising aggressive tax-planning techniques and those that provide a supporting role. If one accepts that intermediaries are the right people to be targeted, then frontline advisors should logically be included.
Less logically included is the other category of intermediaries that provide “aid, assistance or advice”. As the frontline intermediaries are frequently excused from reporting due to the application of the professional legal privilege exemption, it is beginning to emerge that the supporting intermediaries are bearing the bulk of the DAC6 compliance burden.
DAC6 recognises that supporting intermediaries should only be treated as such where they have or should have knowledge of the arrangement in question. However, it is questionable whether merely having knowledge should be the basis for placing such a significant and costly compliance obligation on businesses that have minimal involvement in the planning of taxpayers affairs.1
Frequently relevant hallmarks
In the world of international business structuring, the hallmarks discussed below are emerging as the ones most likely to come up for consideration. Before going on to examine these particular hallmarks, one aspect deserving of attention is the main benefit test (MBT), being an additional requirement to be satisfied in relation to certain hallmarks.
The application of the MBT is fraught with uncertainty. However, there is increasing guidance to the effect that, if a tax benefit is in line with existing legislation, it will not be treated as being “one of the main benefits” of the arrangement.
A3: standardised documentation
Hallmark A3 of DAC6 causes considerable concern in a world where increasing use is made of standardised documentation, whether in the context of bank or insurance products or legal documentation templates.
If this hallmark is satisfied, the arrangement will also be a “marketable arrangement” and involve quarterly reporting. Such arrangements should be limited to those products that are frequently used by different taxpayers with little modification.
Notwithstanding that documentation has a seemingly standardised form, frequently it will be materially adapted to fit the transaction in question. This will often be the case in relation to documents that are generated by a practitioner from a standard template.
If the above points do not serve to take a particular arrangement out of range of this hallmark, the need to also satisfy the MBT may achieve that result.
B2: conversion of income
Hallmark B2 targets arrangements that change the nature of the payment received such that it causes the payee to pay less tax than they did before.
An example is an arrangement whereby a shareholder receives the return on a share by redeeming that share rather than through a dividend on the share. Capitalisation of interest-bearing loans into shares might also be caught. However, even these fairly straightforward cases (there are many other traps for the unwary) may often not be reportable, including by not satisfying the MBT.
C1: Deductible payments between associated enterprises
Deductible payments (for example, interest, royalties and fees) made to entities resident in blacklisted countries or entities with no residence for tax purposes are reportable without the need to apply the MBT. Tax-transparent entities should not be covered by this, and nor should corporate recipients that are resident in countries that have no corporate tax.
Other deductible payments to certain tax-favoured associated enterprises will be caught only if the MBT is satisfied. Where such payments are limited to what is allowed by the relevant tax rules of the payer, they may well not satisfy that test.
D1: CRS avoidance arrangements
Hallmark D1 is broadly drafted and potentially catches a very large number of transactions that “may have the effect of undermining the reporting obligations” under the Common Reporting Standard (CRS). Fortunately, there is a very clear statement to the effect that Member States can choose to interpret D1 in line with guidance published by the OECD in relation to its Model Mandatory Disclosure Rules for CRS Avoidance Arrangements and Opaque Offshore Structures. This is helpful and should result in excluding arrangements that are consistent with the policy objectives of the CRS.
E3: Transfer pricing and group reorganisations
Hallmark E3 presents difficulties. Although it is clearly intended to address transfer-pricing concerns, it is drafted such as to potentially cover a large number of typical corporate restructuring transactions including migrations, mergers, de-mergers, transfers of subsidiaries and liquidations. A particular difficulty arises as the MBT does not apply to this hallmark.
There is some guidance emerging to the effect that these kinds of transactions should not be caught, supported by the fact that the OECD transfer-pricing guidelines simply do not address these as being of concern in the context of business reorganisations.
Reporting: Practical challenges
The principal reporting obligation is on intermediaries. A large number of intermediaries could be involved in any particular arrangement and in a number of different jurisdictions. It is likely that different intermediaries will have differing views on whether a particular arrangement is reportable or not.
There is a mechanism for allowing intermediaries not to report where an arrangement is reported in any Member State. However, going forward, reports need to be filed within 30 days of the relevant trigger date. The risk is that intermediaries will simply file their reports so as to ensure compliance, thus leading to a multiplicity of different reports.
It is in the interests of taxpayers that there is a uniform approach to reporting and that the number of reports is kept to a minimum. Taxpayers would be advised to take a proactive role (together with their principal advisors) to ensure that the reporting process is tightly coordinated and that there is an agreed process for any reporting before the 30-day period starts to run.
This article was originally published in Issue 2 of the STEP Journal 2021.
1 For a consideration of how the UK will handle the mandatory disclosure of cross-border tax planning schemes, given its exit from the EU, turn to page 18.