Senior tax officials from OECD member countries met in Canada this month to discuss the most effective methods of combating double non-taxation arising from hybrid mismatch arrangements, and there was broad consensus that the use of so-called linking rules is the most realistic approach.
In its Hybrid Mismatch Arrangements report, endorsed by all 34 member countries, the OECD advocates the introduction – or revision of existing – targeted rules denying tax benefits in certain cases of hybrid mismatch arrangements as one of the most important tools to address unintended non-taxation.
Achim Pross, of the OECD’s Centre for Tax Policy and Administration, said linking rules, which have already been adopted in a number of countries such as Denmark and the UK, link the tax treatment of an instrument, entity or transfer with the tax treatment in the other country, therefore avoiding at source the possibility for mismatches.
“This would, for example, imply that a dividend is not exempt if the payment is deductible at the level of the payer,” said Pross.
However, Klaus von Brocke, head of Ernst & Young’s EU tax network, said there are two issues with countries adopting this approach.
“Firstly, it allows a unilateral treaty override and inevitably leads to court disputes as to whether correspondence [linking] rules should be allowed to override the double tax treaties in this way and secondly, it does not promote the harmonisation of countries’ tax systems,” said von Brocke.
“Rather than harmonising the tax base in some areas, such as France and Germany are looking to do, the linking approach being promoted by the OECD actually encourages countries to continue on a unilateral basis,” he added.
The OECD’s report recognises that harmonisation of domestic tax laws would eliminate the possibility for companies to exploit mismatches between tax regimes but also says that such an approach is almost impossible in practice.
Von Brocke points to the Commission’s proposed common consolidated corporate tax base (CCCTB) and the France-Germany green book on tax harmonisation as two steps towards a longer-term solution, though accepts there would be significant issues to overcome.
“CCCTB would be a good way to combat double non-taxation but even if you have a harmonised double tax base, member states will have the right to apply an adopted CCCTB in their own language,” said von Brocke.
“This means there will be a period of transition which is likely to bring new loopholes and new mismatches based on differing interpretations of provisions which would take time to overcome, but there must be a starting point somewhere,” he added.
Nine countries have rejected the Commission’s proposals for CCCTB, though with strong support from France and Germany, enhanced cooperation could be used to implement it.
Pross said he does not expect to see countries harmonising their tax rules anytime soon, but what is being seen on a global level is an emerging consensus that double non-taxation and hybrid mismatching is a policy issue which needs international cooperation to solve.
“We are seeing an increasing number of matching or linking rules, which is short of harmonisation, but is more realistic and more targeted, and I think we will continue to see more of this,” said Pross.
“We are also seeing an increasing number of disclosure initiatives that help countries work out what taxpayers are doing in a more timely fashion,” he added.
Philip Kermode, director of Direct Taxation, Tax Coordination and Economic Analysis and Evaluation at the European Commission, said taxpayers can expect to see a policy response on double non-taxation by the end of 2012, following the Commission’s consultation.
And although the Commission remains convinced that adopting CCCTB would be the most comprehensive way for EU member states to tackle double non-taxation, it will be looking at alternative solutions.
“Aside from looking at CCCTB to tackle non-taxation, one possibility for the Commission following its consultation would be to see whether it can identify commonalities between mismatches which are being exploited by companies,” said von Brocke.
“The Commission could then write an EU Directive comprising specific anti-avoidance rules, similar to correspondence or linking rules, but applying across the EU, so that all member states could rely on these to challenge taxpayers using such schemes,” he added.
