A New Approach to International Tax Law
DIEGO ALEJANDRO LÓPEZ RAMÍREZ1
CARLO HEBERT GÓMEZ CARRANZA2
SUMMARY: I. Introduction. II. Transfer Pricing and the Arm’s Lenght Principle. III. Corporate Social Responsibility. IV. Final considerations.
Abstract. Nowadays, due to phenomenon of globalization the great interaction of the economies has opened opportunities for multinational corporations to search for the minimization of their tax burden, using measures that tend to distort the true legal reality. In this context, this situation has become an international issue that affects everyone involved, meaning governments manage less tax incomes and incur in higher administrative costs; individual taxpayers are harmed by an increased tax burden; even the reputation of this corporations is on risk. As a result, it has been necessary to develop measures that tend to harmonize the tax international planning schemes.
Keywords: Globalization, tax planning, multinational enterprises, tax law.
Resumen. En la actualidad, gracias a la globalización, la interacción de las economías ha dado pie a que empresas multinacionales busquen estrategias para tener una carga fiscal menor, usando métodos que tienden a distorsionar la realidad legal. En ese sentido, esta situación se ha convertido en un problema internacional que afecta a todos los involucrados, es decir, los gobiernos manejan menos ingresos tributarios y lidian con costos administrativos altos; los contribuyentes como personas físicas se ven perjudicados con una mayor carga impositiva; inclusive la reputación de las empresas multinacionales está en juego. Por lo tanto, ha sido necesario implementar medidas que tiendan a armonizar las estrategias de planificación fiscal en el ámbito internacional.
Palabras clave: Globalización, planeación fiscal, empresas multinacionales, Derecho fiscal.
I ] Introduction
Globalization is a phenomenon that has penetrated almost all aspects of societies around the world, in an economic, political, religious, commercial and technological level, among others. Accordingly, taxation has a very peculiar treatment in contemporary international interaction; the obligation to contribute has surpassed the national government - governed legal tax relationship. Viewing the changes that arose with the twentieth century in regards with international commerce, such as the creation of international markets and the creation of multinational entities and operations, States around the globe had the necessity to come together to cooperate and try to regulate the burden of taxation in a uniform manner within an international context in order to avoid double taxation, which had very negative effects on global economy.
In a globalized society these commercial economic entities have evolved from having a national or local presence to having presence in several jurisdiction simultaneously, due to the opening of national markets. This circumstance has created a dilemma with international tax law issues, primarily in relation with the exercise of State sovereignty that foresees the obligation to contribute to public expenditure within their jurisdiction. The international community has elaborated an international tax system by establishing bilateral international tax treaties on the subject to determine the applicable jurisdiction to establish the tax burden accordingly and avoid international double taxation. The Organization for Economic Cooperation and Development (OECD) developed a Model Tax Convention on Income and on Capital composed of 31 articles that serves as an international legal instrument to promote uniformity to common problems3 in Tax Bilateral Treaties.
Unfortunately there is a long way to go on the basis of international cooperation, especially collaboration relating to the transfer of information and communications between the different tax administrations around the globe. It must be noted that the objective of a healthy international tax system is to avoid international double taxation, as well as international double non-taxation, without falling into disproportionate measures, which make collaboration efforts futile. In conclusion, the purpose of this article is to analyze the possible solutions that the OECD has developed as the Action Plan on Base Erosion and Profit Shifting (BEPS).
The BEPS project was elaborated not to retake issues that have already been addressed, but in order to enhance the existing mechanisms in international tax law and therefore comply with objectives of combating double international taxation, as well as, international double non-taxation4. This work will focus mostly on Transfer Pricing and the application of the Arm's Length Principle as a viable solution but, in order to give the reader a more ample view, we will describe some key points and their effects as concise as possible in the next section.
The G20 financial ministers summoned the OECD in order to address BEPS issues and develop an action plan that would make it possible to regulate these matters in a coordinated and comprehensive manner.5 The relevant problematic addressed by the BEPS project tackles the issue of base erosion, caused by excessive payments to foreign affiliated companies in virtue of services rendered, payable interest, management, administration and intellectual property fees, as well as profit shifting through a supply chain to allocate risk and associated profit, to companies tied with other companies resident in low or preferential tax regimes (tax havens).6 The international community had not been able to adequately regulate these problems through the use of bilateral tax treaties, as multinational corporations have taken advantage of their drafting in order to distort the true legal tax reality into a greatly minimized taxation or a non-double taxation.
These practices applied by multinationals to greatly minimize their tax base has not only reduced governments tax revenue but has created competition between different governments to attract investment and tax contributors to their own jurisdiction using low tax burdens or by establishing preferential tax regimes, (i.e. intellectual property rights, technology, energy, dividends, etc.7) causing harmful tax competition between states. The G20 entrusted the OECD to confront the challenges that a digital economy represents and identified six key points8: i.- Hybrid Mismatches and Tax Arbitrage, ii.- Intragroup Financial Transactions, iii.- Digital Goods and Services, iv.- Transfer Pricing, v.- Preferential Regimes, and vi.- Anti-avoidance Measures.
These multinationals enterprises are not composed of a single legal entity but of multiple entities that are linked by an enterprise and/or a controlling administration. The corporate structure can enable multinationals such as Starbucks, Amazon, Google, GE and other, non-U.S. based companies to pay little or no effective taxes worldwide. 9
In this regard, a multinational corporate structure visualized through an economic manner may be considered as a reality that reflects a single economic unit or enterprise. However, legally speaking, each entity may be considered as autonomous and can be used to distort the economic reality in regards to the fiscal status of other entities that conform said multinational structure, thus reducing or eliminating the tax base. 10 The subject matter of the fact is, money is a fungible and very mobile asset and may be used favorably by multinational companies in order to place higher levels of third party debt in high tax jurisdictions, use intra group loans to generate excessive interest deductions and by using intra group or third party funding to exempt received income.11 For example, subsidiary A and B of a same corporate group that are established in Mexico as legal entities would have to pay a 30% tax rate on their profits made in a year, but would be able to deduct expenditures12 such as loans, interest payments and financial funding to erode the tax base, and deviate that income to lower tax jurisdictions.
Now let’s take a brief look at the six main issues that the BEPS Project is addressing, leaving out transfer pricing to be addressed shortly13:
i.- Hybrid Mismatches and Tax Arbitrage: this method involves the formation of deductible payments in one jurisdiction (country), which will be treated as non-taxable income in another tax jurisdiction. This scheme is structured in such a way that the same instrument is classified as debt in one country and thus allows deductible interest payments to an economic entity that may be part of the same company group in a jurisdiction where it would be exempted as participation dividends received tax-free.
ii.- Digital Goods and Services: profits made from the sale of digital goods and services are a lot harder to determine and regulate. Companies such as Amazon and other Internet sellers have a large profit base every year, but do not pay any income tax in some countries where said companies have digital presence like in the United Kingdom. This may be accomplished through the use of commission contracts where civil law jurisdictions classify the company’s sales agents as independent, which allows for significant sales activity but no legal taxable presence within the corresponding jurisdiction.
iii.- Intragroup Financial Transactions: with respect to internal transactions between companies or economic entities of the same multinational group, in the form of loans, interest paid, intellectual property fees, financial funding, among other, are used to allocate liability, debt and costs to high tax jurisdictions and enable a multinational company to receive the worldwide profit in low tax or preferential regime jurisdictions.
iv.- Anti-avoidance Measures: this point is not a tax avoidance method, but on the contrary, it deals with measures taken by individual tax administrations in order to ignore or restructure transactions that cannot be reasonably and economically justified, do to the fact that such transactions distort the economic reality for a taxable base. Some measure may be applied at national level and other may be applied by means of enhancing bilateral international tax treaties, trying to prevent treaty shopping and limit the ownership claim over certain tax benefits that such treaties may provide.
v.- Preferential Regimes: some countries put in place tax subsidies and other tax benefits in order to attract investment to their territory, which would entail harmful tax competition between the countries of the international community.14 There also countries that are considered tax heavens in virtue of establishing especial favorable regime for non-residents in the form of a low tax rate, no tax rate or a nominal tax rate.15
Public outcry has been growing, fueled by the mainstream in regards with large multinational corporations implementing harmful tax practices.16 It is important to understand that these practices go beyond the moral implications of aggressive tax planning; they have substantial economic and commercial negative effects. The consequences of this problematic may be felt at different levels. First, Governments are harmed when they have to manage with less tax revenue and deal with higher administrative costs to ensure compliance.17 This is especially burdensome to developing or poor countries that depend gravely on tax revenue. 18 Second, individual tax payers at a domestic level are economically harmed by an increased tax burden, as an indirect consequence of multinational's tax mal practice that shifts profit from jurisdictions where income producing activities are conducted and results in a governments diminished tax base. Lastly, multinational and domestic companies can also be harmed. Multinationals reputation is at risk when their effective tax rate is viewed as to low19 and the inequitable treatment that these multinationals may receive from Governments that take unilateral measures against them. This means that States may be willing to bend and modify their domestic law as far as they can in an arbitrary way in order to protect their collectable tax revenue20, even it means departing form the principles and regulations of the corresponding bilateral tax treaties. Local enterprises or family owned businesses operating within a domestic market may difficulty when competing with multinationals due to their ability to shift profits and revenue to other low tax jurisdictions, leaving these local enterprises in a serious disadvantage.
As we have mentioned before, the OECD has elaborate and is still upgrading the action plan BEPS to give a coherent and comprehensive solution to these problems. In our opinion the cooperation through an international organization with a specialized view on the subject would be the most reasonable way to approach the issue at hand, for reasons already pointed out, plus the process of creating a model law (soft law) or instruments concerning international tax law would be a lot more equitable and frictions between countries would be reduced. In addition, a model regulation provided by this international economic organization would be a valuable tool to help structure bilateral international tax treaties that would entail a more effective tool to avoid multinational aggressive tax planning and governmental competition for tax income.
Transfer pricing is done when an enterprise or organization transfers goods from one subsidiary or internal branch to another segment of the same organization. In this sense, it is the price it must pay to transfer said goods. As a consequence, tax planning strategies that use transfer pricing are centered on expensing the high cost of goods and services in countries with the highest tax and directing the low cost of goods and services to countries with the lowest tax to generate the highest overall after-tax profit for companies and their shareholders. The Arm’s Length Principle outlines that transfer prices are meant to be comparable to prices charged when one organization sells goods or services to another organization. The theory behind establishing an arm’s length value is to determine a fair price for the tangible property, services provided, financing, and intellectual property being sold.21
The reason that transfer pricing is such an interest and controversial topic in international taxation, is due to the fact that even if it is true that transfer pricing may be used to structure an aggressive tax scheme, in essence it is a way to compensate parts or members of the same corporate group, or allocate costs to those parts22 or members of a multinational that can best deal with them. Transfer prices and transfer pricing are neutral terms that not necessary imply an aggressive tax avoidance scheme, so in this line of thought transfer pricing mechanisms may have corporate, commercial and financial value aside from any tax effects.
As it is said on Chapter II of the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations (TPG), there are mainly five transfer pricing methods that can be applied.23 This five methods consist in three traditional transaction methods: i.- the comparable uncontrolled price method or CUP method; ii.- the resale price method or RPM, and iii.- the cost plus method or C+CP method; and the two transactional profit methods: iv.- the transactional net margin method or TNMM; and v) the transactional profit split method or TPSM:
i.- The CUP method compares the price charged for a good or service transferred in a controlled transaction to the price charged for a comparable property or service transferred in a comparable uncontrolled transaction in comparable circumstances;
ii.- The RPM method is used to determine the price to be paid by a reseller for a product purchased from an associated enterprise and resold to an independent enterprise. The purchase price is set so that the margin earned by resellers are sufficient to allow it to cover its selling and operating expenses and make an appropriate profit;
iii.- The C+CP method is used to determine the appropriate price to be charged by a supplier of property or services to a related purchaser. The price is determined by adding to costs the supplier incurred an appropriate gross margin so that the supplier will make an appropriate profit in the light of market conditions and functions it performed;
iv.- The TNMM seeks to compare the level of profits that would have resulted from controlled transactions with the return realized by the comparable independent enterprise; and
v.- The TPSM takes the combined profits earned by two related parties from one or a series of transactions, and then divides the profits. This method divides the profits using a defined basis that is aimed at replicating the division of profits that would have been anticipated in an agreement made at arm’s length.
These five methods are the international consensus on the manner of applying the arm’s length principle, in order to diminish the risk of double non-taxation regarding transfer pricing schemes. Countries are encouraged to include them in their laws in accordance with the TPG.24 Arm’s length pricing is therefore derived from both parties by working back from profit to price. By determining a fair arm’s length price that is acceptable both to the multinationals enterprises (MNE) and the countries involved in its application becomes very important when addressing the issues involved with transfer pricing.25
We can understand that transfer pricing is about recognizing and rewarding the efforts of connected parties in regards to: the sale of tangible property, services provided, financing, and the use of intellectual property. Relating this to the arm's length principle, we can say that its objective is to determine the most accurate way to identify what prices do unrelated companies pay for similar services, based on uncontrolled transactions.
Everything comes to this; both MNE and tax administrations, are trying to increase their income, therefore, increasing the income of a multinational corporation countries will get less income and vice versa. This is why the methods above were established, to get a fair deal.
It is important to address the issues that aggressive tax planning and tax base competition entail at an international context. It is understandable that countries would like to create solutions individually to protect their own interest, but experience has shown that it would not be a comprehensive solution and would most likely not permit an effective regulation of these problems. A good example of this point would be the measures taken by the Argentinian tax administration in a unilateral manner to deal with the price transferring issue in their country by establishing profit or income legal presumptions iure et de iure26, which considers such a presumption as an absolute legal truth that cannot be proven otherwise, in order to tax international commercial transactions and income produced locally. These unilateral measures are a good example of legal provisions that may distort the economic reality of international company transactions from the Argentinian Government's side. The reason these measures may establish or distort economic reality is because by imposing a pre-established presumed income with no opportunity to demonstrate otherwise can impose a real and reasonable tax burden or it could do the exact opposite, as these presumptions may not take into account the economic, financial, market strategy and other relevant circumstances of each independent case, as well as any actual costs involved; in other words, it´s much like a coin toss in the air.
Furthermore, the European Commission also took unilateral measures by elaborating recommendations in 201227 to suppress the negative effects that member States experienced by other member States taking unilateral steps to address the transfer pricing issue and other aggressive tax planning schemes that tax heavens and preferential regime jurisdictions encouraged inside the European Union. Recommendation 4.1, 4.2 and 4.3 stated that member States should elaborate and publish a series of black lists of third party States that did not respect the minimum standards of good government set out by recommendation number 3. The method proposed by the European Commission on this topic would be counterproductive in two senses; i.- this is a punitive and discriminatory measure against foreign enterprises28 that would result in political frictions, and ii.- this measure would segregate markets and international commercial relations, by discouraging dealings with commercial residents of black list countries.
The OECD is formulating a more sensitive approach that would result in a more comprehensive and systemized way to prevent the negative effects of transfer pricing, through the use of International Tax Principles. The arm's length principle is the most commonly used mechanism to contest the transfer pricing schemes. Article 9 of the Model Tax Convention on Income and on Capital establishes that when dealing with transactions between associated enterprises where conditions are made or imposed between enterprises in commercial or financial relation, which differ from those conditions made between independent enterprises, the difference will be considered as profit and will be able to be taxed accordingly.29 Now, transfer pricing is not an exact science so the circumstances and conditions on which a comparability analysis is made may differ, making it difficult to apply the same method in every case.
Moreover, the Arm's Length Principle is based on the comparison that can be made between the terms and conditions that are set within intra-group controlled transactions with similar terms and conditions or reasonably comparable conditions that would be agreed upon in similar circumstances with third independent parties.30 When applying the arm's length principle we can be presented with a variety of methods that can be equably reliable, and can be applied in individual cases taking in consideration the relevant conditions and circumstances applicable31 to each individual case. This being said we can conclude that comparability is the core of the arm's length principle. In order to better illustrate this we have elaborated the next illustration:
As we can observe from the illustration above, we have two sources of comparability. The first would be to compare a transaction made between two companies of the same economic group, which would be Company 1 and Company 2, with a same transaction celebrated between a company belonging to the same economic entity and a third party company, which would be represented by Company 1 and Company Y. This would be referred to as an internal comparability. On the other hand, comparability may arise from a transaction made between two companies belonging to the same economic group and a transaction celebrated between two third party companies, which would be illustrated by Company Z and Company Y. This type of analysis would be known as an external comparability method.
The OECD Transfer Pricing Guidelines, present us with certain mandatory elements to achieve the required standard of comparability, which apply to all types of intra-group transactions, from the sale of goods and the rendering of services, to business and company structuring and restructuring.32 The first element of comparability is that the transaction must take place between independent parties when applying the arm's length principle, with the only exception that the independent parties must not be competitors. In order for comparability to be applied it is also important to take into account that no liable economic circumstances affect the present economic conditions and defer the results. If such a differing circumstance exists, then the only thing that can be done, is make an adequate adjustment that can be considered to be reliable.33 An example of differing economic circumstances could be the difference in size and financial capability, or the relevant market of the companies where the transaction may be submitted to a comparability analysis.
Now that we have seen the standard comparability requirements that must be met, it would be important to address the different methods used to analyze intra-group transactions. In this regard, the OECD Guidelines identifies five comparability factors:
i.- We must first identify the characteristics of the property or services rendered, so that consideration may be given in regard to how reliable the comparability analysis may result.34 For instance, we must question how reliable it would be to apply this standard of comparability between transactions of merchandise consisting in gold made rings and silver made rings;
ii.- Second, there must be a comparable circumstance relating to the function35, for example taking into consideration the different operational nature of risk investments to non-risk investments;
iii.- Furthermore, we must analyze the contractual terms of the transaction or commercial legal relation with every individual case.36 It is generally understood that a contract with an exclusivity provision cannot be treated the same way as a contract without such provision. The analysis of this factor must determine if there is room for comparability within the contractual terms employing the reasonable approach to determine how far the contractual basis allows a convenient comparison that can shed light upon the economic tax reality. For example, analyzing what contractual terms would stand the same in both an exclusive contract and a non-exclusive contract that would be agreed upon in the same way and in the same circumstances by third parties and those contractual terms that would differ, would take us a long way to establish comparability;
iv.- In addition, as we have stated above there must be an analysis made of the economic circumstances surrounding the contracting parties.37 We have already established that differing circumstances could be such as the economic size and financial capacity of two different enterprises, but another important example of differing economic circumstance can fall into the category of a an economic regulatory context, such as special legal regulation concerning an specific trade or market, like the oil energy industry, due to the fact that the corresponding regulation or changes in such regulation will impact significantly the value chain of the operation; and
v.- Lastly, it must be identified if the contractual relation or a given transaction entails and specific business strategy.38 It is important to take into account that the prices established between companies belonging to the same economic entity that differ from similar transactions agreed with or between third party entities does not necessary constitute a transfer pricing scheme. As a matter of fact the multinational in question may be implementing a business strategy such as, trying to penetrate a certain market or expand their operation within a certain jurisdiction thus, justifying the difference in price between similar operations.
Now, it is important to take into consideration that these five factors will not always be applied in a strict fashion. Each of these factors will have an influence for comparability depending on the nature of the transaction as well as the transfer pricing method being used. This being said, the comparability factors will have to be applied taking in considerations the circumstances of every individual case to achieve the accuracy desired in order to reveal the economic reality of international intra group transaction or of a certain business operation.
Having addressed the structure and elements that constitute the arm's length principle, there is a question that comes to mind; why is this particular international tax principle the best method to address aggressive tax planning that use transfer pricing schemes? Well, as we have pointed out throughout this paper, transfer pricing is not an exact science and by consequence neither is the arm's length principle as a solution. This circumstance has led to a heated debate that has led countries to take individual measures to avoid their tax base from being eroded. It is important to acknowledge that no solution so far, domestic or international, has provided a one hundred percent efficiency result to deal with transfer pricing schemes but the arm's length principle is a sound and well-studied theory that provides a legal instrument based on international consensus39 that shall allow for further improvement on the theory and practice of this principle.
The application of the arm’s length principle has a double benefit. In regards with State advantages, their tax administrations will be able to monitor the actual economic reality of the global contributors (multinational company groups) more accurately and will give the basis to further build more cooperative relations with other contracting States in connection with the exchange of information. In addition, independent parties or local business will also be benefited from the correct application of the arm’s length principle, as they will be placed on a more equal footing regarding tax matters by avoiding the discrepant tax situations arising from unfair legal tax advantages or disadvantages that will distort the economic competitive margin.40
Justifying the value behind transfer pricing schemes implemented by multinational corporations through the use of the arm´s length principle is usually achieved by elaborating transfer pricing analysis or studies using the five mechanisms described above. One of the main obstacles the arm´s length principle will in its application is the source of the comparability itself. When taking into consideration an external comparison to determine that the transactions between entities of the same corporate group are at market price, the external comparison must be justified and not just assume that similar product or service is enough.
Most member countries of the G20 are including and assimilating the arm's length principle to their domestic legislation, but there are some who are reluctant to consider as a viable solution the application of this international instrument. Those G20 countries, that are willing to embrace this international tax convention by including it to their national normative framework, must do a delicate and subtle work in its integration, in order to adhere to the true nature and purpose of the OECD's Action Plan for Base Erosion and Profit Shifting. However, if there is no real intention by the contracting States to faithfully apply the arm's length principle in a cooperative manner that is guided by good faith towards both the global contributor (multinationals) and other contracting States, then all the work applied by the OECD and the international community will have been in vain at a political, economic, legal and academic level.
If we were to move away from the arm's length principle there would still be the need for an instrument or method that would allow the different tax jurisdictions to be able to allocate tax revenue in a just and adequate way. A method that has been proposed instead of the application of the arm's length principle is the Global Formulary Apportionment (GFA). Contrary to the arm's length principle, which intends to shed light on the economic reality of the individual company controlled transactions belonging to multinational groups for the purpose of determining the accurate tax imposition and the corresponding beneficiary jurisdiction, the GFA is aimed to consider all the individual companies that form one single economic unit as a consolidated enterprise, and thus consider their global income in the same manner. This means that the GFA would allocate the global profits of a multinational company from a consolidated tax basis among the associated parties (companies belonging to the same multinational) in the different countries where they are operating or receiving income41.
The GFA as an alternative solution to the arm's length principle and therefore has its own benefits. Scholars and advocates have provided that the use of this tax allocation method will be able to re-distribute the wealth between the States involved, redistributing wealth in a more equitable manner, as well as, providing tax administration to impose the corresponding tax burden in a lot more convenient manner. Correspondingly, from the contributor’s side of the fence, they will be provided with more legal certainty of what to expect from their legal tax obligations.42 Although this may be true, this tax allocation method has flaws, that we would consider graver than those attributed to the arm's length principle. For instance, it seems the GFA structure leaves an ample margin for multinationals to restructure transfer pricing schemes in virtue of a lack of comparability method that would determine the real economic value of the agreed intra-transactions or a multinational company structure. This is due to the fact that the companies belonging to a multinational enterprise would not require to be considered as an independent party of said global corporation to be able to distort the taxable base.
Furthermore, the OECD has not provided a uniform objective criteria for the determination of a set of elements or circumstances that would entail the concept of a Permanente Establishment in regards with a company partaking in the international electronic commerce. In essence, the absence of such uniform criteria would again cultivate the tendency for unilateral actions from tax administrations from around the globe to regulate and set forth under their own legal background and understanding the elements and circumstances they would consider to be appropriate in order to establish the allocation of tax revenue coming from companies that benefit form e-commerce but do not have any physical presence in most jurisdictions43, rendering the GFA obsolete. So this would naturally create problems relating to the proper allocation of tax revenue in different jurisdictions and the corresponding tax burden of the contributor, not to mention the excessive burdensome administrative work that would need to be carried out so that the GFA method could constitute a viable solution to transfer pricing schemes44.
In conclusion of what we have studied so far in the application of the GFA and the arm's length principle, we consider that the use of said international principles would be a more reasonable way to address the transfer pricing issues. Governments taking unilateral measures to protect their individual economic interests without consideration to the many factors that compose a globalized economy may result in adverse harmful economic effects to other tax jurisdictions, especially in developing countries. In the same fashion, tax administrations taking these unilateral measures will also have a severe effect on commercial entities engaged in international commerce and as a consequence we will witness a gradual slowing down of international commerce which is so important for global economy. Society has been globalized and as such reality dictates, that Governments act in a supportive and cooperative manner to ensure the fluidity of international commerce and healthy economic competition between private parties, as well as, providing equal opportunity for developing countries to collect tax revenue justly and maintain foreign investment.
3. Other Obstacles for BEPS
The BEPS project was intended to be soft law and not an obligatory legal body. Therefore in order for the BEPS dispositions to be binding, they would have to be reflected in the modification of local legal tax law, as well as, bilateral tax treaties. 45 This in itself would represent a difficult task, for the dispositions of the BEPS project would have to be harmonized to local tax law taking into consideration the different legal backgrounds, for example the differences form a civil law and common law jurisdictions.
In order to address this issue we would take México as an example. One of the main objectives behind the OECD elaborating international instruments to regulate international taxation is enhancing the relationship between tax administrations and taxpayers46, in order establish and maintain trust between the parties in order for them to gain a mutual understanding of each other´s needs and goals. The reforms that have been implemented to Mexico’s local tax law have given discretionary powers to the local tax administration in regards with the verification of taxpayer’s compliance that would seem overreaching and unconstitutional. One of these discretionary powers is the determination of simulated acts by taxpayers for tax purposes, which only needs to be grounded by mere presumptions and not hard factual evidence. 47 This would open the door for the Mexican tax administration to determine unbiased simulations and persecute taxpayers for supposed tax felonies, as an aggressive way to collect more taxes.
In addition to the above, the mechanisms tending to oblige taxpayers to disclose tax planning schemes to tax authorities would also constitute an obstacle to achieve an enhanced relationship between the Mexican tax administration and its tax payers, for they would be confessing to a felony under local penal tax law, which not even in the United States would be considered Constitutional under their 5th amendment that prohibits self incrimination.
In conclusion, in order to implement the dispositions of the BEPS project it would be necessary to harmonize them to each individual local law, having special consideration for the spirit of the dispositions or actions and implementing mechanisms that would be considered Constitutional in order to avoid unnecessary costs, efforts and time in State Courts when trying to apply the BEPS actions, which would also bring us closer to achieve an enhanced relationship between tax administrations and taxpayers.
Before addressing the relation between the Corporate Social Responsibility (CSR) and taxes it would be best to give an approximation of the concept itself to best understand the issue it represents.
Although it is still a debate of what constitutes said concept, Donna J. Wood gives us an approximation taking in consideration different aspects concerning the CSP: i.- motivating principles, ii.- behavioral processes, and iii.- observable outcomes of corporate and managerial actions relating to the firm’s relationships with its external environment. 48 With these aspects she gives us the next definition: A business organization’s configuration of principles of social responsibility, processes of social responsiveness, and policies, program, and observable outcomes as they relate to the firm’s societal relationships.
This being said, Professor Tanja Bender tells us, in a simpler way and referring to MNEs, that CRS means that MNEs should behave morally, ethically and socially responsible in relation to their taxes. 49
Now that we have a simpler and clearly concept of what CSR means we can address the way an enterprise is seen and in what way its acts are interpreted by a society. Part of the debate is exposed by Reuven S. Avi-Yonah50 and he distinguishes between three different ways of seeing an enterprise addressing the next question: should corporations pay taxes and should the government use tax laws as a tool to regulate corporate behavior? The three main views are: i- Artificial, a creation of the state, ii- Real entity, where the corporation is an entity separated from the state and its shareholders, and iii- Aggregate, which is the contractual view. Each of these three views have different implications for the issue of tax obligations and CSR:
i.- Artificial: the corporation owes its existence to the state and is granted certain privileges in order to be able to fulfill functions that the state would like to achieve. This way any corporation should pay taxes as a way of paying services to the state and it is also being regulated by tax laws;
ii.- Real: by being comparable to an individual citizen in its rights and obligations, it is legally required to pay taxes and is expected not to engage in abusive tax planning to minimize its tax obligations. The state may not require that it fulfills CSR, but it is justified because it encourages enterprises to do so; and
iii.- Aggregate: apart of being the dominant view, under this view CSR is an illegitimate attempt by company managers to tax shareholders without their consent, and leads managers to be unaccountable to the shareholders that elected them. So they have a natural obligation to maximize shareholders profits by minimizing taxes and the state has no business in encouraging corporations to engage in illegitimate CSR through the tax system.
It depends on which of the aforementioned views will the state adopt in order to address CSR practices, that their government and corporations behavior will unleash on different acts: increasing aggressive tax (corporations) or tax competition among countries to attract corporate investments (government).
Following the cited author, from the corporation’s perspective, it seems that whatever our view of the nature of the corporation, it should not be permitted to engage in strategic behavior that is designed solely to minimize its taxable base. From the artificial entity perspective, such behavior undermines the special bond between the state and the corporations. From the real entity perspective such behavior is as unacceptable as it would be if all individual citizens engaged in it. As for the aggregate perspective, strategic tax behavior does not provide the state adequate revenues to fulfill the increased obligations imposed on it by forbidding corporations to engage in CSR. But from the state’s perspective, it appears legitimate under all three views to use corporate tax to steer corporate behavior in the direction of CSR. This is true for CSR functions where the corporation may not undertake on its own, because the state can still try to encourage corporations to undertake such activities, even though it cannot force them to do so. The problem resides in the fact that as long as any CSR activity does not relate to shareholder profit maximization it would deemed illegitimate if undertaken without government incentives. It seems unlikely that the government can provide sufficient incentives to align its goals with those of the shareholders.51
International Tax Planning creates negative effects in national economies. Even though globalization has benefited our economies in multiple ways, it also creates another set of problematic interactions between globalized corporations and governments. The great interaction of the economies has opened opportunities for multinational corporations to search for the minimization of their tax burden. This situation has become an international issue that affects everyone involved: i.- Governments: they have to take less revenue and incur in higher costs to be in compliance with treaties and ii.- individuals and business: when tax laws allow businesses to reduce their tax obligations by shifting their income, other taxpayers, especially small and local business, have to bear with a greater tax burden.
Unilateral measures would not entail a comprehensive solution, but would only promote harmful tax competition. This is a natural consequence because unilateral measures tend to protect interests of only one party or sector, in this case it would be the governments of different countries looking out only for their own interests. In this way they would dictate measures that attract more investors into their country and, as we said earlier, this will create unfair situations for everyone involved.
The Arm’s Length Principle constitutes a more integral tool to solve aggressive international tax planning schemes and harmful tax competition, but still needs to be improved. Even though it creates an international standard, there’s still a long way to go for the alignment of tax laws and international tax principles so that unfair situations and harmful competitions are minimized and a healthy international tax culture is strengthen. In the application of the arm´s length principles tax administrations must also be very diligent in not using it as a mechanism to over regulate the market by setting prices which they consider appropriate in order to increase their tax revenue, without taking in consideration the actual economical and financial needs and circumstances in multinational operations and enterprise, for it would have grave consequences to international commerce.
Even though the OECD elaborated the BEPS project as a set of guidelines (soft law) for countries to adequate their local tax law, the ammonization of such guidelines would be a difficult task, for the diverse legal backgrounds, especially civil law jurisdictions like Mexico could render them unconstitutional and would therefore represent substantial costs, effort and time in other to implement them, as their application would most likely be litigated in State courts.
Corporate responsibility must be a key element in any corporation. The way corporate responsibility is viewed within a corporation and tax administrations has a significant impact tax behavior. Even though the authorities don’t take advantage of tax laws, by making it an instrument to enforce corporate responsibility, we should consider the obligation we have to contribute to our national and the preservation of international relationships so they can become as successful and as fair as possible, which would consequently strengthen our economies.
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Arm's Length Range, Center for Tax Policy and Administration, OECD Publications;
AVI-YONAH, REUVEN S. Corporate Social Responsibility and Strategic Tax Behavior Public Law and Legal Theory Working Paper Series (2006). Michigan John M. Olin Website. Web;
BARNHOUSE, BOOTH & WESTER, Transfer Pricing, Fayetteville State University;
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J. AULT, Hugh, Some Reflections on the OECD and The Source of International Tax Principles, Tax Notes International Volume 70, Number 12, June 17 2013;
OECD (2013), Action Plan on Base Erosion and Profit Shifting, OECD Publishing;
OECD (2013), Addressing Base Erosion and Profit Shifting, OECD Publishing;
OECD (2014), Guidance on Transfer Pricing Aspects of Intangibles, OECD/G20 Base Erosion and Profit Shifting Project, OECD Publishing;
OECD, Harmful Tax Competition an Emerging Global Issue, 1998;
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Sense and Sensibility: The Policy and Politics of BEPS, Manal S. Corwin, Tax Notes, October 6, 2014;
SIMONE MUSA, LUCIANA NOBREGA, GLENN DESOUZA, RACHIT AGARWAL, RAFAEL TRIGINELLI MIRAGLIA, ANTONIO RUSSO, Baker & Mackenzie tax transfer pricing practice, letter to Jeffrey Owens of the Centre for Tax Policy and Administration, June 30, 2010, comments on the administrative aspects of transfer pricing.
1 Lawyer graduated from Universidad Panamericana, campus Guadalajara.
2 Lawyer graduated from Escuela Libre de Derecho.
3 OECD (2014), Model Tax Convention on Income and on Capital: Condensed Version 2014, OECD Publishing’s, p. 7
4OECD (2013), Addressing Base Erosion and Profit Shifting, OECD Publishing, 9: http://dx.doi.org/10.1787/9789264192744-en
5 OECD (2013), Action Plan on Base Erosion and Profit Shifting, OECD Publishing, p. 11
6 Part 1 of a Report to G20 Development Working Group on the Impact of BEPS in Low Income Countries, July 2014, p. 4
7 OECD (2013), Action Plan on Base Erosion and Profit Shifting, OECD Publishing, p. 8
8 Some Reflections on the OECD and The Source of International Tax Principles, Tax Notes International Volume 70, Number 12, June 17 2013, Hugh J. Ault, p. 1196.
9 Hugh J. Ault, (2013) p. 1196.
10 European Commission - Press release, Brussels, 21 October 2015, http://europa.eu/rapid/press-release_IP-15-5880_en.htm
11 OECD/G20 Base Erosion and Profit Shifting Project, Executive Summaries 2015 Final Report, p. 15
12 Ley del Impuesto Sobre la Renta (Law of the Tax Over Rent) Art. 9, December 11, 2013
13 Hugh J. Ault, (2013) p. 1196-1201
14 OECD, Harmful Tax Competition an Emerging Global Issue, 1998, p. 19
15 La Administración Tributaria frente al Contribuyente Global, Aspectos técnicos y prácticos relevantes, Ricardo Echegaray, editorial La Ley, 2013, p. 68
16 Sense and Sensibility: The Policy and Politics of BEPS, Manal S. Corwin, Tax Notes, October 6, 2014, p. 133
17 OECD (2013), Action Plan on Base Erosion and Profit Shifting, p. 8
18 OECD (2014), Part 1 of a Report to G20, pp. 10, 11
19 Idem. OECD (2013), p. 8
20 Op.cit. Ricardo Echegaray (2013), pp. 69-70
21 Barnhouse, Nicole C. and Booth, Alton and Wester, Kevin, Transfer Pricing (December 2, 2012). Available at SSRN: http://ssrn.com/abstract=2196826 or http://dx.doi.org/10.2139/ssrn.2196826
22 BARNHOUSE, BOOTH & WESTER, Transfer Pricing, Fayetteville State University, https://ssrn.com/abstract=2196826, date of consultation: April 19, 2017
23 OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations. OECD, 2010
25 Ostwal, T.P. An Introduction to Transfer Pricing. Domestic Transfer Pricing Provisions. United Nations. Geneva Meeting. T.P.Ostwal & Associates. Mumbai, IN. November 28, 2011from www.un.org/esa/ffd/tax/… /ManualTransferPricing_Ch1.pdf
26 Op.cit. Ricardo Echegaray (2013), p. 43-45.
27 Recomendación C(2012) 8805 de la Comisión Europea de la Unión Europea de fecha 6/12/2012
28 Op. cit. Ricardo Echegaray (2013), p. 73
29 Model Tax Convention on Income on Capital: Condensed Version 2014, OECD Publishing’s, p. 29
30 The OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations, OECD Publishing’s 2010, pp. 41, 42
31 Arm's Length Range, Center for Tax Policy and Administration, OECD Publications, 2010
32 OECD (2014), Guidance on Transfer Pricing Aspects of Intangibles, OECD/G20 Base Erosion and Profit Shifting Project, OECD Publishing, p. 64
33 Guidance on Transfer Pricing Aspects of Intangibles, p. 71
34 Review of Comparability and of Profit Method Revision of Chapters I-III of the Transfer Pricing Guidelines, 22 July 2010, OECD Publications, p. 12, para. 1.39.
35 Idem. p. 13
36 OECD (2015), Aligning Transfer Pricing Outcomes with Value Creation, Action
37 Idem. Review of Comparability and of Profit Method Revision of Chapters, p. 15
38 Idem. pp. 15, 16
39 Proposed revision of Chapters I-III of the Transfer Pricing Guidelines 9 September 2009 – 9 January 2010, Centre for Tax Policy and Administration, OECD Publications, p. 9
40 Idem. Review of Comparability and of Profit Method Revision, p. 6
41 Proposed revision of Chapters I-III of the Transfer Pricing Guidelines 9 September 2009 – 9 January 2010, Centre for Tax Policy and Administration, OECD Publications, p. 10
42 OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations 2010, OECD Publishing, p. 37
43Frequently Asked Questions, Action 15 B. Engagement with Developing Countries, para.106, http://www.oecd.org/ctp/beps-frequentlyaskedquestions.htm, last updated 2015, consulted 22 January 2016
44 Simone Musa, Luciana Nobrega, Glenn DeSouza, Rachit Agarwal, Rafael Triginelli Miraglia, Antonio Russo, Baker & Mackenzie tax transfer pricing practice, letter to Jeffrey Owens of the Centre for Tax Policy and Administration, June 30, 2010, comments on the administrative aspects of transfer pricing, pg.14.
45 http://www.oecd.org/ctp/beps-frequentlyaskedquestions.htm; consulted: 1 March 2017
46SANCHEZ HERNÁNDEZ & JIMÉNEZ CAÑIZARES Academia de Estudios Fiscales de la Contaduría Pública, Erosión de la Base Gravable y la Transferencia de Utilidades, Editorial Themis, primera edición, 2015, p.71
47 Ley del Impuesto Sobre la Renta, Mexico (Law of Revenue Tax), Art. 177: […] Para los efectos de este Título y la determinación de los ingresos de fuente de riqueza en el país, las autoridades fiscales podrán, como resultado del ejercicio de las facultades de comprobación que les conceden las leyes, determinar la simulación de los actos jurídicos exclusivamente para efectos fiscales […]
Para efectos de probar la simulación, la autoridad podrá basarse, entre otros, en elementos presuncionales.
48 Wood, Donna J. Corporate Social Performance Revisited. Academy of Management Review 1991: 691-718. Web. http://www.jstor.org/stable/258977
49 Bender, Tanja. Corporate Social Responsibility for Future International Business Lawyers. Great Debates: The Relationship between CSR and Tax Avoidance (April 2015). Web.
50 Avi-Yonah, Reuven S. Corporate Social Responsibility and Strategic Tax Behavior. Public Law and Legal Theory Working Paper Series (2006). Michigan John M. Olin Website. Web.