A recent OECD discussion draft illustrates how profits could be attributed to a dependent agent permanent establishment (DAPE), created through associated service entities or a fixed place of business, like a warehouse. This follows the OECD’s work strengthening the PE definition as part of its Base Erosion and Profit Shifting (BEPS) project. The following examples are presented:
- Example 1: A foreign producer (Prima) sells its product using a local sales agent (Sellco). While Sellco is a DAPE for Prima, no profit is attributed to the PE as the head office (Prima) undertakes the significant people functions (SPFs) in relation to sales, marketing, inventory, and receivables.
- Example 2 varies example 1 by having Sellco undertake SPFs in relation to inventory and receivables. The DAPE is assumed to have economic ownership of the inventory. The profit attribution is a return for funding the inventory.
- Example 3 replaces Sellco with an employee performing the same functions. The attributable profits are those above the salary paid to the employee.
- Example 4: Both Prima and Sellco perform credit risk functions. The profit split between head office and the DAPE is based on sharing of credit risks.
- Example 5 involves attribution of profits to a warehouse PE, where this activity is (i) the core business, (ii) an internal function, and (iii) internal but run by a third party. The attributable profits are commensurate with the economic ownership of the warehouse and any routine functions performed.
The discussion draft's key conclusions/discussion points are:
- There is no difference in attribution principles, pre and post BEPS.
- The existence of a DAPE does not necessarily give rise to additional tax (refer example 1). However, local tax return requirements may still arise.
- Examples 2, 3 and 4 raise the issue of how profits should be attributed when SPFs, assets and risks are allocated to the DAPE (and whether there is financial capacity to assume them).
- Sellco (providing services to Prima) is distinguished from the DAPE. The former is assumed to be compensated at arm’s length, with the profits attributed to the latter adjusted accordingly.
The OECD is yet to endorse the discussion draft. It is illustrative to garner feedback, rather than guidance, at this stage.