The Directive is designed to improve the scope and effectiveness of the EU Arbitration Convention.
In February 2016 the EU Commission launched a consultation on possible improvements for tax dispute resolution within the EU. The existing mechanism of bilateral treaties, supported by the European Arbitration Convention (EAC), was considered to have significant room for improvement. The resulting Directive seeks to improve access to dispute resolution, make the process quicker and more effective, and address gaps in the EAC such as determining the existence of permanent establishments, and thin capitalisation. The date by which the Directive must be implemented by domestic legislation is 30 June 2019. Given that this falls after the date the UK is expected to leave the EU, its applicability to the UK will depend upon the transitional arrangements for Brexit currently under negotiation.
The EU consultation followed on from publication by the OECD of the final BEPS Action 14 paper on making tax dispute resolution mechanisms more effective, and was aimed at the same issues. Since its introduction, the EAC has been effective, largely through its existence rather than its use, with European tax authorities being keen to resolve disputes bilaterally rather than submit to arbitration. However the EAC applies only to transfer pricing disputes, and attribution of profits to permanent establishments. It does not address disputes over whether a permanent establishment exists, nor issues that involve recharacterisations of transactions, such as tax authorities reclassifying debt as equity in thin capitalisation cases. Some taxpayers have also found access to the EAC difficult, and the process too slow and burdensome.
Among others, KPMG provided comments in relation to the consultation, and the new Directive has positively addressed many of the issues we raised. The scope has been widened to cover all tax disputes, and time limits (generally two years) are set for the tax authorities to address the relevant issue. If the tax authorities fail to reach agreement within the set time limit, an Advisory Commission (whose composition and approach is largely defined by the Directive) or an Alternative Dispute Resolution Commission (whose composition and approach will largely be agreed between the two relevant tax authorities) will be established to deliver an opinion on the case at hand. The tax authorities will be bound to implement this opinion within further strict time limits. The affected person would have legal redress within domestic law where the tax authorities fail to set up an Advisory Commission or Alternative Dispute Resolution Commission.
Whilst it remains uncertain whether the Directive will apply to any degree in the UK, it is worth noting that equivalent dispute resolution arbitration clauses are already included in six of the UK’s bilateral tax treaties with EU member states, and the recently signed Multilateral Instrument (MLI) effectively applies the same terms to a further six such treaties. It is therefore expected that, even after Brexit, the vast majority of Mutual Agreement Procedure cases between the UK and EU member states will be covered by an appropriate arbitration provision.
The introduction of the Directive is a further welcome step forward in the ongoing improvements to bilateral tax dispute resolution. Given uncertainties around the interpretation of the revised OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations, and the filing of the initial Country-by-Country reports, we are expecting a large increase in the number of such disputes. Increasing binding arbitration will be critical to ensuring fair treatment of taxpayers involved in such disputes. Implementation of the MLI, this Directive, and the OECD’s ongoing peer reviews of tax authority MAP processes, will all go a long way to ensuring protection for taxpayers from economic double taxation.
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