New EU tax reporting deadlines may remain intact, despite pressure for a delay due to the coronavirus pandemic.
The new directive, formally known as “Directive of Administrative Cooperation,” or DAC6, represents an international tax transparency initiative. The aim of DAC6 is to further identify cross-border transactions undertaken by EU member states that may be tax motivated.
Under DAC6, reportable arrangements range from the intuitive, such as transfer pricing, to ordinary business transactions that are sourced from various functions within an organization. The requirement of reporting cross-border v. domestic arrangements entered into by a member state implies that tax motivated transactions are more likely with another party that resides outside its border.
Prior to the current pandemic companies and their advisers were under a good deal of pressure to meet the deadlines, in part because some member states have yet to issue guidelines and some have tacked on additional requirements, creating a patchwork for multinationals to deal with.
A proposed delay would allow a three-month reporting deferral due to Covid-19, however EU member states have not yet reached an agreement on the proposed extension. The initial deadline for DAC6 reporting remains Aug. 31 for transactions entered into from June 25, 2018, to June 30, 2020.
Member states have enacted draft, or final, legislation to effect this envisioned reporting tool. Similar to other EU Directives, some member states have taken advantage of this opportunity to add additional requirements, resulting in a dissimilar collection of subjective determinations within the EU, supplemented by significant penalty provisions.
This article provides context as to how we got here, and next steps required to implement. The origin of DAC6, a discussion of several hallmark principles, best practices and future trends provide context into the past, present, and future disclosure regime.
Evolution of the Directive
DAC6 represents a direct evolution of OECD’s BEPS Action 12, mandatory disclosure rules, enhancing mandatory disclosure of information on potentially aggressive cross-border tax-planning arrangements.
On June 25, 2018, Council Directive (EU) 2018/822 was formally adopted, amending Directive 2011/16/EU on mandatory automatic exchange of information in the field of taxation in relation to reportable cross-border arrangements.
The amendment followed prior revisions, including the common reporting standard, automatic exchange of information on advance cross-border tax rulings, and Country-by-Country, or CbC, reporting.
The verbiage of DAC6 represents amendments, additions, and replacements to Directive 2011/16/EU, thus the directives need to be reviewed collectively to convey a proper context of the new rules.
DAC6 represents a foundation for the new rules, in addition to dissimilar interpretations and reporting requirements by member states.
DAC6 formally went into effect on June 25, 2018, thus the first report will disclose arrangements on or after June 25, 2018, to June 30, 2020, and without the extension is due by Aug. 31 (with the proposed extension that deadline is Nov. 30). Recurring reports commence July 1 (postponed to Oct. 1 with the proposed extension) and are due within 30 days of various triggers for reportable arrangements. The reportable arrangements are also required by some member states as separate disclosures or with the tax return.
Significant penalties apply for missing compliance deadlines for each reportable arrangement, which are non-income tax based generally resulting in an EBIT impact. The DAC6 documentation, reporting, and governance framework should be strategized, establishing reasonable cause for appealing potential penalties. It is also helpful to develop guiding principles to document certain aspects of reporting.
Reportable arrangements fall into five broad categories, including 15 enumerated transactions and sub-steps therein. A reportable cross-border arrangement (also known as a hallmark) includes any cross-border transaction between an EU member state (including the U.K.) and any other country, apart from separately legislated domestic arrangements.
One of the requisites of several hallmarks is the main benefit test, or MBT.
The MBT will be satisfied if it can be established that the main benefit or one of the main benefits which, having regard to all relevant facts and circumstances, a person may reasonably expect to derive from an arrangement is the obtaining of a tax advantage. This applies for hallmarks A, B, and certain items of C.
This definition is subjective and not bright-line, similar to general anti-avoidance rules (GAAR) in many jurisdictions. Additionally, several countries provide subjective guidance in their local legislation.
French legislation provides: The benefit is understood as a tax benefit. A tax benefit is deemed to exist when the cross-border arrangement allows for, among other things, a tax refund, tax relief or reduction, a reduction in tax debt, a tax deferral, or no taxation. This broad definition provides simple guiding principles for DAC6 reporting: a current or future tax obligation, or relief from such obligation.
Several hallmarks do not fall within the category of “potentially aggressive tax-planning arrangements,” thus the breadth of reporting is expanded significantly across the enterprise for EU reportable (generally cross-border) arrangements.
Hallmark C1(a), not subject to a MBT, provides for deductible payments to a transparent entity (e.g. partnership or single-member LLC). Recurring payments to a transparent entity should be documented in an (intercompany) agreement, providing for a single reporting of such agreement going forward.
Hallmark C1(b) stipulates arrangements in which the cross-border payee is (i) a tax resident in a jurisdiction that does not impose any corporate tax or imposes a rate of zero, or almost zero (if it fulfills the MBT), or (ii) is included in the EU/OECD list of noncooperative jurisdictions (not subjective to MBT).
Germany considers a nominal corporate tax rate of 4% or less as a zero-rate jurisdiction, whereas Sweden exempts certain jurisdictions from this rule, such as UAE and Jersey.
With respect to inclusion on the EU/OECD list of noncooperative jurisdictions, it is uncertain as to when this determination is made. For example, Cayman was added to the EU list earlier this year. Several member states, the EU, and the Organization for Economic Cooperation and Development (OECD) have separate lists of noncooperative jurisdictions that are dissimilar. Spanish legislation provides that local law, rather than the EU/OECD, will be used for this listing.
Due to the penalty regimes, I would recommend using the updated EU/OECD, or domestic, list to overreport rather underreport such arrangements. Future revisions to the identification of noncooperative jurisdictions will require monitoring to avoid missing relevant transactions that were previously outside the scope of reporting.
- Develop an understanding of the DAC6 hallmarks, including translations for the relevant member states.
- Identify the EU member states of the reporting organization.
- Develop internal “Best Practices,” succinct explanations, and training for EU personnel.
- Communicate the impact of DAC6 to headquarter personnel, including a summary for the Audit Committee about transparency and reputational risk.
- Review DAC6 tools of the Big 4 and other providers to provide insight into questionnaires, decision trees, and document collection.
- Determine if an internal or external tool/provider will be used for reporting. This determination should include a methodology to identify new interpretations by the member states and submit reports in different languages. An internal tool should identify reporting requirements of each jurisdiction as they are dissimilar. Additionally, a member state’s domestic requirements may be reported separately to its website rather than centralized EU reporting.
- Develop reporting templates for recurring arrangements.
- Create a library of reportable, and non-reportable, transactions to form supporting documentation for auditablity and review.
- Identify a resource (like Sharepoint or another reporting tool) to be used for document collection.
- Develop concise questionnaires for the relevant EU associates, with a tracking and governance mechanism to meet the 30-day reporting timeline.
- Ensure tax is the primary administrator, to interpret the MBT and tax-related requirement.
- Identify copy-cat countries, such as Mexico and Norway, as part of the process for future reporting.
Future Trends: Time will tell if public transparency permeates DAC6 reporting.
DAC6 is in its infancy for reporting, the directive has been in place since nearly two years. Former revisions of Directive 2011/16/EU, including CbC reporting, have narrowly escaped the public transparency intent of different jurisdictions and organizations. Several jurisdictions, including non-EU jurisdictions, have recently tried to embed CbC transparency requirements into unrelated legislation, narrowly escaping final enactment.
Expect “white lists” of non-reportable transactions to continue to emerge. German legislation excludes tax advantages intended by domestic law and hallmark A3 arrangements for standardized documentation, such as loans and employee secondments.
Member states have generally refrained from including domestic transactions in addition to DAC6, with the exception of Germany, Poland, and possibly other countries as the reporting process is further developed.
Copycat countries will implement mandatory disclosure rules, including Mexico and Norway. As a result, the governance processes established for DAC6 may be replicated.
The punitive penalties may be more difficult to appeal or overturn as the monies represent a source of fiscal
stimulus that replace Covid-19 shortfalls, although several member states have communicated their leniency for initial reporting.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
Keith Brockman is a CPA, CGMA, and authors a Best Practices international tax blog at strategizingtaxrisks.com. He is a frequent presenter at international tax conferences, having over 30 years of experience as a corporate tax executive. He has served on tax committees in the U.S. and Europe with Tax Executives Institute and Manufacturers Alliance for Productivity and Innovation.