INSIGHT: Taxation of the Digital Economy in France—Where are We? Part 2

The digitalization of the economy raises tax challenges—it is hoped that the OECD will soon be able to obtain global consensus on this issue.

One of the most relevant measures for a highly digitalized business includes the change of the permanent establishment (“PE”) definition. In a context of artificial avoidance of the PE status and in order to tackle such schemes, it has been decided to broaden the PE definition in a number of existing tax treaties through the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent BEPS (the “MLI”) as well as in the course of bilateral tax treaty negotiations.

International Response

In Action 7 of the base erosion and profit shifting (“BEPS”) project, the OECD tries to tackle common tax avoidance strategies used to prevent the existence of a PE which was highlighted in Part 1 of this article.

Action 7 then provides a modification of the dependent agent definition in order to address structure involving commissionaire agreements or other offshore arrangements. This new PE definition notably provides that a PE will be characterized in case a dependent person habitually plays the principal role leading to the conclusion of such sales, and the contracts are routinely concluded without any material modification. In effect, schemes described above will then entail the existence of a PE.

Multilateral Instrument

The effectiveness of the modification of the PE definition will require amendments to bilateral tax treaties which will be very time-consuming. To facilitate this process, the OECD has worked on a multilateral instrument (“MLI”) that will amend all existing double tax treaties at once, allowing them to comply with the minimum standards provided for by BEPS in the most efficient way possible.

The MLI was signed on June 7, 2017 by France and 67 jurisdictions, including most of the major international trading jurisdictions (other than the U.S.). Other countries have signed this treaty since then, which has now been signed by 83 countries. At the present time, the MLI has entered into force in five countries. With respect to France, this treaty was ratified by the Parliament in July 2018 and is expected to enter into force in the coming months.

This being said, the OECD has indicated that the MLI will have in effect very little consequences on these artificial schemes. Indeed, only 17 percent of the tax treaties currently covered by the MLI would be impacted by this new PE definition. Indeed, the mere signature of the MLI does not automatically mean that the new PE definition will be applicable in case both countries have signed the MLI. One should first check whether the tax treaty signed by parties of the MLI is a covered tax agreement and then if both parties have not made any reserves regarding this new PE definition.

These two conditions significantly reduce the effectiveness of these new provisions. Indeed, according to the OECD, the signatories of the MLI cover 85 percent of the tax treaties that they have concluded between themselves. For instance, although France and Switzerland sign the MLI, the France–Switzerland tax treaty will not be impacted by the MLI.

New PE Definition Not Applied

In addition, a number of jurisdictions (including Ireland, Germany and the U.K.) have decided not to apply this new PE definition and await consensus on the application of the rules, including clarification regarding which profits will be deemed to be attributed to the PE, prior to committing to the implementation of the provisions.

This would mean that the new PE definition will not be applicable between France and Germany, Ireland or the U.K. The MLI will then have no immediate impact for schemes commonly used by digital companies (as the one mentioned above for Google and ValueClick) having an activity in France.

Nonetheless, this new definition has already led to some changes as it should be put on the table at the negotiation of bilateral tax treaties. This was the case of the new France–Luxembourg tax treaty which was signed in March 2018.

Despite these changes, the European Commission has decided to go a step further and to adopt unilateral measures with the implementation of a digital services tax on revenues and a long-term solution, introducing the concept of a digital PE. The proposals will now be submitted to the European Parliament for consultation and to the Council for adoption by unanimity. However, it is very uncertain that this Directive will be adopted due to the lack of consensus between EU member states.

Planning Points

Operators should carefully review the way they operate in France in light of the recent developments by the MLI. This would particularly be the case for a multinational corporation operating in France through a local service provider in charge of promoting the group’s services in France.

Bertrand Hermant is Counsel at Taylor Wessing, Paris.

The author would like to thank Antoine Bazart for his assistance in the drafting of this article.