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News Flash Hong Kong Tax OECD takes action on BEPS; are you ready? July 2013 Issue 10 In brief Following on from the report on Base Erosion and Profit Shifting (BEPS) published by the Organisation for Economic Co-operation operation and Development (OECD) (OECD in February this year, the OECD published its highly anticipated action plan (Action Plan) on 19 July 2013. The Action Plan contains 15 separate actions or work streams to address BEPS, BEPS along with accompanying targeted timelines. Many off the issues addressed in the Action Plan will likely have less impact on the Hong Kong domestic tax system, given its unique and simple nature, nature, than will be the case elsewhere. IIt is also unlikely that Hong Kong will revamp its tax policy in the shortt term as a result of the BEPS p project. Hong Kong businesses, however, particularly those with cross-border border investments and /or operations, will not be immune to BEPS related developments. developments. These businesses need to be aware of such developments and the possible impact pact on their operations. More importantly, they need to proactively perform internal risk assessments on their existing and contemplated contempl tax planning strategies and consider the sustainability of such strategies in view of the t increased focus on substance and transparency. In detail Background The OECD has been commissioned by the G20 to carry out a study on BEPS. BEPS The BEPS project is driven by the concerns of tax authorities that (1) substantial tax revenue is being lostt due to aggressive planning by corporations aimed at shifting profits to locations with favourable tax regimes regime and (2) some common principles by which taxing rights are allocated between states have not kept pace with the changing business environment (including the development of digital economy and the increased importance of intellectual property as a value driver in modern business models). A report on BEPS was issued by the OECD on 12 February 2013. The report covered the following: A comprehensive diagnosis of the current BEPS concerns. Examination of global business models, competitiveness, corporate governance and their relationships with taxation. A detailed analysis of the key tax principles and opportunities for BEPS. Identification of six key pressure areas, being: 1) international mismatches in entity and instrument characterisation (including hybrid mismatch arrangements and arbitrage); 2) application of treaty concepts to profits derived from the delivery of digital goods and services; 3) tax treatment of related party debtfinancing, captive insurance and other intra-group financial transactions; 4) transfer pricing; in particular in relation to the shifting of risks and intangibles, the artificial splitting of ownership of assets between legal entities within a group and transactions between such entities that would rarely take place between independents; 5) effectiveness of antiavoidance measures, in particular general antiavoidance rules, controlled foreign company regimes, thin capitalisation rules and rules to prevent tax treaty abuse; and 6) the availability of harmful tax preferential regimes. A call for a global action plan to address BEPS. For more details about the BEPS project, please refer to our PwC Tax Policy Bulletin, April 2013 1. www.pwchk.com News Flash — Hong Kong Tax OECD’s Action Plan on BEPS Following on from the report on BEPS published by the OECD in February 2013, the OECD published the Action Plan on 19 July 2013, which contains 15 separate actions or work streams to address BEPS, along with accompanying targeted timelines. For a more detailed discussion of the content of the Action Plan and its potential impact on governments and businesses in general, please refer to our PwC Tax Policy Bulletin, 19 July 2013 2. For the implications of the BEPS project from the perspective of China, please refer to our China Tax and Business Advisory News Flash, July 2013, Issue 17 3. What to expect for Hong Kong Hong Kong will not be in a position to exert the same level of direct influence in shaping responses to BEPS as those countries that have been actively involved in the BEPS project. In addition, many of the issues addressed in the Action Plan will be less likely to have direct impact on the Hong Kong domestic tax system given its unique and simple nature. It is also unlikely that Hong Kong will revamp its tax policy in the short term as a result of the BEPS project. With the increased emphasis on transparency and international collaboration to tackle BEPS, however, there will undoubtedly be pressure on Hong Kong to increase cooperation with other tax authorities in terms of tax information exchange and tax administration. In particular, one of the important points in the Action Plan is a call for improvement on tax transparency, including compulsory spontaneous exchange on rulings to preferential regimes and requiring substantial activities for any preferential tax regime. The recent passage of the Inland Revenue (Amendment) Bill 2013 4 allows Hong Kong to enter into standalone Tax Information Exchange Agreements (TIEAs) and to have a broader and more effective information exchange with its comprehensive double tax arrangement/agreement (CDTA)/ TIEA partners. This, however, only 2 results in Hong Kong meeting the current international standard on Exchange of Information (EoI). Hong Kong would likely need to further enhance its EoI regime, for example to permit automatic information exchange, if it were to be able to comply with the eventual outcomes of this action point on tax transparency. While the immediate impact of the BEPS project on Hong Kong tax law and administration may not be evident, Hong Kong businesses, particularly those with cross-border investments and/or operations, will not be immune to BEPS related developments. For example, Hong Kong groups investing abroad will need to be cognisant of the more challenging tax environment overseas as a result of the increasing pressures for transparency and 'substance' and a lower tolerance for tax planning considered artificial or contrived, and tailor their existing and future planning structures and strategies to this new environment. The focus on treaty shopping in the Action Plan will also have implications for Hong Kong. With the increasing risk of challenge to treaty shopping structures, the benefit provided to Hong Kong enterprises investing abroad by the large number of CDTAs entered into by Hong Kong in recent years is significant and timely. On the other hand, foreign investors seeking to use Hong Kong as a holding company location to take advantage of its new CDTAs are likely to face unexpected levels of scrutiny and challenge unless evidence that substantial economic and physical substance is maintained in Hong Kong can be demonstrated. On a practical level, the Hong Kong Inland Revenue Department may be required to more closely scrutinise applications for certificates of Hong Kong tax resident status as a result of pressure from treaty partners. It is also worth noting that even before the initiation of the BEPS project, the OECD was working on proposals in a number of areas (such as beneficial ownership and permanent establishments) which are now also dealt with in the Action Plan. Accordingly, developments in these areas are highly likely and will have an impact in Hong Kong given that they relate to the interpretation and application of CDTAs, of which Hong Kong has an ever increasing number. The takeaway Although the BEPS project is still a work in progress, it has already had a significant impact on the overall global tax landscape. That is, regardless of whether the action points identified in the Action Plan will be applied consistently and in a coordinated manner by the tax authorities around the globe, or how long the implementation of such action points will take, there are indications that the BEPS initiative is leading to gradual changes in the attitudes and behaviours of governments and tax authorities. Businesses need to be aware of the BEPS developments and the possible impact on their operations and actively engage in the BEPS debate to try to ensure that final initiatives are rational and workable. More importantly, businesses should proactively perform internal risk assessments on their existing or contemplated tax planning strategies and consider the sustainability of such strategies in view of the increased scrutiny brought about by the BEPS debate, particularly in relation to the focus on substance and transparency. This is important not only from the perspective of dealings with tax authorities, but also as a matter of corporate governance in managing the increasing risk of potential adverse publicity arising from being seen as engaging in aggressive tax planning. Endnotes 1. The Tax Policy Bulletin can be accessed via this link: http://www.publications.pwc. com/DisplayFile.aspx?Attachmentid=654 1&Mailinstanceid=27423 2. The Tax Policy Bulletin can be accessed via this link: http://www.publications.pwc. com/DisplayFile.aspx?Attachmentid=67 65&Mailinstanceid=28037 3. The News Flash can be accessed via this link: http://www.pwchk.com/web media/doc/635103485730099674_china tax_news_jul2013_17.pdf 4. Please refer to our Hong Kong Tax News Flash, July 2013, Issue 8 which can be accessed via this link: http://www.pwchk.com/webmedia/doc/63 5095632258504134_hktax_news_jul201 3_8.pdf. PwC News Flash — Hong Kong Tax Let’s talk For a deeper discussion of how this issue might affect your business, please contact a member of PwC’s International Tax Advisory Team: Nick Dignan +852 2289 3702 [email protected] David Smith +852 2289 5802 [email protected] Kenneth Wong +852 2289 3822 [email protected] Scott Lindsay +852 2289 5699 [email protected] Jeremy Ngai +852 2289 5616 [email protected] Our International Tax Advisory Team provides professional advice on a wide range of cross-border investment activities including inbound and outbound structuring, cross border financing, managing investment funds and global mergers and acquisitions. With a strong global network, our local international tax specialists can provide dynamic and robust tax solutions to multi-jurisdictions business operations of our clients. In the context of this News Flash, China, Mainland China or the PRC refers to the People’s Republic of China but excludes Hong Kong Special Administrative Region, Macao Special Administrative Region and Taiwan Region. The information contained in this publication is for general guidance on matters of interest only and is not meant to be comprehensive. The application and impact of laws can vary widely based on the specific facts involved. Before taking any action, please ensure that you obtain advice specific to your circumstances from your usual PwC’s client service team or your other tax advisers. The materials contained in this publication were assembled on 29 July 2013 and were based on the law enforceable and information available at that time. This Hong Kong Tax News Flash is issued by the PwC’s National Tax Policy Services in Hong Kong and China, which comprises of a team of experienced professionals dedicated to monitoring, studying and analysing the existing and evolving policies in taxation and other business regulations in China, Hong Kong, Singapore and Taiwan. They support the PwC’s partners and staff in their provision of quality professional services to businesses and maintain thought-leadership by sharing knowledge with the relevant tax and other regulatory authorities, academies, business communities, professionals and other interested parties. For more information, please contact: Matthew Mui +86 (10) 6533 3028 [email protected] Please visit PwC’s websites at http://www.pwccn.com (China Home) or http://www.pwchk.com (Hong Kong Home) for practical insights and professional solutions to current and emerging business issues. © 2013 PricewaterhouseCoopers Ltd. All rights reserved. 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