Country-by-Country tax reporting
Country-by-Country tax reporting has become a fact of life for multinational enterprises (MNEs) with worldwide revenue above EUR 750 million.
While most MNEs have developed processes to gather and report the required information, how well are they managing the risk associated with the Report?
Have they integrated the reporting process into their ongoing transfer pricing management and documentation?
Is the information generated by the reporting process consistent with the intent of their global transfer pricing policy?
Action 13 of the OECD’s Base Erosion and Profit Shifting (BEPS) Action Plan introduced a CbC reporting template which certain multinational enterprises (MNE) are required to complete and submit (usually) to the tax authority in their home country.
Following a consultation process, the template was published in September 2014 and was finalised on October 5, 2015 when the OECD also published final implementation guidance.
The final OECD report recommended that CbC reporting commence for periods starting on or after January 1, 2016. In general, multinationals with consolidated group revenue of less than EUR 750 million (or equivalent in local currency) in the prior financial year are exempted from filing the CbC Report.
However, for those not exempt, filing with the parent country tax authority is typically due within 12 months of the group’s financial year-end. If the country of the MNE parent does not require reporting, it is the responsibility of the MNE to designate a surrogate parent in a country where the CbC Report can be filed.
One of the main reasons that tax authorities implemented the CbC reporting requirement was to gain a better understanding of a multinational group’s activities, value drivers, profit creation, and taxes paid in each of the jurisdictions in which it operates.
While the CbC Report itself is not supposed to form the basis for a tax adjustment, it could be used as a tool by tax authorities to identify areas of interest and inform the audit of specific transfer pricing issues and transactions.
For example, tax authorities can use the CbC Report to identify jurisdictions within the multinational group with high profits and low taxes, and then work backwards to build a case that argues that the transfer pricing involving those jurisdictions was incorrect. As such, the CbC Report provides tax authorities with an additional tool by which to assess the case for a potential transfer pricing adjustment.
Naturally, the introduction of such a far-reaching tool has created a myriad of risk issues which corporate stakeholders must continue to deliberate on today. Currently, there are three areas that we believe constitute the greatest opportunity for companies to proactively manage this risk: consistency; public disclosure; and implementation.
In order to do so, an MNE’s transfer pricing team and reporting teams should work closely together to confirm that the information on the CbC Report is consistent with the enterprise’s transfer pricing policy.
Consistency and information exchange agreements
In the years since the OECD published Action 13, countries around the world have looked to expedite the sharing of information and increase corporations’ transparency and accountability. The solution is now magnified in the form of activated exchange relationships. According to the OECD, there are now over 2,900 exchange relationships between jurisdictions committed to exchanging CbC Reports, with additional agreements being negotiated.
As a result of this increased ability for governments to exchange information globally, it is critically important for companies to go beyond gathering the necessary data from their financial reporting systems.
The transfer pricing team should review all the information going into the CbC Report to ensure that the Report is consistent with the transfer pricing positions and characterisations taken in their OECD Master File and Local File transfer pricing documentation.
To the extent the information in the CbC Report suggests that more value should sit in a specific local country entity under tax examination, this may increase the scrutiny which a tax authority places on a company’s transfer pricing positions or characterisations.
In terms of best practices, it is valuable to have a process by which the OECD Master File and Local File transfer pricing documentation is reviewed, if not also produced, centrally.
This review and assessment should also include a comparison of the CbC Report information with the MNE’s transfer pricing documentation, entity results, and functional characterisations.
Public disclosure and transparency CbC Reporting
In addition to the increased scrutiny by tax authorities, companies are undergoing increased scrutiny from the public via public disclosure efforts underway in a number of countries. As seen in numerous spheres of business and society, the world is moving toward more transparency and more accountability.
Public and private companies are wrestling with the concept of corporate social responsibility, a type of business self-regulation to positively impact the public, the environment, and the economy. With CbC reporting, there are movements underway in the EU towards public disclosure of CbC Reports.
The European Economic and Social Committee (EESC), in 2016, stated, “In order to meet the policy objective of greater transparency with regard to the taxation of companies, the EESC recommends establishing a national public register administered by the Member States’ tax administrations so that the country-by-country report is freely accessible.
With a view to easing working procedures and cutting red tape, the EESC recommends that the directive establish an EU-wide standard format so that data can be processed openly in line with Open Government Partnership commitments.”
Starting in 2013, laws in Canada, the European Union, Norway, the United Kingdom and Switzerland have required publicly listed and large private companies in the petroleum and mining sectors to disclose the amounts they pay to governments everywhere they operate. The United States has a similar law in place, but implementation has not yet begun.
Technology and implementation CbC Reporting
Perhaps the most significant consideration surrounding CbC reporting is the detailed implementation of the reporting requirement itself, including the methods used by corporations when gathering data and preparing it for presentation to the relevant tax authorities. This also poses the greatest challenge, one which can fortunately be lessened to a degree by the evolution of technology.
The first key consideration is the definition of terms in the CbC Report and the determination of the company systems from which the required information will be derived. The interpretation of these definitions and the calculation of specific amounts can lead to extensive discussions, as ideally the approaches taken will maintain consistency across all foreseeable subsequent years of reports. The other key consideration after the definitions of the data required, is the approach taken to gathering that data.
Conceptually, automated data gathering would seem to be the most accurate and efficient approach to collecting the necessary information.
However, given the broad nature of the CbC Report, the data required to complete it can span various information systems from HR, Finance, and Tax. As a result, companies may need to design a solution that is able to bridge these systems and analyse various types of data in order to report the required CbC items.
Following the automation of data gathering, companies can move their focus towards analytics. Corporations that have successfully navigated data gathering and centralisation have turned their attention toward implementing technology for effective analysis of the data.
Yet again, companies should ensure that what their systems are producing are consistent with the company’s intended transfer pricing policies.
On the other side, tax authorities are increasingly using technology to analyse and mine CbC Reports. Given the governmental evolution towards digital filings and centralised data storage, each year that passes gives governments a greater ability to employ data algorithms that risk-score individual CbC Reports as well as summarise the overall distribution of values within the CbC reporting fields.
Unfortunately for multinationals, the specific ways in which governments are analysing and employing the CbC Report data, and what specific characteristics if any trigger audit action, are kept private by governments for understandable reasons. As such, it’s important for companies to manage this risk by thoughtfully analysing and interpreting their CbC Report data.
Focus on balance
Given the intricacies of the global tax system, you and your company will be forced to adapt to the evolving expectations of your stakeholders and the general public. In this regard, CbC reporting will further present a significant opportunity for you and your executive team to be proactive in managing your company’s risk and perception.
The focus should be on consistency and transparency in today’s global environment, as well as the use of technology in order to streamline the compliance process and analyse the results. Striking the right balance between all these factors will be critical to the success of you and your fellow corporate leaders.
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