OECD’s additional guidance on PE profits attribution - A reflection

March 27,2018
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Rahul K Mitra (Chartered Accountant)

As part of the ongoing initiative around BEPS, the OECD has recently released the final document on additional guidance on attribution of profits to permanent establishments (PE), being a mandate under BEPS Action 7. The release of the final guidance follows two earlier versions of discussion drafts on the said subject, released by the OECD, one in July, 2016; and the other in June, 2017. The final guidance paper embraces most of the proposals contained in the second of the two discussion drafts, namely the one released in June, 2017, though it continues to miss the practical examples with reference to hypothetical facts and figures drawn up in the first discussion draft, which was released in July, 2016, as the second discussion draft had also considered to drop the same from its armoury.

The final guidance paper, as was the second discussion draft, is slightly theoretical in its approach; and certainly would require investment of significant time to understand and implement, through plotting of hypothetical figures, an attempt, which was laudably taken up by the OECD in the first discussion draft, though, if one were to humbly put, not entirely leading to immaculate conclusions.

Attribution of profits to PE is one of the most intricate issues in transfer pricing (TP) and international taxation. OECD had issued detailed guidelines on attribution of profits to PEs, in the form of four separate chapters, in 2010, as its authorized approach. As stated in the additional guidance note on attribution of profits to PE, as above, while the existing guidelines of the OECD on attribution of profits to PEs did not require any significant modifications, yet such additional guidelines were required to take into account, the impact of changes made to the provisions of PE under BEPS Action 7; and also to incorporate some of the concepts introduced in the BEPS guidelines around TP, namely Action 8 to 10. The additional guidance document mainly focuses on attribution of profits to dependent agent PE (DAPE).

The guidance document makes it clear that the relevance of attribution of profits to DAPE, is to capture the delta or difference between the remuneration commensurate to the distribution functions carried out by the selling agent, if any; in the form of significant people functions for the assumption of risks relating to debtors and/ or inventory; and that received by the agent for the routine agency functions, unless already subsumed within the remuneration received by the agent.

It is not that any and every DAPE would automatically lead to attribution of such incremental profits. If the agent, though securing orders or concluding contracts for the foreign principal, in substance does not carry out significant people functions on behalf of the foreign principal for the assumption of risks relating to debtors and inventory, then no incremental profits relating to any such assumed or presumed distribution functions would be attributed to the DAPE, namely over and above the arm’s length remuneration receivable by the agent, in most cases being an associated enterprise (AE) of the foreign principal.

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