The OECD: An analysis of Tax Treaties and the Impact of the COVID-19 Crisis
- Concerns related to the creation of permanent establishments;
- Concerns related to the residence status of a company (place of effective management); and
- Concerns related to a change to the residence status of individuals.
On April 3, the Organisation for Economic Cooperation and Development (“OECD”) issued recommendations on the implications of the COVID-19 crisis on cross-border workers and other related cross-border matters. This came about after concerns from several jurisdictions in relation to matters arising out of the application of tax treaties due to the impact of the COVID-19 crisis.
The COVID-19 pandemic has forced governments to take unprecedented measures such as restricting travel and implementing strict quarantine requirements. In this challenging context, most countries are putting stimulus packages in place, including measures to support employment, for example, taking on the burden of unpaid salaries on behalf of companies suffering from the economic effects of COVID-19 pandemic. As a result of these restrictions, many cross-border workers are unable to perform their duties in their country of employment physically. They may have to stay at home and telework or may be laid off because of the exceptional economic circumstances.
This unprecedented situation is raising many tax issues, especially where there are cross-border elements in the equation; for example, cross-border workers, or individuals who are stranded in a country that is not their country of residence. These issues have an impact on the right to tax between countries, which is currently governed by international tax treaty rules that delineate taxing rights.
Concerns related to the creation of permanent establishments
In this regard, the concern by several countries was that there might be employees dislocated to countries other than the country in which they regularly work and that working from their homes during the COVID-19 crisis will create a “permanent establishment” (PE) for them in those countries, which would trigger new filing requirements and tax obligations.
According to the OECD Secretariat, it is unlikely that the COVID-19 situation will create any changes to a PE determination. The exceptional and temporary change of the location where employees exercise their employment because of the COVID-19 crisis, such as working from home, should not create new PEs for the employer. Similarly, the temporary conclusion of contracts in the home of employees or agents because of the COVID-19 crisis should not create PEs for the businesses. In the case of construction sites, the OECD Secretariat is also of the view that a PE would not be regarded as ceasing to exist when work is temporarily interrupted.
Furthermore, the OECD also encouraged tax administrations to provide guidance on the application of the domestic law threshold requirements, domestic filing and other guidance to minimise or eliminate unduly burdensome compliance requirements for taxpayers in the context of the COVID-19 crisis.
Concerns related to the residence status of a company (place of effective management)
One other concern due to the COVID-19 crisis is in relation to a potential change in the “place of effective management” of a company as a result of a relocation, or inability to travel, of chief executive officers or other senior executives. The concern is that such a change may have as a consequence, a change in company’s residence under relevant domestic laws and affect the country where a company is regarded as a resident for tax treaty purposes.
The OECD Secretariat deems it unlikely that the COVID-19 situation will create any changes to an entity’s residence status under a tax treaty. A temporary change in location of the chief executive officers and other senior executives is an extraordinary and temporary situation due to the COVID-19 crisis, and such change of location should not trigger a change in residency, especially once the tie-breaker rule contained in tax treaties is applied.
Concerns related to cross border workers Article 15 (Income from employment) of the OECD Model governs the taxation of employment income, distributing the right to tax between the employee’s state of residence and the place where they perform their employment.
The starting point for the rule in Article 15 is that “salaries, wages and other similar remuneration” are taxable only in the person’s state of residence unless the “employment is exercised” in the other state.
The OECD Secretariat provides that some stimulus packages adopted or proposed by governments (e.g. wage subsidies to employers) are designed to keep workers on the payroll during the COVID-19 crisis despite restrictions to the exercise of their employment. The payments that employees are receiving in these circumstances most closely resemble termination payments which are discussed in the OECD Commentary and which explains that they should be attributable to the place where the employee would otherwise have worked. In most circumstances, this will be the place the person used to work before the COVID-19 crisis.
In this regard, if the country where employment was formerly exercised should lose its taxing right following the application of Article 15, additional compliance difficulties would arise for employers and employees. Employers may have withholding obligations, which are no longer underpinned by a substantive taxing right. The OECD Secretariat explained that exceptional circumstances call for an extraordinary level of coordination between countries to mitigate the compliance and administrative costs for employees and employers associated with the involuntary and temporary change of the place where employment is performed. The OECD is also working with countries to mitigate the unplanned tax implications and potential new burdens arising due to effects of the COVID-19 crisis.
Concerns related to a change to the residence status of individuals
Despite the complexity of the rules and their application to a wide range of potentially affected individuals, it is unlikely that the COVID-19 situation will affect the treaty residence position.
In relation to this concern, the OECD Secretariat provided insight on guidance issued already by some countries such as the UK and Australia. They issued useful guidance and administrative relief on the impact of COVID-19 on the domestic and tax treaty determination of the residence status of an individual.
The analysis provides for two situations being:
A person is temporarily away from their home (on holiday or to work for a few weeks) and gets stranded in the host country because of the COVID-19 crisis and attains domestic law residence there.
A person is working in a country (the “current home country”) and has acquired residence status there, but they temporarily return to their “previous home country” because of the COVID-19 situation. They may never have lost their status as a resident of their previous home country under its domestic legislation, or they may regain residence status on their return.
In the first scenario, it is unlikely that the person would acquire residence status in the country where the person is residing temporarily because of extraordinary circumstances. There are, however, rules in domestic legislation deeming a person to be a resident if he or she is present in the country for a certain number of days. But even if the person becomes a resident under such rules, if a tax treaty is applicable, the person would not be a resident of that country for purposes of the tax treaty. Such a temporary dislocation should, therefore, have no tax implications.
In the second scenario, it is again unlikely that the person would regain residence status for being temporarily and exceptionally in the previous home country. But even if the person is or becomes a resident under such rules, if a tax treaty is applicable, the person would not become a resident of that country under the tax treaty due to such temporary dislocation.
Antoinette Scerri, Director, Tax Advisory Services
Profile: Antoinette joined Nexia BT’s tax advisory services arm in 2010 and since she built up the tax advisory arm of the firm. She is a Certified Public Accountant and is a member of the Malta Institute of Accountants and of the Malta Institute of Financial Services Practitioners.
Antoinette has over 10 years of experience in tax advisory services involving Indirect and Direct tax matters, assisting clients in tax negotiations and in obtaining advance revenue rulings and tax confirmations from the tax authorities. She is also involved in advising a number of multinational companies, financial institutions, funds and high-net-worth individuals and is often involved in cross-border and local financing transactions and re-organisations.