The following matters are covered in this issue:
OECD releases updated transfer pricing guidelines
Per a recent OECD website posting, on 10 July 2017 the OECD released the 2017 edition of the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations (“OECD TP Guidelines 2017 edition”). This consolidates the TP changes resulting from the 2013-2015 OECD/G20 Base Erosion and Profit Shifting (BEPS) Project, updating the 2010 edition for:
- Revisions in the 2015 BEPS Reports on Actions 8-10 Aligning Transfer Pricing Outcomes with Value Creation and Action 13 Transfer Pricing Documentation and Country-by-Country Reporting;
- Revisions to Chapter IX on business restructurings to conform with the 2015 BEPS Reports on Actions 8-10 and 13;
- Revised guidance on safe harbours, approved in 2013;
- Further consistency changes required to consolidate the TP Guidelines.
In addition, the OECD TP Guidelines 2017 edition adjusts the “Recommendation of the OECD Council on the Determination of Transfer Pricing between Associated Enterprises”. This is in order to invite non-OECD members to adhere to the Recommendation in light of the expansion in the relevance of the OECD TP work, beyond the OECD member states, through the establishment of the Inclusive Framework on BEPS. A measure is also taken to facilitate accelerated adoption of TP Guideline amendments in future. This is through delegation of approval authority for technical amendments by the OECD Council to the Committee on Fiscal Affairs (see KPMG International’s publication here for details).
The following may be observed on the OECD TP Guidelines 2017 edition:
- There is no new substantive content beyond that already set out in the OECD BEPS Actions 8-10 and Action 13 final reports.
- Formal publication of the 2017 guidelines may enhance their legal standing in some jurisdictions, depending on how countries reflect OECD guidelines in local law.
- The revised guidelines do not incorporate forthcoming changes to the profit split guidance in Chapter II. A revised discussion draft on this topic was released 22 June 2017; (See KPMG China Tax Weekly Update (Issue 26, July 2017) for details)
China is not a member of the OECD, and so so it is not bound to follow the OECD TP guidelines. However, many aspects of the updated BEPS TP guidance have been integrated into the following China TP guidance, albeit with “localization” for relevance to China’s economic conditions:
- State Administration of Taxation (SAT) Announcement  No. 42 (“Announcement 42”) issued on 29 June 2016, which replaced the earlier Guo Shui Fa  No. 2 (“Circular 2”) and Guo Shui Fa  No. 114 (“Circular 114”).
Announcement 42 rolls out to China the BEPS Action 13 TP documentation structure, consisting of the Local File and the Master File, and incorporates the BEPS country-by-country (CBC) report as an element of the annual related party transaction reporting. (See KPMG China Tax Alert (Issue 23, July 2016)).
- SAT Announcement  No. 64 (“Announcement 64”) issued on 18 October 2016 replaces the earlier regulations on APA administration in Circular 2 (See KPMG China Tax Alert (Issue 28, October 2016)).
- SAT Announcement  No. 6 (“Announcement 6”) issued on 17 March 2017 localizes the much of the BEPS TP guidance, particularly on intangibles, for China, together with formalizing many of the Chinese TP innovations which had been developed in practice since the issuance of Circular 2 (See KPMG China Tax Alert (Issue 10, March 2017)).
- A China Tax Alert on the BEPS 2015 Deliverables, including the BEPS TP changes and their significance for China can be accessed at OECD 2015 BEPS Deliverables issued and China’s response (Issue 28, October 2015).
Updated OECD Model Tax Convention and Commentary
Per a recent posting to the OECD website, the OECD Committee on Fiscal Affairs (CFA) on 11 July 2017 released the draft contents of the 2017 update (“draft 2017 update”) to the OECD Model Tax Convention (“MTC”) for public comments by 10 August 2017. The draft 2017 update will be submitted for approval of the CFA and of the OECD Council later in 2017.
Comments are requested for certain parts of the draft 2017 update:
- Changes to the Commentary on Article 4 (Resident) on whether a house rented to an unrelated person can be considered a “permanent home available to” the landlord, and on the meaning of “habitual abode”, for the purposes of the natural person residence tie-breaker rule.
- A clarification to the Commentary on Article 5 (Permanent Establishment) that registration for VAT/GST purposes is, by itself, irrelevant for permanent establishment (PE) recognition purposes.
- Amendments to Article 10 (Dividends) and its Commentary to align with the BEPS Action 2 report clarifications on the taxation of partnerships.
Comments are not requested on OECD MTC changes approved as part of the BEPS Package or which were earlier publically consulted on, including:
- Changes contained in the Report on Action 2 (Neutralising the Effects of Hybrid Mismatch Arrangements), the Report on Action 6 (Preventing the Granting of Treaty Benefits in Inappropriate Circumstances), the Report on Action 7 (Preventing the Artificial Avoidance of Permanent Establishment Status) and the Report on Action 14 (Making Dispute Resolution Procedures More Effective), as well as changes developed in the follow-up work on those Actions.
- Changes to the Commentary on Article 5 (Permanent Establishment) originally published in an October 2011 discussion draft, discussed at a 7 September 2012 public consultation and subsequently released in a revised October 2012 discussion draft. These are integrated with the BEPS Action 7 PE changes in the updated Commentary. Notable clarifications are made on:
- When a location is “at the disposal” of a foreign enterprise as a ‘place of business’;
- Whether a home office is a place of business;
- The meaning of the permanency threshold for PE;
- PE arising from seconded employees and subcontractors;
- Partnership and Joint Venture PE issues.
- Changes to international shipping and aircraft related provisions in Articles 3 (General Definitions), 8 (Shipping and Air Transport), and 15 (Income from Employment), with related Commentary changes, first set out in a November 2013 discussion draft.
- Changes to Article 25 (Mutual Agreement Procedure), related Commentary changes and amendments to the “Sample Mutual Agreement on Arbitration” to reflect the MAP arbitration provision developed in the negotiation of the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (the Multilateral Instrument or "MLI”) adopted on 24 November 2016.
As part of the 2017 update, a number of changes and additions will also be made to the observations, reservations and positions of OECD member countries and non-member economies. These are in the process of being formulated and will be included in the final version of the 2017 update.
As a non-OECD member China’s tax authorities are not bound to follow the OECD MTC Commentary guidance. The guidance can, however, be referred to in discussions between tax authorities and taxpayers as persuasive in practice. China has drawn heavily on OECD MTC Commentary content for its own treaty guidance, in particular in Guo Shui Fa  No. 75. The SAT is understood to be currently working on new treaty guidance to complement the changes China will be making to its treaties through the MLI, and this is keenly awaited. It remains to be seen to what degree the SAT will draw on the OECD MTC Commentary additions in relation to principle purposes test (PPT). The PPT is being adopted initially into 45 China DTAs through the MLI, and will be adopted into more DTAs in future as further China DTA partners adhere to the MLI. Of particular interest will be whether, and to what extent, the SAT envisage using the PPT for PE cases.
China signed the MLI on 7 June 2017, see the following KPMG Publications for more information about this:
- China Tax Alert: China signs Multilateral Instrument to implement BEPS reforms (Issue 19, June 2017)
- China Tax Weekly Update (Issue 23, June 2017)
* KPMG International has also reported this development, please access the following publication for details:
** The United Nations (UN) Committee also reached agreement on several items for a planned 2017 update to the UN Model Double Taxation Convention between developed and developing countries. Some items have been agreed during the April 3-6 2017 session in New York, see KPMG China Tax Weekly Update (Issue 15, April 2017) for more details.
VAT implementation rules for construction and finance
On 11 July 2017, the Ministry of Finance (MOF) and SAT jointly issued Cai Shui  No. 58 (“Circular 58”). This sets out Value Added Tax (VAT) implementation rules for the sectors that transitioned from Business Tax (BT) to VAT in May 2016, including construction and financial services. Circular 58 takes effect from 1 July 2017 (rules for financial services will take effect from 1 January 2018), clarifying the following:
* You may access the following KPMG publications for VAT policies for construction and financial services issued after 1 May 2016 and their impacts:
- China Tax Alert: China’s new VAT rates & rules – Real Estate & Construction industry impacts (Issue 12, March 2016)
- China Tax Alert: New VAT rules applicable to Asset Management Products (Issue 22, July 2017)
- China Tax Alert: China's new VAT rates & rules – Financial Services impacts (Issue 10, March 2016)
Venture capital CIT and IIT incentives clarified
On 28 April 2017, MOF and SAT jointly issued Cai Shui  No. 38 (“Circular 38”). This clarified that, effective from 1 January 2017, a new tax incentive is provided to venture capital (VC) enterprises investing in science and technology enterprises at seed capital or start-up stage. Under this incentive, 70% of the investment amount can be offset against the taxable income of the VC enterprise for Corporate Income Tax (CIT) purposes. Furthermore, from 1 July 2017 equivalent Individual Income Tax (IIT) treatment will be provided for individuals investing through VC partnerships, as well as in an individual capacity as ‘business angels’
Circular 38 also provided that, VC enterprises must register and operate in compliance with the regulations on venture investment stipulated in the Provisional Measures for Venture Capital Enterprises (10 Departments Order No. 39) or Provisional Measures on Supervision and Administration of Private Investment Funds (CSRC Order No. 105) (See KPMG China Tax Weekly Update (Issue 18, May 2017), (Issue 23, June 2017) for details).
In addition to this, on 7 July 2017, China Securities Regulatory Commission (CSRC) issued “Q&A on Criteria and Application Procedures for Venture Capital Funds to Enjoy Tax Incentives”, clarifying additional qualifying criterion:
- The paid-up capital shall not be less than RMB30 million. Alternatively, the initial injected VC fund capital shall not be less than RMB10 million, and all the VC Fund investors shall undertake to raise the paid-up capital to not less than RMB30 million within five years of the VC fund business registration;
- The VC fund has operated no less than seven years;
- The VC fund has at least three senior management personnel with at least two years of VC investment or related business experience;
- Investments made in each target enterprise shall not exceed 20% of the total assets of the VC enterprises;
- The VC fund is limited to investing in non-listed enterprises but, where a target lists, or is acquired by a listed company in a share exchange, the VC fund may continue to hold the then listed shares;
- The VC enterprise must not engaged in guarantee business or real property business.
Where a VC fund meets the relevant requirements, the fund manager must, on an annual basis (by end April), complete and submit the application form as well as other materials to the local CSRC office where the fund is registered. The local CSRC office, upon receipt of the materials, will issue a certificate to the qualified VC fund for accessing the incentive. * For detailed implications of this new tax incentives, please refer to the following KPMG publication: