Liam Lynch, Head of Tax, KPMG Ireland Financial Services, and Ciara Wrafter, tax Director take the pulse of the rapid pace of change in international tax matters and consider how this affects the Irish tax regime for insurance companies.
Changes in domestic tax are augmented by measures being introduced throughout the European Union (EU). Looking ahead, global proposals under the Inclusive Framework could potentially see revised rules for the allocation of profits and taxing rights of companies operating internationally.
What is perhaps less recognised is the level of change we are experiencing from the impact of technology. Tax authorities across the globe are drawing upon ever greater volumes of reported financial data related to taxpayers and are using this in risk assessment and tax compliance interventions. It may not always be clear if the cost and administrative burden placed on business of collecting and reporting this information is adequately weighed up when considering the ever growing range of data which is collected.
In this article, Liam and Ciara review developments in Ireland in the context of an international political landscape shaped by perceptions of equality and fairness, and a technological landscape that has transformed the level of data reported and the tools available to analyse it.
Liam and Ciara set out below a brief round-up of the major changes, both enacted and prospective.
The Organisation for Economic Corporation and Development (OECD) is working as a secretariat to support participating jurisdictions in the Inclusive Framework in a programme of work which is designed to reshape the architecture of international taxation for multinationals. Broadly described as a work programme which is designed to address the challenges of the digitalised economy, the scope of work being undertaken under Pillar One and Pillar Two could have an impact on the jurisdictions in which profits are taxed of multinationals in the insurance sector.
Work under Pillar One is seeking to develop consensus on a ‘unified approach’ which would see a greater amount of the residual profits of multinationals that interface directly or indirectly with consumers allocated to the consumer market jurisdictions. An amount, known as Amount A could be calculated based on a fixed rate percentage of the consolidated accounting revenues of a multinational and allocated using a formulary approach and identified factors to jurisdictions with which the multinational has sufficient economic links. Based on consultation feedback on the work to date on the Pillar One proposals, it appears that it is possible that a comparatively small amount of a multinational’s deemed residual profits could be reallocated to market jurisdictions under Amount A. Although much of the detail of the proposals remains to be considered, it appears that participating jurisdictions in the Inclusive Framework are moving towards reaching a consensus on an approach to Pillar One.
Of potentially greater concern to insurance groups are the proposals under Pillar Two which seek to reach global agreement on a fixed minimum effective tax rate. If the profits of foreign subsidiaries of a multinational are not taxed at or above the agreed minimum effective tax rate, the parent company jurisdiction could impose additional top up taxation on the parent. This is known as an income inclusion rule.
Complementary rules could apply under Pillar Two where cross-border payments are made to an associated party who does not satisfy the minimum effective tax rate test. Under these rules, if a payment is not subject to tax at the threshold effective tax rate, a deduction could be denied for the payment or withholding taxes imposed or tax treaty benefits denied for the payment.
A public consultation has recently concluded on exploring the possibility of using adjusted accounting profits and the tax charge in financial statements prepared under the parent company’s accounting standards as the basis for estimating the effective tax rate. Also under consideration is the question of whether the effective tax rate on the profits of foreign subsidiaries should be done by adopting a global blending approach and calculating the effective foreign tax rates of all foreign subsidiaries taken together of a parent or if blending of entities’ tax rates should be done on a jurisdiction by jurisdiction basis or an entity by entity basis.
When considering the scope of payments to reinsurance entities, for example, which may be based in low-taxed jurisdictions, the consequences of applying a minimum effective tax rate test on a jurisdiction by jurisdiction basis could see deductions denied or treaty benefit denied for payments. Feedback to the consultation suggests that many respondents believe that calculating effective tax rates on blended global basis is more achievable from a practical and cost perspective – but still presents a great deal of complexity. Some jurisdictions, including Ireland are uncertain as to the potential benefits of such measures in an international environment where the final outcome is not yet known from the effect of many, recently introduced, measures that are designed to restrict base erosion and to align the allocation of profits with economic substance.
The next stage in the proposal is for the OECD to provide feedback to the Inclusive Framework at a meeting to be held in January 2020. It still remains the objective of the Inclusive Framework to reach consensus on the two pillars taken together and to have an agreed design of the measures by the end of 2020.
Ireland has adopted rules relating to mandatory disclosure of certain cross-border arrangements under the amending Directive for Administrative Cooperation in relation to tax matters (‘DAC 6’). The rules enacted in Finance Act 2019 apply to reportable cross-border arrangements the first step of which was implemented on or after 25 June 2018. The reportable arrangements are those that meet descriptions set out in a number of specific hallmarks. Information reported to the Irish Revenue authorities is then shared with other taxing authorities in the EU.
Some of the reportable arrangements are linked to a main benefit test and are reportable only where the main benefit, or one of the main benefits, related to the cross-border arrangement is the obtaining of a tax advantage. The hallmark related to the provision of standardised products is linked to a main benefit test. The potential application of information reporting under this hallmark to, for example, the cross border provision of insurance based savings and pensions products is of concern as the customer can obtain tax relief such as a tax exempt payment to the policy holder or beneficiaries under the insurance policy. Could the obtaining of a tax benefit be said to be one of the main benefits of these products?
Other hallmark descriptions are not associated with a main benefit test and require reporting even for de minimis amounts and even if there is no related tax benefit from the overall arrangement. These include hallmarks which describe arrangements which involve a deductible payment to an associated person where the recipient is not resident anywhere for tax purposes. One of the uncertainties associated with the interpretation of this hallmark is whether it could require reporting of intragroup premiums and other deductible payments made by EU counterparties to a group reinsurance company established in a jurisdiction such as Bermuda which has no local tax concept of residence or to an entity that has been subject to a ‘check-the-box election and hence is a disregarded entity for US tax purposes and not tax resident anywhere.
Although the measures are being implemented across EU Member States under DAC 6, in practice we are finding that there are likely to be differences in the interpretation of the hallmarks across Member States. This could mean that, for example, a cross-border arrangement might be considered to be reportable in Germany but not in Ireland and vice versa.
KPMG is working with clients to develop tools and processes in order that insurance groups operating internationally can put in place procedures to support compliance with these complex reporting obligations. Once reporting commences on a ‘real-time basis’ from August 2019, reporting is required within 30 days of the reporting trigger event. Additional complexity arises under these obligations where a multinational operating in a number of jurisdictions may find itself with different interpretations on the scope of reporting and in identifying individuals responsible for identifying reportable arrangements and making the reporting. In-house tax and support teams that provide assistance in implementing reportable arrangements can be regarded as acting as intermediaries which triggers a reporting requirement – but these may not always be experts in tax matters or understand the potential wider tax reputation risks for the organisation of failure to make an appropriate and timely report.
KPMG has been working with companies to assess and workshop the potential scope of the reporting requirement within their groups. We have also identified the importance of good communication, governance and controls in the course of developing a KPMG EU Mandatory Reporting tool which can facilitate a consistent and efficient approach to information capture, approval and reporting in businesses which operate across multiple divisions and jurisdictions.
Ireland has also implemented anti-hybrid rules in Finance Act 2019 which are aligned with the framework for hybrid mismatch measures set out in the EU Anti-Tax Avoidance Directive (ATAD). The measures apply to payments made or arising on or after 1 January 2020.
It is understood that the policy intent behind Ireland’s measures is not to go beyond the scope of hybrid mismatches set out under ATAD. Nonetheless, the measures can be complex to understand and implement in practice as it is necessary to test each of a number of separate potential hybrid mismatch outcome before determining that no mismatch outcome is counteracted under the measures.
Particularly in circumstances where insurance companies operate under international branch structures, they will need to test for the inclusion in taxable profits of payments from group members and of deemed payments between head office and a branch and between branches. This is to ensure that a deduction without inclusion outcome does not arise which should be counteracted by denying a deduction for the payment or deemed payment.
For groups that have transactions with associated persons within a US tax framework, they can find that entities that have been subject to a ‘check-the-box’ election for US tax purposes are considered to be hybrid entities. This hybridity requires careful consideration of the potential application of the hybrid entity mismatch measures.
Taxpayer and tax practitioners alike are just getting to grips with the potential scope of application of these measures.
The other area where Finance Act 2019 has introduced new measures is the introduction of a new transfer pricing regime in Ireland which applies for accounting periods beginning on or after 1 January 2020.
Consideration of transfer pricing is not a new area for insurance groups but some of the changes to Ireland’s transfer pricing regime are quite extensive in nature. For example, while the extension of the scope of Ireland’s transfer pricing regime to non-trading transactions might not have an impact on too many intra group transactions, the exception that applies under Ireland’s rule for intra Ireland transactions can be narrower than you might think. In circumstances where your insurance group has holding companies and makes interest free loans between holding companies and subsidiaries to facilitate, for example, the smooth payment of dividends through chains of intermediary holding companies, etc. you may find that those arrangements remain within the scope of transfer pricing and are not eligible for the domestic exclusion.
In tandem with extending the scope of Ireland’s regime, enhanced transfer pricing documentation obligations have been introduced which are aligned with the OECD’s documentation requirements related to transfer pricing matters. The new provisions require taxpayers to prepare supporting documentation by the date on which the tax return for the period is due and to have these available to deliver to Revenue within 30 days of request. The penalty for non-delivery within the required period is a fixed fine of €25,000 plus €100 per day for further delay. There is no discretion provided in legislation with regard to the amount of or the application of the penalty.
Ireland’s tax regime is not operating in a vacuum. The increasing scope and complexity of domestic taxing measures and tax related information reporting obligations imposed on insurance companies seems set to continue to expand as we look more broadly at the international tax environment.