While governments are implementing stringent cost cutting measures to control expenditures, there has been a growing perception that the general public must bear a higher tax burden than necessary because some taxpayers are not paying their fair share.
In this environment, organizations and their tax strategies have come under significantly increased scrutiny. Between activist groups and the media, many organizations have been called out for not paying their "fair share" of tax. That is not to say these organizations weren't paying all of the taxes they were required to pay under the law. Instead, the amount they were seen to be paying was deemed to be insufficient in the court of public opinion.
No one – individual or organization – wants to pay more tax than they owe, and the purpose of tax planning is to ensure that unnecessary tax expenses are not incurred. Tax law, however, is often very complex with many grey areas where the ultimate effectiveness of a particular tax strategy is only determined through a court decision. Nevertheless, some indicators of possible abuses that will likely attract the attention of tax authorities and the public include:
- unnecessarily complex organizational structures
- entities incorporated in jurisdictions where the organization has no business activities
- significant amounts of permanently reinvested earnings in foreign jurisdictions
- low consolidated effective income tax rates, and
- geographic disconnects between where profits are earned and taxes are paid.
The boundaries of an organization's tax management strategy should be set by the board of directors and/or audit committee and the organization's Chief Tax Officer and the Chief Financial Officer. The board needs to ensure that the organization employs tax strategies that are well founded in tax law, and also understand how those strategies may be perceived in the court of public opinion.
Canadian tax developments
In 2014, the Canadian government proposed to continue its efforts to address international aggressive tax avoidance by:
- Ensuring that financial institutions do not avoid paying Canadian tax on income associated with the insurance of Canadian risks through the use of derivative "insurance swap" arrangements between foreign affiliates of Canadian taxpayers and third parties.
- Ensuring that the offshore regulated bank provisions are not inappropriately used to circumvent the foreign accrual property income rules through foreign affiliates that are not part of a Canadian financial institution group.
- Ensuring that non-residents cannot avoid Canadian withholding tax or thin capitalization rules by entering into back-to-back loan arrangements with third-party financial intermediaries to effectively make indirect loans to their Canadian subsidiaries.
- Inviting comments from stakeholders on a proposed rule to prevent treaty shopping.
- Inviting input from the public on issues related to international tax planning by multinational enterprises and other cross-border tax integrity issues, such as ensuring the effective collection of sales tax on e-commerce sales to Canadians by foreign-based vendors.
These new measures follow the earlier introduction of reporting requirements in respect of certain transactions that are considered to be for the purposes of tax avoidance.
Canada and other G20 countries are concerned about the erosion of their tax bases. In Canada, the Department of Finance has introduced legislation that addresses certain tax planning ideas that are considered to have unintended consequences. This legislation is in addition to Canada's general anti-avoidance rule (GAAR), which addresses abusive tax planning and includes various specific anti-avoidance rules. The House of Commons Standing Committee on Finance has also released a report,
Tax Evasion and the Use of Tax Havens, which provides various recommendations, including greater international cooperation among countries and their tax authorities.
The Canada Revenue Agency's commitment to "combat international tax evasion and aggressive tax avoidance" is supported with an investment of $15 million, which is dedicated exclusively to international compliance issues and revenue collection. This follows the recent implementation of a large business audit strategy, which is based on a taxpayer's risk categorization that is determined by its corporate structure, audit history, industry sector issues, existence of unusual and/or complex transactions, international transactions, participation in perceived aggressive tax planning, level of corporate governance and openness and transparency.
The Organization for Economic Co-operation and Development (OECD) has published an Action Plan on Base Erosion and Profit Shifting (BEPS), which sets out 15 areas for further work and a timetable for completion. The leaders of the G-8 and the G-20 have endorsed the project.
The OECD's objective, with support from the G20, is to have countries adopt a common platform regarding international taxation, thereby eliminating competition between countries based on income taxes. The measures the OECD are proposing will remove some of the sovereignty that countries now have related to income taxes. For the OECD plan to succeed, all countries must agree to adopt the new rules, which will require them to change both their domestic laws and all of their current tax treaties. Since that could be a lengthy process, the OECD is proposing a novel and untried approach of enabling countries to implement a multilateral instrument that would change all of their tax treaties with one measure. Time will tell whether or not all countries will agree to accept the OECD's plan, and whether the multilateral instrument will prove to be an effective way to amend their tax treaties.
Organizations should begin preparing for the proposed changes. At a minimum, multinational organizations should prepare for an increase in documentation and disclosure requirements. A potential outcome of the OECD's project is that multinational organizations that have, for example, taken advantage of the tax incentives available in a particular country in return for operating in that country may find these arrangements are no longer effective. Audit committees should carefully determine which of the organization's tax structures might be affected and in what countries. They should ask management to determine the potential impact on the organization's effective tax rate and, therefore, on its financial statements.
Working together for fairer taxation (European Commission, September 2016)
Reflections on the tax havens phenomenon (CPA Quebec brief, May 4, 2016)
Revenue Mobilization and International Taxation: Key Ingredients of 21st-Century Economies (Remarks by Christine Lagarde, Managing Director, International Monetary Fund, February 2016)
Directors Briefing: Board Oversight of Tax Risk (CPA Canada, April 2013, 32-page PDF file)
Accounting Devices and Fiscal Illusions (International Monetary Fund, March 2012, 24-page PDF file)