tax notes international - Tuck School of Business - Dartmouth College
tax notes international - Tuck School of Business - Dartmouth College
tax notes international - Tuck School of Business - Dartmouth College
Create successful ePaper yourself
Turn your PDF publications into a flip-book with our unique Google optimized e-Paper software.
Home State<br />
Host State<br />
Figure 5. Authorized OECD Approach to Agency PEs<br />
Agent P&L<br />
Gross income 200<br />
Cost <strong>of</strong> services (150)<br />
Pr<strong>of</strong>it 50<br />
agency PE. 64 Considering, for example, the situation<br />
when the credit risk on accounts receivable is not<br />
borne by the dependent agent itself but directly by the<br />
principal, a reward for such risk will have to be attributed<br />
to the agency PE. 65<br />
One major aspect <strong>of</strong> the authorized OECD approach<br />
is that it leads to the treatment <strong>of</strong> the dependent<br />
agent and the agency PE as two different <strong>tax</strong>able<br />
entities. This means that the agency PE is not the dependent<br />
agent per se; its hypothetical existence is apart<br />
from the dependent agent and is derived because the<br />
general enterprise in the home state has a dependent<br />
agent in the host state. As a consequence, the authorized<br />
OECD approach challenges the widespread idea<br />
that the pr<strong>of</strong>it <strong>of</strong> an agency PE is zero by definition.<br />
Under the authorized OECD approach, it is not<br />
only the income earned by the dependent agent itself<br />
that matters but also the income the general enterprise<br />
earns through its agency PE in the host country. Whatever<br />
is paid to the dependent agent (for example, salary,<br />
fixed amount, or percentage <strong>of</strong> sales) should be<br />
considered as an expense in ascertaining the agency PE<br />
pr<strong>of</strong>its.<br />
This is precisely when the authorized OECD approach<br />
differs from the single <strong>tax</strong>payer approach. The<br />
payment <strong>of</strong> the dependent agent remuneration and its<br />
deduction on the computation <strong>of</strong> the agency PE pr<strong>of</strong>its<br />
does not mean that there will be no pr<strong>of</strong>its left. Those<br />
pr<strong>of</strong>its will be determined on the basis <strong>of</strong> the functions<br />
performed by the agency PE.<br />
In this context, it is possible that no pr<strong>of</strong>it be attributable<br />
to the agency PE depending on the functions<br />
performed by that PE. 66 Indeed, under the OECD report,<br />
there is no presumption that the agency PE will<br />
always generate pr<strong>of</strong>its, as it may well happen that little<br />
or no pr<strong>of</strong>it is attributed to it if only routine functions<br />
General Enterprise<br />
Permanent Establishment<br />
Agent<br />
are performed. Nothing prevents the general enterprise<br />
from organizing its business in the host state in a manner<br />
in which little or no functions are performed by the<br />
agency PE and, as a consequence, little or no <strong>tax</strong> must<br />
be attributable to it under the authorized OECD approach.<br />
The authorized OECD approach determines that the<br />
dependent agent be rewarded for the service provided<br />
to the nonresident enterprise on an arm’s-length basis;<br />
that is, taking into account its assets and risks, while<br />
the pr<strong>of</strong>its <strong>of</strong> the agency PE should be determined on<br />
the basis <strong>of</strong> the assets and risks <strong>of</strong> the nonresident enterprise<br />
in relation to the functions performed by the<br />
dependent agent on behalf <strong>of</strong> the enterprise, added by<br />
sufficient capital to support those assets and risks. 67<br />
By definition, the overall <strong>tax</strong>able income <strong>of</strong> the dependent<br />
agent plus the income <strong>of</strong> the agency PE<br />
(deemed to be independent) must be equal to the <strong>tax</strong>able<br />
income a company would earn in an arm’s-length<br />
transaction. In a simplistic fashion, the authorized<br />
OECD approach can be described on the basis <strong>of</strong> the<br />
example illustrated in Figure 5. 68<br />
Under the authorized OECD approach, there is a<br />
pr<strong>of</strong>it attributable to the agency PE in excess <strong>of</strong> the<br />
64 Pijl, supra note 9, at 30-31.<br />
65 Raffaele Russo, ‘‘Application <strong>of</strong> Arm’s Length Principle to<br />
Intra-Company Dealings: Back to the Origins,’’ Int’l Transfer Pricing<br />
J. (Jan./Feb. 2005), p. 14.<br />
66 Pijl, supra note 9, at 32.<br />
67 Bennett and Russo, supra note 58, at 282.<br />
SPECIAL REPORTS<br />
GE P&L<br />
Gross income 2,000<br />
Cost <strong>of</strong> goods (500)<br />
Agent fee (200)<br />
Pr<strong>of</strong>it 1,300<br />
PE P&L<br />
Gross income 2,000<br />
Cost <strong>of</strong> goods (1,000)<br />
Agent fee (200)<br />
Pr<strong>of</strong>it 800<br />
68 This example was drafted based on a similar diagram provided<br />
by Hans Pijl in ‘‘The Zero-Sum Game, the Emperor’s<br />
Beard and the Authorized OECD Approach,’’ supra note 9, at<br />
32.<br />
TAX NOTES INTERNATIONAL FEBRUARY 2, 2009 • 433<br />
(C) Tax Analysts 2009. All rights reserved. Tax Analysts does not claim copyright in any public domain or third party content.