The OECD released International VAT/GST Guidelines on April 18, 2014. The Statement of Outcomes stated that more than 250 high-level officials of 100 jurisdictions endorsed a new set of the guidelines at OECD Global Forum on VAT held in Tokyo on 17-18 April.
Heavily favoring the ‘source based’ principle of international taxation, these guidelines have focused on the ‘destination based-consumption based’ methodology for VAT. This is a welcome relief for developing countries, who are dependent on foreign direct investment and import of technology for rapid economic development. OECD has endeavored to bring ‘neutrality’ for foreign businesses, meaning that they should be on a level playing field with local counterparts, in so far as VAT levy is concerned. How this neutrality would be implemented is a combination of diplomatic and bilateral equation.
On intangibles and services, which have been controversial subjects in the arena of international taxation, the OECD has proposed levying of VAT in the country of location of the customer (‘main rule’). This is to be determined based on business agreements. A proxy rule for determination of the taxing state has been reserved to ensure the Ottawa principles, thus favoring substance over form.The guidelines on services/intangibles ‘directly connected’ with immovable property is of particular interest. According to it, VAT is to be levied in the country of location of such property. Thus, OECD is effectively providing a GAAR like ‘look-through’ provision, wherein even though the transactions might be routed through intermediaries and subsidiaries (mostly in tax havens), the country of location of the immovable property gets the final taxing rights. This is also aligned to tax principles on levy of capital gains for disposal of immovable property. Although OECD’s proposal is for VAT, the ‘situs’ based taxation concept for immovable properties may analogously be applied to bring ‘Indirect transfers’ of other assets (other than immovable property) under the tax net!
While release of these guidelines are a welcome step, it would also be important for the OECD to harmonize destination based tax principle along with the OECD Model Tax Convention and the Transfer Pricing guidelines of 2010. Two points on which OECD needs to provide additional guidance:
Whether payment of VAT on destination/consumption based principles would be enough to have a ‘business connection’ or economic ‘nexus’ thus constituting a PE in the source state. Suitable amendment to Article 5 on PE of the Model Tax Convention may be necessary.
Whether the custom duty valuation as per VAT guidelines would suffice to satisfy the ‘Arm’s Length Principle’ for transfer pricing purposes. This assumes significance since OECD advocates levels of taxation to be consistent for foreign and domestic businesses. Such level of tax would be directly related to the ‘value’ of imports, since custom duty rates are ad valorem.
This is a particularly significant development for India, given that the country is likely to rollout GST reforms shortly. India was a panelist in first meeting of the OECD Global Forum on VAT held in Paris, France on November 07, 2012. Having taken an active part, it would only be logical for India to enact its GST laws in consonance with the OECD VAT guidelines. A multi-national organization would want complete clarity and certainty over all kinds of taxes – direct or indirect including any transfer pricing implications, before it undertakes any cross-border transaction. OECD has proposed that VAT considerations should not affect business decisions. To my mind, no form of tax should influence business decisions and act as a deterrent for businesses, which are operating under various market pressures and challenges. Ideally, the tail should not wag the dog!
The views are personal.
The author is thankful to Rahul Aggarwal, Tax Research Associate at BMR Advisors.