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Over the last decades, bilateral tax agreements, concluded by nearly every jurisdiction in the world, have served to prevent harmful double taxation and remove obstacles to cross-border trade in goods and services, and movements of capital, technology and persons. This extensive network of tax agreements has, however, also given rise to treaty abuse and so-called “treaty-shopping” arrangements.
Treaty shopping typically involves the attempt by a person to indirectly access the benefits of a tax agreement between two jurisdictions without being a resident of one of those jurisdictions. There are a wide number of arrangements through which a person who is not a resident of a jurisdiction that is a party to a tax agreement may attempt to obtain benefits that a tax agreement grants to a resident of that jurisdiction.
Taxpayers engaged in treaty shopping and other treaty abuse strategies undermine tax sovereignty by claiming treaty benefits in situations where these benefits were not intended to be granted, thereby depriving jurisdictions of tax revenues.
Treaty abuse is one of the most important sources of BEPS concerns. It is undesirable for several reasons, including:
- Treaty benefits negotiated between the parties to an agreement are economically extended to residents of a third jurisdiction in a way the parties did not intend. The principle of reciprocity is therefore breached and the balance of concessions that the parties make is altered;
- Income may escape taxation altogether or be subject to inadequate taxation in a way the parties did not intend; and
- The jurisdiction of residence of the ultimate income beneficiary has less incentive to enter into a tax agreement with the jurisdiction of source, because residents of the jurisdiction of residence can indirectly receive treaty benefits from the jurisdiction of source without the need for the jurisdiction of residence to provide reciprocal benefits.
As part of the BEPS package, the Action 6 Report sets out one of the four BEPS minimum standards, which is that members of the BEPS Inclusive Framework commit to include in their tax treaties provisions dealing with treaty shopping to ensure a minimum level of protection against treaty abuse. They also agreed that some flexibility in the implementation of the minimum standard is required as these provisions need to be adapted to each jurisdiction’s specificities and to the circumstances of the negotiation of tax agreements.
The minimum standard on treaty shopping requires jurisdictions to include two components in their tax agreements: an express statement on non-taxation (generally in the preamble) and one of three methods of addressing treaty shopping.
To foster the implementation of the minimum standard and other BEPS treaty-related measures in the global treaty network, a Multilateral Instrument (the MLI) that can modify existing bilateral tax agreements was concluded.
The implementation of the Action 6 minimum standard is subject to a peer review process. The first peer review on the implementation of the Action 6 minimum standard was carried out in 2018. The peer review for 2019 is currently ongoing.
Peer reviews
The first peer review on the implementation of the Action 6 minimum standard reveals that a large majority of Inclusive Framework members have begun to translate their commitment on treaty shopping into actions and are now in the process of modifying their treaty network. In total, on 30 June 2018, 82 jurisdictions had some treaties that were already compliant with the minimum standard or that were going to shortly comply.
The first peer review shows the efficiency of the Multilateral Instrument (MLI) in implementing the minimum standard and the other treaty-related BEPS measures. It is by far the preferred tool of Inclusive Framework members for implementing the minimum standard. The majority of the jurisdictions that have signed the MLI have listed almost all their treaties under the MLI.
As of 1 January 2019, the provisions of the MLI started to take effect with respect to some treaties. For the treaties for which the MLI is effective, tax administration can now use effective treaty provisions to put an end to treaty-shopping.
More on the MLI