The OECD Secretariat has issued updated guidance on the tax treatment of the cross-border working arrangements impacted by the COVID-19 pandemic. Its tax scenarios address creation of permanent establishments, interruption of construction sites, changes in residence for entities and individuals, and new taxing rights over the employee’s income that may arise in other jurisdictions.
The guidance note intends to enhance tax certainty during the time when public health measures addressing COVID-19 are in effect. It represents the Secretariat’s view and the general approach of various jurisdictions on the interpretation of the provisions of tax treaties which can be viewed as authoritative support when assessing the tax impact cross-border working arrangements affected by the pandemic.
That being said, domestic tax administrations are expected to have the final say, based on their detailed examination of specific facts and circumstances in each case.
In this alert, we summarize our observations on the new OECD guidelines.
Tax treaties play an important role in minimizing the risk of double taxation for employers. Whether a tax treaty assesses the tax consequences of cross-border working arrangements on employers or employees, its provisions and their application are critical to the avoidance of double taxation. As a result of pandemic work-from-home measures, many employers find themselves with employees, especially senior executives, working from home in a country other than their usual place of employment. In such cases, the risk that the employer may be taxable in the country where these employees are working could be minimized by applying current international guidance on the concepts of “residence” and “permanent establishment.”
A company’s residence status under a tax treaty would not be expected to change simply because of the temporary working arrangements necessitated by the COVID-19 pandemic. Even when the domestic law of certain countries may consider a company to be a resident as a result of the working arrangements of certain employees, the treaty tie-breaker rule would ensure that the residence status of an entity is tied to its “usual” or “ordinary” place of effective management.
Further, employers would not normally be considered to have a permanent establishment when the working from home arrangements were temporary in nature as the employees’ home offices do not constitute a fixed place of business of the employers as it lacks a degree of permanency or continuity, and is generally not at the disposal of the employers.
Similarly, any exercise of authority to conclude contracts during the temporary working arrangements would not be sufficiently “habitual” to create a dependent agent permanent establishment.
Double taxation risk remains for cross-border construction projects. For companies that have construction projects and installation work that were interrupted by the pandemic, the latest OECD guidance offers some reassurance that the period where construction work stopped because of the pandemic would be excluded from the calculation of the time thresholds to determine whether the construction site creates a permanent establishment that would be taxable in the country where the construction site is located.
However, this interpretation is contrary to normal international standards, which would count the duration of any temporary interruption when determining whether a construction site constitutes a permanent establishment – a 12-months test under the OECD Model or a six-months test under the UN Model. Despite OECD’s call on tax administrations to exclude certain periods from the calculation of time thresholds for construction site PEs, significant risks remain for construction sites to be considered taxable as permanent establishments despite any temporary closures caused by the COVID-19 pandemic.
Double taxation risk remains for employees working in a country that is different from their employers’. The taxation consequences for employees are typically more complicated than those of their employers, because there are often specific facts and circumstances that affect where these employees would be considered taxable in a cross-border working from home dilemma – eg, employees stranded in host jurisdictions while temporarily away from home and those jeopardizing a newly acquired tax residency by returning to “their previous home jurisdiction.”
That being said, the residence status of employees under a tax treaty is unlikely to be impacted by temporary arrangements caused by the pandemic. Wherever these employees end up working, they are likely to be considered a resident of the countries in which they were considered a resident before the pandemic under the tiebreaker rule of an applicable tax treaty.
The risk of double taxation on the employment income of cross-border workers remains unresolved in many situations. The OECD guidance outlined examples where employees working remotely from one jurisdiction for an employer of another jurisdiction could become taxable in the country where the employers are located and in the country where the employees exercise their employment during the pandemic. These examples highlight double taxation risk arising from the taxation of employment income between resident and work states and potential filing and administrative obligations that may arise from cross-border teleworking. The double taxation concerns require “an exceptional level of coordination between jurisdictions” and, where relevant, the use of mutual agreement procedure. As wage taxes are often withheld at source, employers and employees would be well advised to look into their specific circumstances more closely to mitigate their own compliance and administrative costs, not to mention the very real double taxation risk.
The new normal – watch out for international tax exposure when cross-border working arrangements become a permanent feature of your business. Where working arrangements have been redefined and modified in ways that go beyond the circumstances dictated by the COVID-19 pandemic and are likely to be considered a permanent and ongoing feature for employers, the associated tax impact of the new arrangements would need to be considered anew. The latest OECD guidance stresses the temporary nature of working arrangements caused by the pandemic; it does not offer any suitable solution for the mitigation of double taxation for more permanent changes that may be put in place after the pandemic. The impact of such arrangements on employers, such as where they are resident and whether they have a permanent establishment in the countries where the employees are located, would need to be assessed alongside the tax implications for employees. Tax treaties would be expected to play an important role in mitigating any potential double taxation under any cross-border working arrangements.
The revised OECD guidance provides a degree of enhanced tax certainty for employers and employees involved in cross-border working arrangements during the extended COVID-19 period. The interpretation of double tax treaties discussed by OECD is premised on the temporary nature of this extraordinary pandemic event. Nonetheless, governments may have different perspectives on what should be considered a temporary or a short-term event; the actual approaches may range from a 60-day window to a formal extension of the pandemic term until December 2021.
To enhance the baseline tax certainty provided by the new OECD guidance, businesses and individuals should consider the following:
- Review pre- and post- COVID-19 cross-border working arrangements.
- Prepare and maintain a record of the facts and circumstances underpinning each cross-border working arrangements resulting from public health measures to prevent the spread of the COVID-19 virus, including travel disruptions, quarantines, and border closures, initiated by at least one of the governments of the jurisdictions involved.
- Review and document “ordinary place of management” and where contracts were concluded “habitually” under ordinary circumstances.
- Assess the degree of permanency for the home office arrangements of your employees.
- Assess the extent and frequency of the conclusion of contracts under the cross-border working arrangements during the pandemic.
- Review your cross-border working arrangements for employees and assess whether these arrangements are the new normal for your business – adapt and plan accordingly.
- Proactively engage with local tax authorities to agree on filing positions.
Please contact the authors or your usual DLA Piper advisors to learn more about the impact of COVID-19 on your cross-border working arrangements.
This information does not, and is not intended to, constitute legal advice. All information, content, and materials are for general informational purposes only. No reader should act, or refrain from acting, with respect to any particular legal matter on the basis of this information without first seeking legal advice from counsel in the relevant jurisdiction.