HMRC has launched an important consultation on proposed reforms to the UK‘s transfer pricing, permanent establishment (“PE”) and Diverted Profits Tax (“DPT”) regimes. As well as a range of proposed technical amendments, several proposals will be relevant to businesses currently disputing HMRC’s approach to their transfer pricing or international structures.
Tax Litigation and Resolution partner Matthew Greene explains the changes here.
Transfer pricing and permanent establishments
A number of the transfer pricing changes under consideration are aimed at more clearly aligning the domestic law with wording in the Organisation for Economic Co-operation and Development (OECD) model treaty and the OECD transfer pricing guidelines, such as the scope of the term “provision” in the UK transfer pricing legislation. There is also discussion of a possible shift in the approach to the participation condition, with the possibility of a less prescriptive approach to identifying connectedness for transfer pricing purposes. This risks introducing an extra level of uncertainty into the regime.
Taxpayers, particularly those in a dispute with HMRC regarding their pricing, will be concerned at the suggestion in the consultation document that the requirement for a commissioner’s sanction prior to issuing a transfer pricing determination (typically a closure notice or discovery assessment bringing additional profits into charge) be scrapped. HMRC makes the point that its internal governance processes, such as the specific transfer pricing governance framework and Litigation and Settlement Strategy (which applies to all disputes), have developed since the commissioner’s sanction requirement was first introduced. That may be the case, but the commissioner’s sanction is still an important safeguard enshrined in statute, whereas HMRC’s internal governance is susceptible to unilateral changes by HMRC.
Further amendments under discussion include a broader approach to identifying non-arm’s length features in financial transactions, alignment in the valuation approach for the transfer pricing and intangibles regimes and changing the intra-UK transfer pricing regime to make it more focused on those transactions posing the most risk to the UK tax base.
In relation to PEs, the consultation focuses on expanding the definition of the PE in domestic legislation to better reflect the OECD model treaty, and alternative means of doing so are considered.
Diverted Profits Tax
The section on DPT will be of particular interest to taxpayers with ongoing disputes with HMRC over their transfer pricing and cross-border structures.
The consultation looks at the possible integration of DPT into Corporation Tax. In principle, this could provide a welcome simplification in terms of preventing double taxation and facilitating greater access to the Mutual Agreement Procedure in cases of disputes where appropriate. There is no intent to water down the substantive aspects of the DPT regime, though. A DPT charging notice would potentially be replaced by a similar Corporation Tax Diverted Profits Assessment.
It remains to be seen how the revised regime would address avoided PEs and how this could interact with the possible changes affecting PE definitions (see above). It also looks likely that the Insufficient Economic Substance Condition will be “clarified”, to use HMRC’s terminology. A welcome indication of greater flexibility, however, is that the government is considering amendments to the legislation to allow a DPT assessment to be amended even where the DPT liability has not been paid, but only in as yet unspecified circumstances.
The consultation closes on 14 August 2023. Cross-border businesses and advisers will await the response to the consultation with interest.
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