OECD PE developments

OECD releases additional Administrative Guidance on Pillar Two

On 18 December 2023, the OECD/G20 Inclusive Framework on Base Erosion and Profit Shifting (BEPS) released additional Administrative Guidance on the Global Anti-Base Erosion (GloBE) Model Rules, which provide information on a series of technical issues under the GloBE Rules, including issues related to Permanent Establishments (PEs).

The December Guidance addresses some areas related to the Transitional Country-by-Country Reporting (CbCR) Safe Harbour that tax administrations and Multinational Entity (MNE) Groups identified as requiring further clarification. One of these areas involves the Qualified Financial Statements (QFSs) for PEs. In cases where a QFS are not available for a PE, the MNE Group may determine the portion of the Main Entity's Total Revenue and Profit Before Taxes attributable to the PE using separate financial statements that the Main Entity prepared for the PE for financial reporting, regulatory, tax reporting or internal management control purposes.

Moreover, the December Guidance covers various questions related to the Simplified Effective Tax Rate (ETR) Test under the Transitional CbCR Safe Harbour. Among other things, it clarifies that only the income tax expense incurred in the PE jurisdiction on the PE's income may be included in the Simplified ETR Test for the PE jurisdiction and shall not be included in the Simplified ETR Test for the Main Entity's jurisdiction.

Additionally, the December Guidance deals with Non-Material Constituent Entities (NMCEs). Specifically, when a Main Entity with a PE is consolidated on a line-by-line basis, the PE is not considered an NMCE regardless of its size or materiality. However, if the Main Entity is an NMCE, all its PEs are also considered NMCEs.

PE caselaw

India High Court confirms existence of a PE

On 22 December 2023, the Delhi High Court delivered a judgment confirming the existence of a PE in India. The case, covering multiple assessment years, involved a hotel chain's appeal against orders by the Income Tax Appellate Tribunal (ITAT) of Delhi. The ITAT had upheld the tax authorities' decision, deeming the service charges received by a nonresident in the United Arab Emirates (UAE) from an Indian company as taxable royalty. The ITAT also concluded that the nonresident had a PE in India under the India-UAE tax treaty provisions. Challenging this, the nonresident cited another Delhi High Court decision, arguing that no income could be attributed to the Indian PE, as the head office incurred losses.

Regarding the PE's existence in India, the High Court referenced the ITAT's findings and Supreme Court decisions, concluding that the nonresident's significant control over hotel operations indicated a PE in India. Regarding the profit attributable to PE, the High Court observed that profits of a PE must be independently considered despite losses at the head office. The Court also confirmed the ITAT's instructions regarding submitting detailed financial information by the assessee. However, in view of its earlier decision (cited by the nonresident), the High Court directed the question of income attribution to a larger bench (i.e., a bench comprising typically three or more judges) in a scenario where loss is incurred at an entity level.

Other PE developments

Netherlands and Belgium sign agreement on home office PE

On 8 December 2023, the Netherlands and Belgium signed a competent authority agreement, clarifying the interpretation of the PE provision of Article 5 of their tax treaty. This agreement focuses on whether a home office of an employee who works from his country of residence for an employer that is resident in another country constitutes a PE.

The agreement states that if an employee works from home irregularly or occasionally, not part of a fixed work pattern (i.e., regular work from home), the home office should not constitute a PE. In contrast, a home office that is part of a fixed work pattern may be considered a PE if the home office is factually at the disposal of the employer. This occurs when the employer mandates work from home. If an employee chooses to work from home, while having the option to work at the employer's office, then typically no PE is established. This is because in such cases the employer does not mandate working from home and thus the home office cannot be considered at the employer's disposal.

Furthermore, the agreement lists indicative factors to determine if a home office can be considered at the employer's disposal, as this is a factual assessment that should be tested on a case-by-case basis. These include contractual home office requirements, the actual absence of a workplace at the employer's location, and the employee's inability to unilaterally cease using the home office without impacting their work performance. The employer's provision of resources for setting up a home office is deemed irrelevant in determining a PE.

Additionally, two practical considerations are included in the agreement. First, a home office should not constitute a PE if an employee works from home for 50% or less of their total working time in a 12-month period, starting or ending in the relevant tax year. Second, preparatory or auxiliary activities should not be considered constituting a PE.