On March 22nd 2018, the Organisation for Economic Cooperation and Development (the “OECD”) published a report, providing additional guidelines on profit allocation to permanent establishments (the “Report”). The Report has been issued in the context of the OECD base erosion and profit shifting action plan and relates more particularly to action 7 on the prevention of the artificial avoidance of permanent establishment status (“BEPS Action 7”).
BEPS Action 7 recommended changes to the definition of a permanent establishment in the OECD model tax convention, which notably aimed at tackling permanent establishment avoidance through sales made through commissionaires or dependent agents that do not formally conclude contracts and at adapting the existing exclusions of permanent establishment status to digitalised businesses. As to the profit attribution rules, BEPS Action 7 mandated the OECD to develop additional guidance on how the existing rules should be applied going forward considering the changes to the definition of a permanent establishment.
The guidance contained in the Report responds to this mandate and provides for the general principles on the allocation of profits between the head office and a permanent establishment in the particular circumstances addressed in BEPS Action 7, including examples of commissionaire structures for the sale of goods, online advertising and the procurement of goods.
The Report also covers the profit allocation to the permanent establishment in case of application of the so called anti-fragmentation rule, recommended by BEPS Action 7, which prevents the non-recognition of permanent establishment status for activities that might be viewed in isolation as preparatory or auxiliary in nature but that constitute part of a larger set of business activities conducted in the source country by the enterprise if the combined activities constitute complementary functions that are part of a cohesive business operation.