IFA 2017 Annual Conference - Stephanie Smith on MLI
This summarizes answers given respecting the Multilateral Instrument (MLI) by Stephanie Smith, Senior Chief of the Tax Treaties Section, Tax Legislation Division, Tax Policy Branch at the Department of Finance. Her answers were given as part of the Multilateral Instrument/Treaty Update presented at the IFA annual conference held in Toronto on 25 April 2017, which was moderated by Patrick Marley (Osler, Hoskin & Harcourt), and presented (along with her) by Jesse F. Eggert (KPMG, Washington D.C.), Hersh Joshi (Ontario Teachers' Pension Plan), and Juan Carlos Trujillo Barrosso (Deputy General Director of International Treaties, Ministry of Finance and Public Credit of Mexico).
Q.1 What is the Canadian MLI Schedule?
In the 2017 Budget, the Canadian government announced that it was pursuing signature of the MLI and was undertaking the necessary domestic approval processes to do so. I have been asked: What does that mean; what are the domestic approval processes; and when might entry into force and entry into effect occur?
First, to sign an international tax treaty, the Treaty must be approved by Cabinet - i.e., Cabinet must give policy approval to signing the particular instrument, and this would include the MLI. The process requires that a memorandum to Cabinet be drafted. Because it involves an international instrument and tax treaty, the memorandum is a joint document prepared the Ministers of Finance and Foreign Affairs. The memorandum will go to Cabinet to be approved, and will then go to a second Cabinet committee in order to be “ratified.”
Following approval by Cabinet to proceed with signature, an Order in Council must be obtained to list the individuals who are entitled to sign and bind Canada to the particular instrument. A document of full powers will be prepared and presented to the depositary of the Convention, who is the OECD secretary.
Let us assume, for the sake of working out a timeline, that Canada will sign in the summer of 2017. At that time, Canada will list its preliminary notifications and reservations. Following signature, treaty policy in Canada requires that the treaty be tabled for a 21 sitting-day period in the House of Commons. Parliament typically does not come back to sit until the end of September. Therefore, assuming a summer signing, the Treaty could be tabled then - or, more realistically, the first week in October. The 21-day period would then expire in mid-to-late-November. During that period, members of Parliament can ask questions or bring motions, although our experience with tax treaties is that this is unlikely.
Following the completion of the sitting-day period, the Department of Finance would prepare a bill to implement the MLI into domestic law, and to resolve inconsistencies with domestic law – similar to what has to be done for implementing a bilateral tax treaty. We are still in the process of consulting with Justice and Global Affairs, in terms of the exact structure of an implementing bill.
If we assume that a bill is introduced in late 2017 or early 2018, it would likely need to be debated in both Houses of Parliament, and it likely would need to be sent for study to one or both of the Finance Committee and the Banking Committee. I have then assumed that Royal Assent to that bill would be received in mid-2018. Following the Royal Assent, Canada would be in a position then to request an Order in Council to send its notice of ratification, indicating that Canada has followed the domestic processes necessary to implement the Treaty. I would expect that an order from the Treasury Board, which is needed for an Order in Council, could be received in August 2018. The letter of ratification could then be sent in the same month.
If that happens then, as per the MLI, there would be an entry into force in Canada of December 1, 2018. Now that is only the entry into force, and that assumes that there have been four countries that have been faster than Canada, because there is a requirement that five countries provide their notice of ratification before the MLI itself enters into force.
If we look at the entry into effect, there are some delays built in – if it enters into force on December 1, 2018, then there will be an entry into effect on January 1, 2019 for withholding taxes, with respect to another treaty jurisdiction that has also had the MLI treaty enter into effect, and where the two states have listed each other. For all other taxes, the treaty only applies to taxable periods on or after six months after the coming into force, which in the above scenario would be for taxable periods on or after June 1, 2019. Looking at a calendar year taxation period, that would mean the entry-into-effect periods would start on January 1, 2020.
Q.2 How would the MLI Preamble have affected Canadian Treaty-shopping cases?
From a Canadian government perspective and from the perspective of all of the work that has been done internationally, there is a recognition that treaty-abuse exists and that it is not consistent with the object and purpose of a tax treaty. If there now is a treaty that has included that preamble language (which is a minimum standard and to which all countries have agreed), I think there is an expectation (or, at least, the hope) that courts, in contemplating what are the context and the object and purpose of the treaty, would refer to that preamble provision and to some of the international work and significant support that has been provided and, as a result, have a different analysis in a subsequent treaty-shopping case.
Q.3 What is the MLI Arbitration Clause background?
The arbitration provision in the MLI is Part 6. Its structure differs in some respects from the rest of the MLI – it is a single cohesive arbitration provision and it does not have compatibility clauses with respect to each article.
As to how the compatibility works, the general rule is that both parties must opt into arbitration. This difference reflects the lack of consensus on arbitration among the 100-plus countries that developed the MLI.
This provision will generally apply to any treaty which does not provide for arbitration; it will also apply to treaties where there is an arbitration provision. However, a country can make a reservation to specifically keep the existing provision that is in place between two parties. For example, if either of the UK or Canada make a reservation and say they would prefer to keep the existing provision between Canada and the UK, then it would continue to apply and the MLI arbitration provision would not apply between those two countries.
The provision itself provides a number of default rules as to how the arbitration will take place, but provides significant flexibility to competent authorities to agree to different rules. As a result, it is recognized that work will be necessary to develop a model competent authority agreement to deal with a number of procedural and operational details. If we reflect on the agreement between Canada and the US, there is a change to the treaty provision itself; there is a fairly lengthy diplomatic note, which was Annex A to the 2007 protocol; and there also is a memorandum of understandings setting out additional rules, and there are board operating guidelines. All of that comprises 24 pages. Thus, it is apparent that the MLI material that has been developed will not be sufficient, by itself, to actually undertake arbitration.
Now, looking at the structure of the arbitration provision that are in the MLI, we should consider the two greatest influences on the drafting of the MLI – the EU Arbitration Convention, and the Canada-US Tax Treaty. Accordingly, you will find some of the elements to be very familiar - and you will also find things that may not be so familiar.
The scope of the arbitration provision would essentially cover all cases under Paragraph 1 of the MAP article that have not been resolved within the specified period. The default period is two years, which matches what is in the Canada-US agreement. With the UK Treaty, there is a three-year period - and the MLI does allow a reservation by a country to use a three-year period, so that if either country does so, then the three-year period applies between them.
The MLI arbitration provisions follow the usual rule that, once a country has listed the covered tax agreements, it must effectively offer arbitration under all of those covered tax agreements.
As noted, the MLI would cover all cases under Paragraph 1 of Article 25. In the Canada-US treaty and the Canada-UK treaty, the arbitration provision has a more limited scope – it is limited to issues arising under specified Articles, and those are largely cases where the issues turn on factual determinations. It has been the Canadian policy that cases where facts are in issue are the most appropriate cases to put to arbitration.
In the MLI, you can have a “free form reservation,” in respect of the scope of the arbitration provision, so it is up to countries to define the scope of issues that they are willing to put forward for arbitration. Because it is a free form reservation, it is subject to the acceptance of other countries. Thus, if a country puts forward a free form reservation to limit the scope of the MLI, and another treaty partner (for which there is a match for arbitration) indicates within a 12-month period that it does not accept that reservation, then there will be no arbitration between those two countries.
There are certain reservations that are specifically authorized within the MLI itself, and those are not subject to acceptance of the other countries. The reason for the difference between the two types of reservations was that it was impossible to get the unanimous agreement of everybody in the room on all of the different free form reservations that were being considered by countries.
As for the time-period for which a case remains unresolved, obviously a start-date is needed to make that determination. In general, the MLI works very similarly to the Canada-US treaty – the start date is the date on which both competent authorities agree that they have received all of the information necessary to undertake substantive consideration of the case.
There are a number of instances (as in the Canada-US treaty) where the period can be delayed or accelerated; however, it always requires the agreement of both competent authorities. Additionally, in the MLI, the period can be suspended if the taxpayer and the country that made the adjustment agree to the suspension of the running of the period. (That is not expected to occur very often.)
As to the type of arbitration, the Canada-US and Canada-UK treaties use what we call “baseball-style” arbitration. We learned quickly, when discussing that among European and other colleagues, that that does not mean much to them – they are not very familiar with salary arbitration in North America. So you will not see “baseball arbitration” even mentioned in the notes; that does not mean that it is not the same thing, merely that “final offer” and “last best offer” were seen as better worldwide terminology.
Baseball-style arbitration (“final offer”) is the default in the MLI; however, a country may make a reservation against baseball-style arbitration, and instead apply “independent opinion.” Independent opinion is based on a precedent from the EU Arbitration Convention, and it would effectively work more like a court proceeding – with evidence rules and oral hearings.
However, if a country has made the reservation against baseball-style arbitration, a country that has selected baseball-style arbitration can reject independent opinion. The result is that there is no agreement as to the type of arbitration between the two countries, and the competent authorities must endeavor to agree on a type of arbitration. Until they do achieve such an agreement, there will be no arbitration between the two.
The default rule for coming-into-effect provides some retroactive effect – however, the entry-into-force will not be until both parties had notified the depositary that they have reached an agreement on the mutual application of Part 6. Thus, there is an ability for existing cases to be subject to a new arbitration provision, but there may be some delay with respect to its entry into effect. Everything will apply after the entry-into-force date. However, some countries are concerned with their existing case backlog, so there is a reservation allowed in respect of the retrospective application to outstanding cases on the day of coming into force between the two countries. (That contrasts with the Canada-US treaty, where there was agreement that the entire inventory should be subject to the arbitration provision, and it was just a matter of defining the start-date for that period.)
Generally, a decision will be implemented as a MAP case, and it will be final except in a few circumstances. One of those is if the taxpayer rejects the arbitration case (which is the same as under the Canada-US treaty). The MAP agreement would then not be final. One thing that is different in the MLI is that it allows the competent authorities a specified period after receiving the arbitration decision to agree to a different resolution. This requires both parties to have opted into this option. This is generally considered more relevant to independent opinion-style arbitration than to baseball-style.
The procedure for appointment of arbitrators is similar to the process under the Canada-US agreement, as is the need for confidentiality. Confidentiality is an opt-in provision for the participating countries.
The procedure for appointment of arbitrators is similar to the process under the Canada-US agreement. The need for confidentiality is very similar to that under the Canada-US agreement, ensuring that all of the arbitrators are subject to the same confidentiality non-disclosure provisions in the treaty. With respect to nondisclosure by the taxpayer or their advisors about anything to do with the arbitration panel, this is something that is an optional provision that countries can opt into so as to require non-disclosure by taxpayer and their advisors.
I have highlighted the main provisions of the arbitration provision, and tried to highlight where we have some similarities and some potential differences with the Canada-U.S. Treaty.
Q.4 What Technical Explanations and other guidance will be provided?
This is certainly an issue that is recognized by all governments - that additional guidance will be needed so that there is certainty for everyone in respect of what the bilateral relationship now is, and now looks at. There is work being done at the OECD to help countries in this process.
There have also been meetings (and I have been there at what was formerly called “speed-dating,” but became "speed-matching"), where we sat down and bilaterally discussed, with a number of other treaty partners, how to resolve ahead of time any potential differences or inconsistencies in notifications, and also to have a first discussion on what form of guidance would be appropriate for countries to be providing - because, as helpful as the OECD can be, this is really a responsibility of governments, in their bilateral relationship, to ensure certainty.
While there have been no specific decisions on the exact form of what additional guidance there will be, and while it may differ from treaty partner to treaty partner, certainly work is ongoing on that, and I am comforted that we do have time, after working out coming-into-force and coming-into-effect, to provide that guidance. Much work is being done on that, and we will know more as time goes on.
Q.5 Can an MLI party change its mind?
There is nothing that stops a country from signing onto additional provisions or removing reservations, so that there is flexibility in that sense: if you start small, you can go bigger, including adding additional provisions and treaties. However, a country cannot do the reverse.