20 November 2017 CTF Annual Conference - Department of Finance on BEPS
This is an summary of certain of the oral remarks made by Stephanie Smith, Senior Chief of the Tax Treaties Section, Tax Legislation Division, Tax Policy Branch, of the Department of Finance during the Panel "The Multilateral Instrument: A Canadian Perspective" held on 20 November 2017 in Toronto during the Annual Conference of the Canadian Tax Foundation. Laura Gheorghiu (Gowling) and Patrick Marley (Osler) also presented. The Panel was chaired by Wayne Adams (CTF).
MLI drafting intention
Q. What was the intention in drafting the MLI?
Stephanie Smith: The MLI was effectively drafted with a hundred countries in the room, albeit, with some more active than others. A basic policy decision was taken that, if a country signs the MLI, it is committing to and taking onboard all the minimum standards, i.e., the provisions for which there was very little possibility of opting out. Because the other provisions were not minimum standards, it was considered that there should be more flexibility as to whether or not to pick up those provisions. However, there was a wish for consistency in terms of a country’s choice with respect to those provisions, so that once it listed what were its covered tax agreements, then the same choice had to be made with respect to all of its treaties unless some of its treaties already had those provisions in them.
Multilateral approach to other Treaty changes
Q. It has been suggested that MLI approach could be used, not just for best Treaty measures, but perhaps for other treaty provisions or other completely unrelated events as a tool to implement universal change. Any thoughts?
Stephanie Smith: It is very early to speak to that. I think given that the MLI has not even entered into force yet, it is premature to say how or in what form the MLI might be used in the future. There will be an evaluation as to how did it work, and what were the real time savings and benefits, so that remains an option, but it is too early to tell what kind of option.
Scope of covered tax agreements
Q. Canada listed 75 tax agreements as covered tax agreements. Given that Canada has a network of 93 countries, why 75?
Stephanie Smith: When Canada issued a press release at the time of the MLI’s signing, Canada listed almost all jurisdictions that participated in the work of drafting the MLI and that had a Treaty with Canada and, as such, were viewed as likely matches for Canada under the MLI. That being said, the United States was not listed. They indicated with a very clear statement that they were not going to sign, so we did not see the utility in listing the United States when clearly we would not get a match. Since that time that the MLI was signed, there have been some additional countries that have either joined the ad hoc group or signed the multilateral instrument with a view to a treaty with Canada. It would be fair to say that there would be a significant consideration to including those treaties where there would be a match prior to ratification.
Under what circumstances will bilateral negotiations be preferred to the multilateral approach?
Stephanie Smith: With some treaty partners, bilateral negotiations will be the preferred situation. In the case of the United States, which has many unique provisions, it may be better to be negotiated bilaterally. The fact that they did not join the MLI that an easy decision. We know that we have some treaty partners who will not join the MLI, which will make bilateral negotiations Canada’s only option. It is no coincidence that, on the date that Canada signed the multilateral instrument, Canada simultaneously noted bilateral negotiations with Switzerland and Germany. Clearly in those negotiations, Canada’s positions will be discussed.
Canada’s choices made on MLI signing
Q. Please comment on Canada’s MLI choices made when it was signed.
Stephanie Smith: Canada agreed to the BEPS minimum standards plus mandatory arbitration. That means that, with respect to the minimum standards on Treaty abuse, there will be the inclusion of an amendment to the preamble to all of Canada’s treaties and, due to the option chosen by Canada, that preamble will be added to all of Canada’s treaties. Some countries chose to delete portions of their current preamble. For consistency and ease of reference, Canada decided to add it, knowing that some duplication will result, but we do not see that as harmful, and like the consistency aspect. Canada also agreed to pick up the principal purpose test, but at the same time, made the statement that is explicitly provided for in paragraph 17(a) of Article 7 of the MLI to indicate that Canada reserves the right at a later date to add or replace the PPT with the detailed LOB subject to bilateral discussions with its treaty partners.
Replacement of PPT with LOB
Should we be seeing the PPT as an interim measure that is in place only until Canada can go ahead and negotiate treaties with an LOB provision?
Stephanie Smith: The LOB is explicitly an interim provision, but Canada is well aware that obtaining a detailed LOB in its tax treaties requires two parties who are willing to coming to the table to negotiate a detailed LOB, and not all of our treaty partners are interested in a detailed LOB.
However, we wished to signal that it was certainly something we are willing to consider. We have some experience with the detailed LOB in the Canada-US treaty, and we have also had some less-than-favourable experience using a general anti-avoidance rule to try to address treaty shopping.
As to whether and how we transition into bilateral LOBs, that may require a pragmatic wait-and-see approach. The PPT is the only thing one can get in the MLI today, because of the acknowledged need for bilateral negotiations for a detailed LOB. Given that choice between being able to set something on a short-term and medium-term basis, as contrasted to perhaps being able to get something on a medium- and long-term basis, Canada decided that it was best decision to accept the PPT and, in fact, that is consistent with the approach of every other signatory to the MLI.
As tothe other provisions that Canada did pick up, there are some changes to the mutual agreement procedure articles in Article 25 in the Model and that is largely picking up on changes that Canada for the most part was already including in its new treaties, for example, changing from two to three years for a notice period. As noted, Canada also picked up on binding and mandatory arbitration. Canada first expressed its explicit support for more multilateral arbitration with a broader set of countries at the G7 in 2015 - in the Communique there was expressed support by all G7 members for binding arbitration.
Canada's reservations in the MLI
Q. Canada has reserved on everything else?
Stephanie Smith: Canada’s initial position has been to reserve on all other provisions. That was largely informed, first of all, by timing issues. The Convention was only adopted at the end of November 2016 and there was a target date of a June 2017 signing ceremony. After speaking to our international colleagues, we realized that our up-front process to follow in order to sign the agreement is more time-consuming than in other countries, so a decision had to be made fairly early on. Significant analysis is needed before a decision can be made to adopt additional provisions, given Canada’s large Treaty network.
The other reason was that nothing in the MLI restricts Canada from removing a reservation post-ratification, but we cannot add them. Thus, there is flexibility going one way but not the other.
Studies of the provisions continue at the Department of Finance. Note that, like Canada, a decision by an MLI signatory to not include a provision is not necessarily an indication of their policy view with respect to the provision. A signatory may decide that there are some provisions that are more appropriately negotiated on a bilateral rather than multilateral basis, or there may be some provisions for which the MLI is not a good instrument in light of the very complicated compatibility clauses when a country wants to have a relevant provision drafted differently.
That is true with respect to Canada’s positions. Therefore, do not take the MLI position as Canada’s position with respect to the policy. More information about Canada and others’ policy will be available when the update to the OECD Model Tax convention is made public including the reservations and observations, and that should be coming out in the coming weeks, but is not available yet.
Public consultations on MLI reservations
Has there been any thought given as to whether there should be public consultations on what Canada’s positions should be with respect to MLI reservations?
Stephanie Smith: It is too early to comment on whether specific reservations will be lifted. We are not currently anticipating a public consultation per se. That being said, the Department of Finance is happy to get feedback and input from anyone who has views on what should inform Canada’s decision was to whether more provisions should be implemented in the MLI.
Timeline for MLI coming into effect
What are the next steps for Canada to follow?
Stephanie Smith: Canada must follow its policies for implementing tax treaties into domestic law. Given that Canada signed on June 7, 2017, the next step is that the MLI must be tabled in Parliament for a 21-day sitting period, which has not yet started running. Following that, there must be a Bill to bring the MLI into Canadian law. That Bill must pass and receive royal assent, after which Canada can ratify.
I have been asked again to provide a revised estimated timeline, which can only be addressed loosely. If we assume that the MLI is tabled before the end of the year then, taking the 21 sitting days into account, that will probably bring us to early March, as Parliament does not sit until the end of January. The next step would be introducing the implementation Bill, in consultation with Justice and Global Affairs. That Bill could perhaps be presented in the spring of 2018. It then needs to pass both Houses of Parliament. Typically, that would entail review by Committees of both Houses for study, and all the requisite readings would be required before it was passed and received royal assent.
Your guess is as good as mine, but the summer to fall 2018 for the legislation to be passed would be an estimate. To then be able to notify the OECD depositary of the Convention, an Order in Council is first needed, which requires going to the Treasury Board. If we assume that the Bill is passed, and that it gets on the Treasury Board agenda and the OECD is notified, in August 2018, that would result in an entry into force of the Convention on December 1, 2018. If an order from the Treasury Board is not obtained in the summer session, which is something that often happens, then the OECD might be notified in October 2018 that Canada has ratified, which would result in an entry into force of February 1, 2019 (being the first day of the month three months after notification).
In the first scenario of entry into force on December 1, 2018, there would then be an entry into effect in Canada, with respect to withholding taxes, on January 1, 2019 – which, of course, assumes that there is a match with another jurisdiction where the instrument is in force by then. With respect to all other taxes, it enters into effect for the taxable periods beginning on or after June 1, 2019. In the case of calendar taxable periods, that would be January 1, 2020.
In the scenario where nothing happened in the summer, so that the process was bumped into the fall, with an entry into force of February 1, 2019, the entry into effect respecting withholding taxes would occur on January 1, 2020, a full year's difference. For all other taxes, the entry into effect would be for taxable periods beginning on or after 1 August 2019. Thus, for taxpayers with calendar years, in either scenario the MLI would have effect commencing in 2020 for such taxes.
Principal purpose test
What light can be shed on the interpretation of the principal purpose test?
Stephanie Smith: I note that in the work done by the OECD BEPS group there is a significant commentary with examples with respect to the principal purpose test. It answers some - but not all questions, which it could not at this early date. Just because tax is a consideration does not mean that you are automatically caught by the PPT. There are a number of examples to that effect. We understand that there is a desire for more examples. I think certainly this will be an issue that will continue to be discussed at the international level, and ultimately, we may see some additional guidance.
There is also a desire among international colleagues to see some consistency in the worldwide application of this provision, and that will be extremely difficult because of different factors at play. However, some of your concerns are shared by officials as well. This is an early stage in the game, and something that we will continue to have discussions and, hopefully, as we go through, there will be more clarity and more certainty for practitioners because of that.
Collective investment vehicles examples?
Will any guidance be provided for collective investment vehicles other than in the existing three examples?
Stephanie Smith: We acknowledge this topic of private equity funds is very difficult. Very different entities are being around the world, and there are very different views from different types of equity funds in terms of whether and how their clients can be identified and whether they can actually tell us who the investors are in these entities. These are hard issues, they are issues OECD has taken seriously and has spent a lot of time on. The end result was, other than in the last three examples you saw, there was no agreement on including at this time additional examples. I think it is an area where work is going to be continuing and there will be questions and discussions about this.
Competent authority relief under Art. 7(4)?
Article 7(4) of the MLI permits a competent authority to provide Treaty benefits even if the PPT would otherwise apply. Why did Canada reserve on this?
Stephanie Smith: Canada is considering all of the items it reserved on. This is not something that is part of the minimum standards, so that dealing with that was not picked up. I think that looking at the debate on this, internationally, there appears to be a desire to ensure that concrete key results are obtained, but at the same time there is no encouragement of a situation where they there will always be a benefit to engaging in aggressive transactions because the person will never be worse off than if it carried out a normal transaction anyway, so that was the debate internationally, and the concern with such a provision.
Peer review process
What are your thoughts on the peer review process?
Stephanie Smith: The minimum standards covered four different areas, and probably the two most relevant here are the ones that were set out in the MLI. With respect to the MLI, in general, a country that signs the MLI must pick up the minimum standard. Except for a country which insisted on a detailed LOB, and unless there is some very small thing in Article 25 that did not get picked up in the drafting of the MLI, those countries will meet the minimum standard.
For most countries, that leaves a number of treaties that may have to be bilaterally updated. There was no timeframe given for the requirement within which that minimum standard had to be met, acknowledging that there is a bilateral process to be followed in terms of reaching an agreement with a partner. The question here, is one of “name and shame” only. Yes, I think that in general is the approach, but with one or two exceptions, it is actually a very effective tool. We only have to look at some of the changes that have been made with G20 statements. If anyone had told me in 2009 that we would now be discussing automatic exchange of financial accounting information with Switzerland, and they would be agreeable, I would not have believed it. That came out of fear of defensive action by the G20 countries. I really do think it has an impact, and will have an impact. We are seeing countries moving on this.
The US already has most of what they need. A possible wrinkle is that they do not have preambles in their treaties and will only get those in subsequent bilateral negotiations. Of course, the policy from the US with respecting assistance on the LOB may have been more clear in their country than in some other countries.
Respecting the minimum standard regarding the mutual agreement procedure, Canada was among the first countries that was reviewed for its compliance with the Action 14 minimum standard. Canada came out extremely well in that review, with an average dispute resolution-time of 23 months, and credit goes to the CRA for that. There are still improvements to be made, of course, but I think that is a positive story.
Baseball-style arbitration in the MAP
What is the rationale for Canada preferring baseball-style arbitration?
Stephanie Smith: Our rationale for preferring baseball-style arbitration (over independent opinion arbitration) is twofold:
The first is that it is largely consistent with the Canada-US treaty and in we find that that covers over 90% of the cases and certainly the vast majority of the cases that are the most difficult to resolve, or that run into time-period issues.
The second is that baseball-style arbitration is the more efficient of the two processes to be able to get a resolution.
However, we think this approach is better suited to fact-based questions rather than questions of law. In general, we think fact-oriented questions (e.g. residency and permanent establishment) are more appropriate to go to a baseball-style arbitration.
Interpreting the MLI
Q. What tools are there to interpret the MLI?
Stephanie Smith: As tools to interpret the MLI, we have the Explanatory Statement, which was developed by the entire ad hoc group, developed at the same time as the instrument, and so it definitely is a tool that should be considered, I think that is consistent with the Convention that it would be an applicable tool. In the Explanatory Report, the arbitration provisions aside, there is no substantive discussion of the provisions. The discussion is just of the mechanics and the compatibility clauses. That is because the intention is that it should be the work that was done during the OECD G20 BEPS Project continued by the Inclusive Framework that should be referenced, which is where the Commentary largely was developed and will be in the new OECD Model Tax Convention. And all parties agreed in the Explanatory Statement that largely all the parties had participation to some extent or not, and those are relevant things to look at, even when the client provisions have been brought into the treaty as a result of the MLI.
Which languages are authoritative?
Q. The AMLI has been translated in to other languages such as Arabic and German. How should the Courts treat those other language versions?
Stephanie Smith: In the case of the Bilateral Tax Treaty, because Canada has to require both English and French because of the Constitution and that both will be equally authentic, the vast majority of our conventions with a non-English-speaking country include a third or fourth equally authentic language - in the bilateral tax treaty with the Netherlands, Dutch is an equally authentic language.
The only two authentic languages in the MLI, on the other hand, are English and French, so that only those versions should be looked at.