TEI comments on BEPS Action 2: hybrid mismatch arrangements.

• Position: Tax Executives Institute, Organisation for Economic Co-operation and Development, Base Erosion and Profit Shifting

On May 1, 2014, TEI submitted comments to the OECD regarding its Public Discussion Drafts on BEPS Action 2: Neutralise the Effects of Hybrid Mismatch Arrangements (Recommendations for Domestic Laws and Treaty Issues). TEI's comments focused on the need for the OECD to specifically delineate the instruments and transactions that would be subject to the proposed, the proposed rules intended effect, and to coordinate the rules' implementation across jurisdictions to prevent double-taxation from arising. TEI's comments were prepared under the aegis of TEI's European Direct Tax Committee, whose chair is Nick Hasenoehrl of Herbalife. Benjamin R. Shreck, TEI Tax Counsel, coordinated the preparation of TEI's comments.

On 19 July 2013, the OECD published an Action Plan on Base Erosion and Profit Shifting (hereinafter the Action Plan) setting forth 15 actions the OECD will undertake to address a series of issues that contribute to the perception that individual countries' tax bases are being eroded or profits shifted improperly.

Pursuant to the Action Plan, the OECD issued two public discussion drafts on 19 March 2014, each of which addressed issues arising under BEPS Action 2: Neutralise the Effects of Hybrid Mismatch Arrangements. One draft sets forth recommendations for changes to domestic law (hereinafter the Domestic Draft), and the other draft discusses certain treaty issues (hereinafter the Treaty Draft, together with the Domestic Draft, the Discussion Drafts). The Discussion Drafts discuss the policy issues that may arise from tax planning that utilises the differences in the tax treatment of instruments and entities across jurisdictions and sets forth recommendations to address those issues.

On behalf of Tax Executives Institute, Inc. (TEI), I am pleased to respond to the OECD's request for comments on the Discussion Drafts. (1)

TEI Background

TEI was founded in 1944 to serve the needs of business tax professionals. Today, the organisation has 55 chapters in Europe, North America, and Asia. As the preeminent association of in-house tax professionals worldwide, TEI has a significant interest in promoting tax policy, as well as the fair and efficient administration of the tax laws, at all levels of government. Our nearly 7,000 members represent over 3,000 of the largest companies in Europe, the United States, Canada, and Asia.

TEI Comments on the Domestic Draft

TEI commends the OECD for its discussion of the issues that arise from differences among various countries' tax laws. The Discussion Drafts, in general, accurately describe the compliance and financing challenges that multinational enterprises (MNEs) confront when faced with non-uniform tax regimes, as well as the structures and transactions MNEs employ to organise their business operations. If uniformly adopted, the solutions proposed by the OECD might well be effective in curbing the double deduction (DD) or deduction/non-inclusion (D/NI) transactions described in the Drafts. Regrettably, some of the suggested solutions are overbroad and administratively unworkable.

Hybrid entities serve a variety of commercial purposes. Thus, the scope of this action should be limited to the use of hybrid entities or arrangements that are inappropriate or abusive, based on objective criteria and bright-line tests. This would permit MNEs to use hybrid entities or arrangements in other cases. The recommendations in the Discussion Drafts, and in particular the Domestic Draft, are regrettably not limited to inappropriate or abusive cases. Indeed, the recommendations would include in their scope transactions that take place between unrelated parties in certain instances, which is overbroad an unnecessary.

Need for Consensus Approach

To be successful, BEPS Action 2 on hybrid mismatches requires a consensus approach. More than any other action in the Action Plan, hybrid mismatch transactions will merely migrate to those nations that fail to adopt the final recommendations or adopt them piecemeal. (2) This is especially the case for imported mismatches and reverse hybrids, which also present the more vexing administrative and compliance issues. (3) While planning involving hybrid instruments or entities may become more difficult and therefore less prevalent, it will continue and eventually will undermine the objectives of the countries that adopt the OECD's recommendations. Indeed, there is seemingly no mechanism to encourage countries to adopt the Discussion Drafts' recommendations about hybrid mismatch arrangements. Perhaps this will be addressed under BEPS Action 5 regarding harmful tax practices.

Even if countries uniformly adopt the Domestic Draft's recommendations, differences regarding the timing of when each country implements the recommendations will by itself lead to mass confusion and uncertainty. Thus, the recommendations should be adopted as nearly simultaneously as possible to avoid any such confusion or uncertainty. The OECD could recommend that the rules for domestic law only go into effect after a critical mass of countries has implemented the rules.

Further, the Domestic Draft presumes that there will be a high degree of co-ordination and communication between countries in the implementation of the domestic recommendations and the primary response and defensive rules. Owing to the complexity of the rules and varying fiscal objectives in each taxing jurisdiction, it is highly unlikely that there will be a consistent approach in the interpretation and application of the often overlapping rules, leading to pervasive double taxation. Indeed, there will be significant incentives for tax authorities to routinely assert the defensive rule without inquiring whether the primary rule has been applied. If a country were to discover that another country...