Untitled Document

Challenges multinationals may face in completing the OECD's country-by-country reporting template

In brief

On 30 January 2014, the Organisation for Economic Cooperation and Development (OECD) released a discussion draft on transfer pricing (TP) documentation and country by country reporting (CBCR) which included a template for country by country reporting of income, taxes, and economic activity (CBCR template). The purpose of the CBCR template is to provide tax authorities with the information necessary to conduct a high-level risk assessment of multinational entities (MNEs). During its second Base Erosion and Profit Shifting (BEPS) webcast on 2 April 2014, the OECD announced their tentative decision to amend certain aspects of the template that was exposed for comment to reflect the recommendations received from businesses and other commentators.
This publication focuses on some of the challenges MNEs may face in compiling information that would be required to be disclosed in the CBCR template, including the following:

In detail

Financial data reporting

The original CBCR template required data to be disclosed for each individual entity of an MNE group, including any permanent establishment (PE). Based on the proposed amendments announced by the OECD on 2 April 2014, financial data would need to be disclosed by country.
MNEs will have an option to disclose financial data in the template based on statutory or other financial reports, which could be prepared on a legal entity basis or a consolidated basis. For example, in countries like the United States (US), where statutory reporting is not required, MNEs will need to rely on consolidated accounts prepared under US Generally Accepted Accounting Principles (US GAAP) or International Financial Reporting Standards (IFRS).
The approach chosen by an MNE will have to be applied consistently across the MNE group from year to year.

MNEs that choose to rely on consolidated accounts (including consolidated accounts prepared by business segment), but do not have sufficient centralised controls and processes over the underlying data, may face significant challenges in splitting the data by country. Such entities would almost certainly be required to create new controls, revise internal processes, and invest in new technological solutions to enable the required reporting.

In addition, an MNE that does not control an entity (e.g. an associate entity that is considered to be part of a MNE group for the purposes of the CBCR template) may find it difficult, or sometimes impossible, to obtain the detailed information required by the CBCR template.
Reporting of financial data by country will also trigger the following questions:


The degree of the above issues may vary from one MNE to another, depending on their structure and existing accounting systems. It may be significantly more challenging for entities without integrated accounting systems, for those with many manual processes and for entities relying on highly manual processes and tools such as emails and Excel templates (see the diagram).

In some cases, MNEs may determine that additional resources are required to satisfy the CBCR requirements on a global basis. However, given the challenges involved, the addition of people alone, will likely not be enough.   

In almost all cases, the requirement for the preparation of a CBCR template will require MNEs to face increased compliance burden. This new burden will likely require the MNE to invest in some combination of information systems, data collection and collaboration technologies, processes, and controls, or face the full effects of the new requirements using existing tools and approaches.

Reconciliation

The discussion draft does not include any requirement or recommendation to reconcile information reported in the CBCR template to consolidated, statutory or audited accounts, or to locally filed information (e.g. income tax returns). However, it is reasonable to expect that the local tax authorities could question information presented in the template if it does not match information filed locally.

In addition, given the template will be used as a high-level risk assessment tool by tax authorities, it will be important for management to be able to reconcile the reported data to a reliable source (e.g. to local statutory / audited accounts or filed tax returns).

Thus, even though not specifically required, MNEs may need to undertake a reconciliation of information reported in the template, either in response to tax authorities' requests or as a part of the entity's internal risk management process.

In the absence of complete country by country data, integrated reporting, systems, effective processes, and controls, the need to reconcile the template to other available information may create significant challenges for MNEs in the following areas:

Timing

Although the TP master file and local file are normally required to be prepared no later than the due date for filing of the tax return for the relevant income tax year, the discussion draft suggests that it may be appropriate to extend the date for completion of the CBCR template to one year after the last day of the MNE's fiscal year.
Because in some countries local statutory accounts may still not be available by that deadline, MNEs may need to rely on other accounts and potentially unaudited data in order to comply with the CBCR requirements.

Income tax paid

The original CBCR template required disclosure of corporate income tax paid by entities of the MNE group during the relevant year in a particular country and abroad, as well as disclosure of withholding taxes paid.

What is 'income tax'?

The discussion draft does not provide a definition of 'income tax', and it is likely that the OECD will consistently apply the income tax definition used in Article 2 of the Model Tax Convention. This definition includes all taxes imposed on total income and capital, or their elements, including taxes on gains from the disposal of property, and unrealised capital gains.

The OECD Model Tax Convention definition is different than the definition used for IFRS or US GAAP purposes. As a result, MNEs may need to assess what taxes would be considered as income taxes for purposes of the CBCR template. This would require significant effort in terms of time, resources, and systems, including involvement of staff or experts with tax knowledge and detailed information about each tax. This would be particularly relevant with respect to local marginal taxes, research and development tax credits (e.g. in Belgium, France, and Spain), and various new taxes and surcharges that are continuing to be introduced around the world.

Cash taxes and accrued taxes

As mentioned above, the draft CBCR template required disclosure of income taxes paid by the relevant entities in a particular country and abroad, as well as any withholding taxes paid. However, based on the proposed amendments, MNEs will also have to disclose their current tax accruals.

A breakdown of taxes paid in and outside of the particular country and gathering information about withholding taxes may require a significant amount of time and effort by a MNE especially if such information is not currently tracked by the MNE's reporting systems.

Additionally, withholding taxes in lieu of income taxes are frequently reported as a component of many MNEs' current income tax provision, which may create additional complexities in identifying the exact amount.

Information about income taxes paid may be misleading to a user as it could be disconnected from revenue and earnings reported on an accrual basis. In addition, taxes paid in a particular period can relate to a number of tax years, especially in the case of an audit settlement or amended assessment, and may also not reflect the income tax charge for a given year if the amount in a particular year is significantly under- or over-paid or not paid on time.

In that regard, the requirement to include information about the current tax accrual, which was included in the proposed amendments, may end up being more beneficial to the user of the template and may help to mitigate any disconnect between the amounts of reported earnings and income tax.

Consistent with not defining what is to be considered an 'income tax', the OECD has likewise not provided a definition of a 'current tax accrual'. As such, it will need to be confirmed if it should be based on the current tax provision (which seems likely), or whether it should also include deferred taxes, as well as the impact of any uncertain tax positions.

Regardless of the basis on which taxes are reported in the CBCR template, tax authorities are likely to expect a reconciliation if this information does not match data filed locally.

Permanent establishments

The CBCR template will need to be completed for any PEs of an MNE group.
Based on the proposed amendments, information in relation to PEs will need to be included in the relevant financial data by country. The discussion draft is silent on whether this information should be excluded from the financial information of the entity of which the PE is a part. As such, guidance may need to be required to avoid unwanted duplication of PE data reported in the CBCR template.

Reporting under similar regimes

In addition to the CBCR requirements proposed by the OECD, there are currently four other frameworks which include some form of CBCR that are effective or in the process of being implemented (see an overview in our Q4 2013 Global Tax Accounting newsletter):

It is possible that the above frameworks and the OECD's CBCR requirements may overlap, resulting in certain MNEs being subject to multiple reporting requirements. Such groups may need to consider building extra flexibility into their information systems, which would allow creation of various reports, and the implementation of more rigorous quality control procedures.

The takeaway

MNEs should pay close attention to CBCR developments, as they will have a significant impact on future compliance, systems process, and human resources needs.

Given the lead time generally required to prepare internal systems and processes for CBCR and the level of funding and change that may be required, it is critical that MNEs begin to assess now whether their current information and accounting systems will allow them to comply with the proposed CBCR requirements, even though it is possible the reporting may not be required immediately.


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For a deeper discussion of how the proposed CBCR requirements might affect your business, please contact:

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