The OECD has revisited its former guidance
on tax treaties and the impact of the COVID-19 pandemic

 

On 21 January 2021 an  Updated Guidance on Tax Treaties and the Impact of the COVID-19 Pandemic  (please click) (hereinafter: Updated Guidance) was published by the OECD Secretariat. It is a revisited version of the original guidance issued on 3 April 2020 that discussed the application of international tax treaty rules in circumstances where cross-border workers or individuals were stranded in a jurisdiction that was not their jurisdiction of residence.

The original guidance was issued as an urgent response to the impact the COVID-19 pandemic had on the mobility of individuals (such as restricting travel and implementing strict quarantine requirements). It was published under the responsibility of the Secretary-General of the OECD stating that it did not necessarily reflect the official views of OECD member countries.  

When the original guidance was issued, it was unclear how long the restrictions would persist and it was expected that many of the situations analysed would be temporary only. Over nine months have passed since then and some of the measures and the restrictions are still in place. The Updated Guidance considers some additional fact patterns not addressed in detail in April; examines whether the analysis and the conclusions outlined in April continue to apply where the circumstances persist for a significant period; and contains references to country practice and guidance during the COVID-19 period.

The Updated Guidance has following sections:

• the creation of permanent establishments (i.e. home office, dependent agent PE) and the interruption of construction sites;
• changes in residence for entities and individuals and the application of tie-breaker rules to dual residents; and
• income from employment, i.e. payments under stimulus packages, stranded workers, cross-border (frontier) workers and teleworking from abroad.

The country practice is presented by debriefing guidance issued by the tax authorities of Australia, Austria, Canada, Germany, Greece, Finland, Ireland, New Zealand, the UK and the US with the links provided to the original sources thereof.

The Updated Guidance applies only to situations arising during the COVID-19 pandemic while relevant public health measures are still in effect. It is temporary in nature and seeks to address the exceptional circumstances of the COVID-19 pandemic only. It cannot be relied on to create instances of double non-taxation, further, in the cases where factual determinations by tax administrations are required, the Updated Guidance does not purport to replace the judgement of tax administrations.

The Updated Guidance represents the Secretariat’s views on the interpretations on the provisions of tax treaties (i.e., each jurisdiction may adopt different interpretations from those in this guidance). Nevertheless, it was discussed within the Inclusive Framework on BEPS, which supported its publication. 

 

Concerns related to the creation of permanent establishments

Since the outbreak of the COVID-19 pandemic it has been a question if the employees dislocated to other jurisdictions and working from their homes during the COVID-19 pandemic, could create a “permanent establishment” (PE) in those jurisdictions, triggering for those businesses new filing requirements and tax obligations.

The answer is that such exceptional and temporary change of the location should not create new PEs for the employer. Similarly, the temporary conclusion of contracts in the home of employees or agents because of the COVID-19 pandemic should not create PEs for the businesses. Finally, a construction site PE would not be regarded as ceasing to exist when work is temporarily interrupted. However, jurisdictions may consider “stopping the clock” for determining whether the PE threshold has been satisfied during certain periods where operations are suspended as a public health measure.

A number of tax authorities have issued guidance on whether changes in work practices prompted by the COVID-19 pandemic can result in the creation of a PE. All these materials are generally in line with the above conclusions, with certain countries also specifying the applicable timeframes of these special provisions. Interestingly, the US established that services rendered or other activities should not be taken into account to determine whether the non-resident or foreign corporation has a PE, provided that they would not have occurred in the US but for COVID-19 Emergency and any such single period did not exceed 60 consecutive days.

Home office

Based on the OECD Model Tax Treaty 2017 Commentary, in general, a place must have a certain degree of permanency and be at the disposal of an enterprise in order for that place to be considered a fixed place of business through which the business of that enterprise is wholly or partly carried on. The Commentary specifically explains that even though part of the business of an enterprise may be carried in an individual’s home office, that should not lead to an automatic conclusion that that location is at the disposal of that enterprise. The carrying on of intermittent business activities does not make that home a place at the disposal of the enterprise. A home office may be a PE for an enterprise if it is used on a continuous basis for carrying on business of that enterprise and the enterprise generally has required the individual to use that location to carry on the enterprise’s business (e.g. by not providing an office to an employee in circumstances where the nature of the employment clearly requires an office).

The Updated Guidance concludes that individuals teleworking from home (i.e. the home office) as a public health measure imposed or recommended by at least one of the governments of the jurisdictions involved to prevent the spread of the COVID-19 virus would not create a fixed place of business PE for the business/employer. This applies whether the temporary work location is the individual’s home or a temporary dwelling in a jurisdiction that is not their primary place of residence. The reasoning behind this conclusion is that such teleworking is an extraordinary event lacking a sufficient degree of permanency or continuity and primarily not being a result of the enterprise’s requirement.

Agency PE

The question may also arise whether the activities of an individual temporarily working from home for a non-resident employer could give rise to a dependent agent PE. Under the OECD Model, the activities of a dependent agent such as an employee should create a PE for an enterprise if the employee habitually concludes contracts on behalf of the enterprise.

The Updated Guidance outlines that the agent’s activity in a jurisdiction should not be regarded as “habitual” if they have exceptionally begun working at home in that jurisdiction as a public health measure imposed or recommended by at least one of the governments of the jurisdictions involved. This derogation does not apply if the person continues those activities after the public health measures ceased to be in force.  

Construction site PE

In general, a construction site will constitute a PE if it lasts more than 12 months under the OECD Model or more than six months under the UN Model. The Commentary explains that a site should not be regarded as ceasing to exist when work is temporarily discontinued (temporary interruptions should be included in determining the duration of a site), e.g. because of bad weather, a shortage of material or labour difficulties. However, the Commentary does not include a bright line test on the meaning of “temporary” interruption.

The Updated Guidance suggests that a construction site PE would not be regarded as ceasing to exist when work in the site is “temporarily” interrupted, but jurisdictions may consider that certain periods where operations are prevented as a public health measure imposed or recommended by the government constitute a type of interruption that should be excluded from the calculation of time thresholds for construction site PEs.

 

Concerns related to change of residence

Companies

The COVID-19 pandemic may raise concerns about a potential change in the “place of effective management” of a company as a result of a relocation, or inability to travel, of board members or other senior executives. Such a change may have led to a change in a company’s residence under relevant domestic laws and affect the jurisdiction where a company is regarded as a resident for tax treaty purposes.

It is unlikely that the COVID-19 situation will create any changes to an entity’s residence status under a tax treaty. A temporary change in location of board members or other senior executives is an extraordinary and temporary situation due to the COVID-19 pandemic and such change of location should not trigger a change in treaty residence.

This potential change of circumstances may trigger an issue of dual residence (i.e. a company being considered a resident of two jurisdictions simultaneously under their domestic laws). However, situations of dual residence of companies are relatively rare. If such situation still arises, tax treaties provide tie-breaker rules ensuring that the entity is resident in only one of the jurisdictions.

If the treaty contains a provision like the 2017 OECD Model tie-breaker rule, competent authorities deal with the dual residence issue on a case-by-case basis by mutual agreement. In such cases, there’s a range of factors that they should take into consideration (where the meetings of the company’s board of directors or equivalent body are usually held; where the chief executive officer and other senior executives usually carry on their activities; where the senior day-to-day management of the company is carried on; where the person’s headquarters are located; etc).

Where the treaty contains the pre-2017 OECD Model tie-breaker rule, the place of effective management (i.e. the place where key management and commercial decisions that are necessary for the conduct of the entity’s business as a whole are in substance made) will be the only criterion used to determine the residence of a dual-resident entity for tax treaty purposes.

Therefore, an entity’s place of residence under the tie-breaker provision included in a tax treaty is unlikely to be impacted by the fact that the individuals participating in the management and decision-making of an entity cannot travel as a public health measure imposed or recommended by at least one of the governments of the jurisdictions involved.

 

Individuals

Two main situations could be imagined in the case of individuals:

• A person is temporarily away from their home (perhaps on holiday, perhaps to work for a few weeks) and gets stranded in the host jurisdiction by reason of the COVID-19 pandemic and attains domestic law residence there.
• A person is working in a jurisdiction (the “current home jurisdiction”) and has acquired residence status there, but they temporarily return to their “previous home jurisdiction” because of the COVID-19 situation. They may either never have lost their status as resident of their previous home jurisdiction under its domestic legislation, or they may regain residence status on their return.

In the first scenario, it is unlikely that the person would acquire residence status in the jurisdiction where the person is temporarily because of extraordinary circumstances. Even if the person becomes a resident based on a number of days spent in the host jurisdiction, if a tax treaty is applicable, then the treaty’s tiebreaker rule applies resulting no tax implications in the vast majority of cases.

 

In the second scenario, it is again unlikely that the person would regain residence status for being temporarily and exceptionally in the previous home jurisdiction. Even if the person is or becomes a resident, then if a tax treaty is applicable, their stronger connections to the current home jurisdiction should prevail.

The Updated Guidance stipulates that tax administrations should consider a period where public health measures imposed or recommended by the government do not apply when assessing a person’s residence status. If as a result of the COVID-19 pandemic, an individual’s temporary presence in a jurisdiction results in them becoming dual-resident, that person’s place of residence is unlikely to change, given that the tie-breaker provision requires consideration of factors that shall also be assessed in a more normal period. A dislocation because a person cannot travel back to their home jurisdiction due to a public health measure of one of the governments of the jurisdictions involved should not by itself impact the person’s residence status for purposes of the tax treaty. A different approach may be appropriate however, if the change in circumstances continues when the COVID-19 restrictions are lifted.

 

Concerns related to income from employment

Article 15 (Income from employment) of the OECD Model denotes that “salaries, wages and other similar remuneration” are taxable only in the person’s jurisdiction of residence unless the “employment is exercised” in the other jurisdiction. There are conditions attached to the place of exercise test. That other jurisdiction (the source jurisdiction) may exercise a taxing right only if the employee is there for more than 183 days or the employer is a resident of the source jurisdiction, or the employer has in the source jurisdiction a permanent establishment that bears the remuneration.

In this context, the Updated Guidance considers below fact patterns.

Income of cross-border workers that cannot perform their work due to COVID-19 restrictions (e.g. wage subsidies to employers)

Where a government has stepped in to subsidise the keeping of an employee on a company’s payroll during the COVID-19 pandemic despite being unable to work, the income that the employee receives from the employer should be attributable to the place where the employment used to be exercised. Where the source jurisdiction has a taxing right, the residence jurisdiction must relieve double taxation under Article 23 of the OECD Model.

These payments may resemble termination payments, or, alternatively, the payments which are routinely received during paid periods of absence the entitlement to which arises in connection with where the work was performed (e.g. vacation pay, paid sick leave, or paid furlough etc.).

Whichever treatment is applied, the payment should be attributable to the work jurisdiction under Article 15 of the OECD Model.

Similarly, where an employee resident in one jurisdiction and who formerly exercised an employment in another jurisdiction receives a COVID-19 related government subsidy from the work jurisdiction to maintain the relationship with the employer, the payment would be attributable to the work jurisdiction under Article 15 of the OECD Model.

Stranded worker: exceeding days of presence threshold due to travel restrictions

The COVID-19 pandemic has caused individuals who are resident in one jurisdiction and exercised an employment in another jurisdiction to become stranded in that other jurisdiction.

Where an employee is prevented from travelling because of COVID-19 public health measures of one of the governments involved and remains in a jurisdiction, the Updated Guidance recommends the jurisdiction involved to disregard the additional days spent in that jurisdiction under such circumstances for the purposes of the 183-day test in Article 15(2)(a) of the OECD Model. Some jurisdictions may, however, take a different approach or may have issued specific guidance outlining their approach (e.g. Sweden). Taxpayers in this situation are encouraged to contact their local tax authority.

Special provisions in some bilateral treaties that deal with the situation of cross-border workers

A change of place where cross-border workers exercise their employment may also affect the application of the special provisions in some bilateral treaties that deal with the situation of cross-border workers. These provisions apply special treatment to the employment income of cross-border workers and may often contain limits on the number of days that a worker may work outside the jurisdiction they regularly work before triggering a change in their status.

Under such special treaty provisions the taxing rights may be allocated in a different way to Article 15 of the Model Convention (e.g. the commuting employees are taxed on their employment income in their home country if such activity is limited to a maximum stated period, typically ranging from 4 to 6 working weeks). Some of those treaties include provisions according to which teleworking days are considered working days within the work jurisdiction. Further, some jurisdictions have agreed to treat the COVID-19 pandemic as force majeure or an exceptional circumstance and, accordingly, the time spent by the employee teleworking in their home jurisdiction will not be included in the calculation of the maximum work days outside the work jurisdiction limitation for the purposes of the treaty.

Teleworking from abroad i.e. working remotely from one jurisdiction for an employer of the other jurisdiction

If the country, where the employment was formerly exercised, changed, then this jurisdiction should lose its taxing rights and additional compliance difficulties would arise for employers and employees. Employers may have withholding obligations, which are no longer underpinned by a substantive taxing right. These would therefore have to be suspended or a way found to refund the tax to the employee. The employee would also have a new or enhanced liability in their jurisdiction of residence, which would result in new filing obligations.

The Updated Guidance emphasises that exceptional level of coordination between jurisdictions is necessary to mitigate the compliance and administrative costs for employees and employers associated with an involuntary and temporary change of the place of employment. Where relevant, MAP (Mutual Agreement Procedure) should be applied efficiently and pragmatically to help resolve issues arising out of the COVID-19 pandemic. (In October 2020 the Hungarian Tax Administration issued two detailed guidances on MAP for European Union and international tax disputes which are available here: https://en.nav.gov.hu/search/searchresults?heading=7292&query=MAP+procedure)

 

An article by Marina Lisznyanszkaja, Senior Tax Advisor, VGD Hungary