The Covid-19 pandemic may cause issues for international businesses and businesses with an international workforce or management team. Travel restrictions could result in companies inadvertently creating permanent establishments in other jurisdictions and, for certain companies, there is a risk of a migration of tax residency. Tax authority scrutiny of potential permanent establishments has increased significantly over recent years and multinationals should be aware of the potential risks of changes to working patterns arising from the current circumstances. Although the Covid-19 situation is hopefully temporary, its impact on our way of working is likely to be long-lasting. Businesses therefore need to constantly monitor the risks associated with an internationally mobile workforce and management team to avoid any unplanned tax consequences.
Recent weeks have seen the largest peacetime changes in working patterns ever. From a tax perspective, the focus has been on the measures brought in to address the urgent needs of businesses and their employees: supporting workers, managing cash flow, seeking opportunities and navigating this tumultuous period. There are deferrals of VAT payment obligations and self-assessment income tax payments, as well as the much-publicised package of support for employees, employers and the self-employed. That is understandably the immediate concern. However, looking further down the line, it is important for international businesses, especially those with an internationally mobile workforce, to consider the implications that prolonged changes in working patterns could have on a group’s tax position.
Working from home, and ‘remote’ or ‘agile’ working, has become increasingly prevalent over the last few years. However, the Covid-19 outbreak has, over a very short period, seen a huge volume of employees, contractors and agents move from working in an office, to voluntarily working from home, to being forced to work from home (where feasible). These changes have also prompted questions as to whether, in the long term, the paradigm of the working environment may well change for many people from office-based to remote working.
In a purely domestic context, such changes may not cause many immediate tax concerns for a business. However, for multinational groups, there are a number of issues to consider.
If an employee of a company in the UK starts to work from home in the UK, this is unlikely to cause particular concern. However, a change in working patterns resulting from ‘homeworking’ for an employee or agent acting in one jurisdiction, but employed or engaged from another jurisdiction, may increase the risk of a permanent establishment (PE) arising in the employee’s jurisdiction.
Whilst the rules on PE vary to an extent from jurisdiction to jurisdiction, typically and consistent with the OECD model convention, a PE in a jurisdiction arises where an entity has:
Many businesses operate in a manner such that neither condition is met. For example, an employee may be itinerant, without an office leased by the employer, and with a role and responsibilities that do not trigger a dependent agency relationship (broadly, habitually concluding contracts or playing the principal role leading to the conclusion of contracts). Barring a change in the roles or responsibilities of a worker, it is unlikely that a change in working patterns resulting from prolonged homeworking outside of a company’s ‘home’ jurisdiction should cause a dependent agency PE risk to arise. However, an employee starting to work from home (or from another jurisdiction) for a prolonged period (whether through choice or enforced) may give rise to a PE in the employee’s home jurisdiction as a result of there being considered to be a ‘fixed place of business’.
In the ‘OECD Model Tax Convention: revised proposals concerning the interpretation and application of article 5 2012 (para 27)’, an OECD Working Party highlighted the question of whether a home office was ‘at the disposal of the employer’ as a key consideration in determining whether it amounts to a PE. The OECD Model Tax Convention 2017 commentary on article 5 (para 18) highlights the following factors to consider in this regard:
There is limited UK jurisprudence or (until recently) HMRC guidance on home offices potentially giving rise to a PE. However, as many jurisdictions base their tax laws and practice in this area on OECD guidance, it can be helpful to look to how tax authorities in other jurisdictions have addressed this issue.
For example, the Swedish tax agency issued a statement in 2015 which set out when a home office could be considered a PE for the purposes of Swedish law (Statement No. 131 160469-15/111, 16 March 2015), including:
Each of the above criteria may conceivably be more likely met in the current environment.
The consistent trend is tax authority attention being drawn to the permanence and regularity of the work carried out by the employee from their home office, which inevitably is increasing currently (and may continue to do so with any ‘paradigm shift’ in working patterns).
Where there is found to be a PE of a non-UK company trading in the UK, this would result in the income, profits and gains attributable to such PE as being within the charge to corporation tax under CTA 2009 ss 5 and 19. The individual(s) resident or working in the UK and giving rise to the PE would be treated as the UK representative(s) of the non-UK company, with the effect that any corporation tax liabilities of the non-UK company would be recoverable from such individual(s) under CTA 2010 s 970. Equivalent provisions exist in other jurisdictions that would impact UK companies with PEs overseas.
The OECD and HMRC have recently provided guidance on the PE risk associated with Covid-19. Each takes the view that a temporary change in employee location would lack the necessary permanence for a fixed place of business PE; for a dependent agent PE, an employee's activity is unlikely to be habitual if carried on for a short period of time.
Where a PE arises (and potentially even where one does not), there is also a possibility of operations being carried on from home in a different jurisdiction giving rise to a fixed establishment for VAT purposes.
Employers with an international workforce should actively review their circumstances and assess whether changes in means or location of working could give rise to registration, filing and/or payment obligations in territories, even where a PE risk review has previously been undertaken.
Whilst changes in working patterns most obviously create residency issues from a PE perspective, there is also potential for the overall tax residency of group companies to be impacted by changes.
Under UK domestic law, a non-UK incorporated company would be considered UK resident if its ‘central management and control’ is exercised in the UK. This is a question of fact and typically HMRC's approach is to:
Many multinational groups, or companies with an internationally diverse management team, will have protocols in place to ensure that board meetings are the forum through which central management and control is exercised, and that such management and control is properly exercised in the appropriate jurisdiction. There is a potential challenge for groups where there are entities or structures relying on board presence that do not equate to the natural physical location of directors.
The current situation, if prolonged, will likely put such protocols under pressure. Directors who would previously have travelled to a quarterly board meeting in the appropriate jurisdiction may no longer be able to do so, with attendance instead by phone or online.
Residence is wholly a question of fact, which is determined on a case by case basis by considering and analysing the specific circumstances over a period of time. As such, it is expected that temporary or one-off changes in practice may typically not cause a shift in residency in most cases (and recent HMRC guidance on the Covid-19 residency risk supports this view). However, the position will become increasingly uncertain if working practices remain disrupted for a prolonged period.
Where the board of a company is truly international, there is a potential that various jurisdictions may seek to assert that a company is or has become resident in that territory. A company can be resident in more than one country, under the domestic law of the respective countries, as residence conditions may vary by jurisdiction. In such circumstances, a relevant double tax treaty between the two countries may include a ‘tie-breaker’ clause in order to determine which country is ultimately awarded taxing rights. A residence tiebreaker test is an objective test which is usually determined on the basis of the location of ‘effective management’. A head office function is often given as an example of this ‘effective management’. This is therefore a slightly different test to central management and control. However, where the head office is closed and ceases to be the place of effective management, again there may be a different analysis from the historic position.
In the OECD's view, all relevant facts and circumstances should be examined to determine the usual and ordinary place of effective management, not only those pertaining to an exceptional and temporary period such as the Covid-19 crisis. Nevertheless, groups and companies with an internationally diverse board should be considering their residence and management protocols and procedures to determine if there are any risks of inadvertently migrating corporate residence, with the potential tax implications that would follow.
The arm’s length principle is the international standard that OECD member countries and many other countries have agreed should be used for determining transfer prices for tax purposes. Countries such as the UK that apply the arm’s length standard generally have rules for when transfer pricing arrangements between associated enterprises do not reflect market forces and the arm’s length principle. These provide that the taxable profits of associated enterprises may be adjusted as necessary to correct any such distortions, thereby ensuring that the arm’s length principle is satisfied.
An arm’s length return for a related party transaction for transfer pricing purposes depends critically on the functions that each enterprise performs. Once again, it is possible that previously internationally mobile individuals (including ‘weekly commuters’) undertaking their functions from a different jurisdiction than normal could impact a group’s existing transfer pricing position or policies. For example, in the context of intangible asset transactions, BEPS guidance provides a framework for determining which members of a multinational group should share in the economic returns generated by those intangibles based on the value they create through functions performed, assets used and risks assumed in their development, enhancement, maintenance, protection and exploitation.
A number of jurisdictions have enacted economic substance requirements to address concerns that companies were being used to artificially attract profits that were not commensurate with economic activities in those jurisdictions. In particular, the UK's Crown Dependencies (Jersey, Guernsey and the Isle of Man) and Overseas Territories (Bermuda, Cayman Islands and BVI) have recently introduced such requirements, in response to having been placed on the EU ‘blacklist’ of non-cooperative tax jurisdictions.
Under these rules, certain companies are required to demonstrate they have substance in a particular jurisdiction by being directed and managed in that jurisdiction, as well as conducting core income generating activities and having adequate people, premises and expenditure there.
Given the current travel restrictions imposed on otherwise mobile company officers, it is clear that these requirements may be difficult to meet. There is therefore the potential for undermining substance in territories if functions are not maintained where anticipated (or are maintained inconsistently with rulings). Some territories have specifically addressed the impact of Covid-19 on their economic substance requirements. For example, the Jersey Comptroller of Revenue has confirmed that if companies have to adjust their operations owing to the Covid-19 outbreak, the comptroller will not determine that a company has failed the economic substance test. This treatment extends only to any required adjustments made to the company's normal practice in order to mitigate threats of the virus (for example, where virtual board meetings need to be held while directors are prevented from travelling due to restrictions being in place).
There are, of course, numerous other tax issues that the current circumstances could cause international businesses and their workforces. Individuals stranded in the UK (or another jurisdiction) and unable to leave the country may risk becoming tax resident in a jurisdiction unintentionally (although it is the OECD's view that an individual's residence will likely not change by virtue of such temporary dislocation). Payroll and social security obligations also potentially need to be considered. Employees will want to understand whether they can receive tax deductions for expenses they incur in enabling them to work from home. At a more operational level, if employees require materials or equipment to be sent from their office cross-border to their homes in order to work, there could be customs and VAT costs involved.
Businesses will clearly be focused on their immediate requirements in managing and operating in the current situation. However, they need to review the potential implications of the circumstances impacting their tax position internationally.
The Covid-19 pandemic may cause issues for international businesses and businesses with an international workforce or management team. Travel restrictions could result in companies inadvertently creating permanent establishments in other jurisdictions and, for certain companies, there is a risk of a migration of tax residency. Tax authority scrutiny of potential permanent establishments has increased significantly over recent years and multinationals should be aware of the potential risks of changes to working patterns arising from the current circumstances. Although the Covid-19 situation is hopefully temporary, its impact on our way of working is likely to be long-lasting. Businesses therefore need to constantly monitor the risks associated with an internationally mobile workforce and management team to avoid any unplanned tax consequences.
Recent weeks have seen the largest peacetime changes in working patterns ever. From a tax perspective, the focus has been on the measures brought in to address the urgent needs of businesses and their employees: supporting workers, managing cash flow, seeking opportunities and navigating this tumultuous period. There are deferrals of VAT payment obligations and self-assessment income tax payments, as well as the much-publicised package of support for employees, employers and the self-employed. That is understandably the immediate concern. However, looking further down the line, it is important for international businesses, especially those with an internationally mobile workforce, to consider the implications that prolonged changes in working patterns could have on a group’s tax position.
Working from home, and ‘remote’ or ‘agile’ working, has become increasingly prevalent over the last few years. However, the Covid-19 outbreak has, over a very short period, seen a huge volume of employees, contractors and agents move from working in an office, to voluntarily working from home, to being forced to work from home (where feasible). These changes have also prompted questions as to whether, in the long term, the paradigm of the working environment may well change for many people from office-based to remote working.
In a purely domestic context, such changes may not cause many immediate tax concerns for a business. However, for multinational groups, there are a number of issues to consider.
If an employee of a company in the UK starts to work from home in the UK, this is unlikely to cause particular concern. However, a change in working patterns resulting from ‘homeworking’ for an employee or agent acting in one jurisdiction, but employed or engaged from another jurisdiction, may increase the risk of a permanent establishment (PE) arising in the employee’s jurisdiction.
Whilst the rules on PE vary to an extent from jurisdiction to jurisdiction, typically and consistent with the OECD model convention, a PE in a jurisdiction arises where an entity has:
Many businesses operate in a manner such that neither condition is met. For example, an employee may be itinerant, without an office leased by the employer, and with a role and responsibilities that do not trigger a dependent agency relationship (broadly, habitually concluding contracts or playing the principal role leading to the conclusion of contracts). Barring a change in the roles or responsibilities of a worker, it is unlikely that a change in working patterns resulting from prolonged homeworking outside of a company’s ‘home’ jurisdiction should cause a dependent agency PE risk to arise. However, an employee starting to work from home (or from another jurisdiction) for a prolonged period (whether through choice or enforced) may give rise to a PE in the employee’s home jurisdiction as a result of there being considered to be a ‘fixed place of business’.
In the ‘OECD Model Tax Convention: revised proposals concerning the interpretation and application of article 5 2012 (para 27)’, an OECD Working Party highlighted the question of whether a home office was ‘at the disposal of the employer’ as a key consideration in determining whether it amounts to a PE. The OECD Model Tax Convention 2017 commentary on article 5 (para 18) highlights the following factors to consider in this regard:
There is limited UK jurisprudence or (until recently) HMRC guidance on home offices potentially giving rise to a PE. However, as many jurisdictions base their tax laws and practice in this area on OECD guidance, it can be helpful to look to how tax authorities in other jurisdictions have addressed this issue.
For example, the Swedish tax agency issued a statement in 2015 which set out when a home office could be considered a PE for the purposes of Swedish law (Statement No. 131 160469-15/111, 16 March 2015), including:
Each of the above criteria may conceivably be more likely met in the current environment.
The consistent trend is tax authority attention being drawn to the permanence and regularity of the work carried out by the employee from their home office, which inevitably is increasing currently (and may continue to do so with any ‘paradigm shift’ in working patterns).
Where there is found to be a PE of a non-UK company trading in the UK, this would result in the income, profits and gains attributable to such PE as being within the charge to corporation tax under CTA 2009 ss 5 and 19. The individual(s) resident or working in the UK and giving rise to the PE would be treated as the UK representative(s) of the non-UK company, with the effect that any corporation tax liabilities of the non-UK company would be recoverable from such individual(s) under CTA 2010 s 970. Equivalent provisions exist in other jurisdictions that would impact UK companies with PEs overseas.
The OECD and HMRC have recently provided guidance on the PE risk associated with Covid-19. Each takes the view that a temporary change in employee location would lack the necessary permanence for a fixed place of business PE; for a dependent agent PE, an employee's activity is unlikely to be habitual if carried on for a short period of time.
Where a PE arises (and potentially even where one does not), there is also a possibility of operations being carried on from home in a different jurisdiction giving rise to a fixed establishment for VAT purposes.
Employers with an international workforce should actively review their circumstances and assess whether changes in means or location of working could give rise to registration, filing and/or payment obligations in territories, even where a PE risk review has previously been undertaken.
Whilst changes in working patterns most obviously create residency issues from a PE perspective, there is also potential for the overall tax residency of group companies to be impacted by changes.
Under UK domestic law, a non-UK incorporated company would be considered UK resident if its ‘central management and control’ is exercised in the UK. This is a question of fact and typically HMRC's approach is to:
Many multinational groups, or companies with an internationally diverse management team, will have protocols in place to ensure that board meetings are the forum through which central management and control is exercised, and that such management and control is properly exercised in the appropriate jurisdiction. There is a potential challenge for groups where there are entities or structures relying on board presence that do not equate to the natural physical location of directors.
The current situation, if prolonged, will likely put such protocols under pressure. Directors who would previously have travelled to a quarterly board meeting in the appropriate jurisdiction may no longer be able to do so, with attendance instead by phone or online.
Residence is wholly a question of fact, which is determined on a case by case basis by considering and analysing the specific circumstances over a period of time. As such, it is expected that temporary or one-off changes in practice may typically not cause a shift in residency in most cases (and recent HMRC guidance on the Covid-19 residency risk supports this view). However, the position will become increasingly uncertain if working practices remain disrupted for a prolonged period.
Where the board of a company is truly international, there is a potential that various jurisdictions may seek to assert that a company is or has become resident in that territory. A company can be resident in more than one country, under the domestic law of the respective countries, as residence conditions may vary by jurisdiction. In such circumstances, a relevant double tax treaty between the two countries may include a ‘tie-breaker’ clause in order to determine which country is ultimately awarded taxing rights. A residence tiebreaker test is an objective test which is usually determined on the basis of the location of ‘effective management’. A head office function is often given as an example of this ‘effective management’. This is therefore a slightly different test to central management and control. However, where the head office is closed and ceases to be the place of effective management, again there may be a different analysis from the historic position.
In the OECD's view, all relevant facts and circumstances should be examined to determine the usual and ordinary place of effective management, not only those pertaining to an exceptional and temporary period such as the Covid-19 crisis. Nevertheless, groups and companies with an internationally diverse board should be considering their residence and management protocols and procedures to determine if there are any risks of inadvertently migrating corporate residence, with the potential tax implications that would follow.
The arm’s length principle is the international standard that OECD member countries and many other countries have agreed should be used for determining transfer prices for tax purposes. Countries such as the UK that apply the arm’s length standard generally have rules for when transfer pricing arrangements between associated enterprises do not reflect market forces and the arm’s length principle. These provide that the taxable profits of associated enterprises may be adjusted as necessary to correct any such distortions, thereby ensuring that the arm’s length principle is satisfied.
An arm’s length return for a related party transaction for transfer pricing purposes depends critically on the functions that each enterprise performs. Once again, it is possible that previously internationally mobile individuals (including ‘weekly commuters’) undertaking their functions from a different jurisdiction than normal could impact a group’s existing transfer pricing position or policies. For example, in the context of intangible asset transactions, BEPS guidance provides a framework for determining which members of a multinational group should share in the economic returns generated by those intangibles based on the value they create through functions performed, assets used and risks assumed in their development, enhancement, maintenance, protection and exploitation.
A number of jurisdictions have enacted economic substance requirements to address concerns that companies were being used to artificially attract profits that were not commensurate with economic activities in those jurisdictions. In particular, the UK's Crown Dependencies (Jersey, Guernsey and the Isle of Man) and Overseas Territories (Bermuda, Cayman Islands and BVI) have recently introduced such requirements, in response to having been placed on the EU ‘blacklist’ of non-cooperative tax jurisdictions.
Under these rules, certain companies are required to demonstrate they have substance in a particular jurisdiction by being directed and managed in that jurisdiction, as well as conducting core income generating activities and having adequate people, premises and expenditure there.
Given the current travel restrictions imposed on otherwise mobile company officers, it is clear that these requirements may be difficult to meet. There is therefore the potential for undermining substance in territories if functions are not maintained where anticipated (or are maintained inconsistently with rulings). Some territories have specifically addressed the impact of Covid-19 on their economic substance requirements. For example, the Jersey Comptroller of Revenue has confirmed that if companies have to adjust their operations owing to the Covid-19 outbreak, the comptroller will not determine that a company has failed the economic substance test. This treatment extends only to any required adjustments made to the company's normal practice in order to mitigate threats of the virus (for example, where virtual board meetings need to be held while directors are prevented from travelling due to restrictions being in place).
There are, of course, numerous other tax issues that the current circumstances could cause international businesses and their workforces. Individuals stranded in the UK (or another jurisdiction) and unable to leave the country may risk becoming tax resident in a jurisdiction unintentionally (although it is the OECD's view that an individual's residence will likely not change by virtue of such temporary dislocation). Payroll and social security obligations also potentially need to be considered. Employees will want to understand whether they can receive tax deductions for expenses they incur in enabling them to work from home. At a more operational level, if employees require materials or equipment to be sent from their office cross-border to their homes in order to work, there could be customs and VAT costs involved.
Businesses will clearly be focused on their immediate requirements in managing and operating in the current situation. However, they need to review the potential implications of the circumstances impacting their tax position internationally.
