“Z Pipeline” is a limited partnership which operates a network of pipelines. The network runs through Germany, Belgium and the Netherlands. During the year in question, “Z Pipeline”‘s administrative HQ was in Germany. Operational control of the pipeline was exercised by an ‘operations centre’ located in the Netherlands. It was not disputed that the pipeline constituted permanent establishments in Germany, Belgium and the Netherlands and that the profits should be allocated between the tree countries. The question was how the profits should be allocated. The tax authorities came to the conclusion that the profit should predominantly be allocated to the German permanent establishments. In accordance with the low functions and risks, only a low profit was to be allocated to the respective permanent establishments in Belgium an the Netherlands. The profit allocation was calculated using a cost-plus 30% due to industry and company-specific features. “Z Pipeline” disagreed with the method applied by the tax authorities and held that it was more appropriate to allocate the profits on the basis of the indirect method. Judgement of the Tax Court The Court decided in favour of “Z Pipeline”. Excerpt “66 VI.) Since the profit differentiation carried out by the defendant [tax authorities] cannot be used as a basis for taxation, the total profit achieved by the plaintiff [Z Pipeline] must be divided into domestic income within the meaning of § 15, para. 1, sentence 1, no. 2 of the Income Tax Act and into income that is tax-exempt according to double taxation agreements. In this respect, the Senate follows the apportionment made by the plaintiff, which results in domestic income from trade in the amount of €…. 67 The apportionment made by the plaintiff, which is essentially based on which part of the company’s assets (pipeline) generated which turnover, is consistent with Article 5, para. 2 DBA-NL 1959 / Article 7 DBA-Belgium. The defendant has not raised any comprehensible objections as to why the apportionment method, which the plaintiff also applied in a comparable form in the assessment periods up to and including 2009 and which withstood several external audits during this time, should be improper as of 2010. Insofar as he refers to the fact that the apportionment is already inappropriate because in Belgium, instead of the Belgian share of profits determined by the plaintiff, only a lump-sum taxation according to turnover has taken place, he fails to realise that the appropriateness of the profit apportionment has nothing to do with the subsequent taxation of the income and that, moreover, the lump-sum taxation according to turnover has taken place with the consent of the Belgian tax authorities. 68 In the opinion of the Senate, the apportionment chosen by the plaintiff also presents itself as a suitable and appropriate method for the apportionment of profits for the year in dispute 2011. In particular, the plaintiff applied an appropriate method for the apportionment of revenue by apportioning the fees from the transport of goods according to the extent to which the pipelines in Germany, Belgium or the Netherlands were actually used for the respective transport and by allocating the remuneration from the management of the foreign pipeline networks to Germany alone. The allocation of costs is also appropriate. Costs directly attributable to an operating facility (such as repair costs for a specific pipeline section) were allocated to the respective state of location, the costs for the Dutch operating centre responsible for monitoring the entire pipeline network were distributed among the three countries according to pipeline kilometres, and the remaining expenses were distributed according to various objective apportionment keys depending on the type of costs (including a country’s percentage share of the total investment costs or of the total revenue). As these apportionment keys had already been applied for many years and no specific objections had been raised by the tax authorities either in previous external audits or in the present legal action, the Senate had no reason to doubt the appropriateness of the apportionment keys. 69 This also applies to the plaintiff’s approach of allocating all administrative costs (personnel costs, etc.) to the German parent company and, in return, recognising fictitious service revenues for the administration of the foreign network share at the parent company (i.e. in the domestic income) determined according to arm’s length principles. Admittedly, neither this approach nor the calculation formula used by the plaintiff is without alternative. However, since no clearly more suitable yardsticks for the apportionment of administrative/personnel costs are apparent, the calculation can be followed. The fact that the apportionment method does not lead to an inappropriate result (from the perspective of the German tax authorities) is already shown by the fact that it results in higher domestic income in the year in dispute. The fictitious domestic service revenues (… €) are higher than the share of administrative costs that would be allocated to the foreign permanent establishments according to the general allocation formula (-… €) and is now taken into account as expenses in Germany. 70 The income from the supplementary balance sheets is also to be allocated to the individual countries – as undertaken by the plaintiff. The defendant’s allocation of the income from the supplementary balance sheets to Germany alone, which is not substantiated in detail, is not comprehensible. The income is directly related to the hidden reserves contained in the individual assets at the time of the acquisition of the shares in the company and is therefore attributable to the foreign permanent establishment, insofar as the respective asset – in particular the pipeline – belonged to its business assets. The plaintiff proved that a) the supplementary balance sheets were formed on the occasion of changes in shareholders in 2002 and 2005, b) both in the calculation of the capital gains for the departing shareholders and in the calculation of the top-up amounts entered in the supplementary balance sheets, a domestic share of 39,81% and a foreign share of 60.19% and c) the apportionments made by it were examined both in the external audit ...

UPS Asia is a company incorporated under the laws of Singapore and is engaged in the business of provision of supply chain management including the provision of freight forwarding and logistic services. In 2012 UPS Asia had entered into a Regional Transportation Services Agreement with UPS SCS (India) Pvt. Ltd. for the provisions of freight and logistics services. Under the Transportation Agreement, UPS Asia arranged to perform international freight transportation and provide overseas support services, while UPS India performed freight and logistics services in India to its India customers and to UPS Asia. Following an audit an assessment was issued according to which UPS Asia had a PE in India in the form of UPS India. Furthermore, profits of Rs.2,09,53,496 was considered attributable to operation in India. The tax authorities held that UPS India constitutes a PE of UPS Asia in India within the meaning of Article 5 of India–Singapore DTAA. Not satisfied with the assessment UPS Asia filed an appeal and submitted that UPS India was remunerated in accordance with the arm’s length principle (article 9) and, therefore, no further profit was required to be attributed (Article 7) to UPS India in the present case. Judgement of the Tax Appellate Tribunal The Tribunal allowed the appeal of UPS and set aside the assessment. Excerpt ” … 9. …. Thus, respectfully following the decision of the Co–ordinate Bench rendered in assessee’s own case cited supra, we hold that when the Indian A.E. is remunerated at arm’s length price no further profit attribution is required and the issue of existence of P.E. becomes wholly tax neutral. Accordingly, the addition made by the Assessing Officer is directed to be deleted. 10. In the result, appeal by the assessee is allowed in terms of our aforesaid findings. .. Click here for html-version ...

The main mechanisms for resolving issues that arise in the application of international tax principles to MNEs are contained in these bilateral treaties. The Articles that chiefly affect the taxation of MNEs are: Article 4, which defines residence; Articles 5 and 7, which determine the taxation of permanent establishments; Article 9, which relates to the taxation of the profits of associated enterprises and applies the arm’s length principle; Articles 10, 11, and 12, which determine the taxation of dividends, interest, and royalties, respectively; and Articles 24, 25, and 26, which contain special provisions relating to non-discrimination, the resolution of disputes, and exchange of information ...

At issue was if the activities carried out by Samsung Heavy Industries’ Mumbai project office constituted a permanent establishment or if the activities were of a preparatory and auxiliary nature. The Indian Supreme Court decided in favor of Samsung Heavy Industries. Under the Tax Treaty, the condition for application of Article 5(1) of the Tax Treaty and there by constituting PE is that there should be a place ‘through which the business of an enterprise’ is wholly or partly carried on, and furthermore that these activities are not of a preparatory and auxiliary nature, cf. Article 5(4)(e). Board Resolution documents showed that the Mumbai project office was established to coordinate and execute “delivery documents in connection with construction of offshore platform modification of existing facilities for Oil and Natural Gas Corporation”. The office was not involved in the core activity of execution of the Project. No expenditure was incurred by the office in India – only 2 employees. The burden of proving that the office does not constitute a PE is not on the taxpayer. The activities carried out by the office in Mumbai were within the exclusionary Article 5(4)(e) of Tax Treaty as an auxiliary office acting only as a liaison office between taxpayer and Oil and Natural Gas Corporation ...

GE is incorporated in and is a tax resident of the USA. It is engaged in the business of manufacture and offshore sale of highly sophisticated equipments such as gas turbine parts and subassemblies. GE sells its products offshore on a principal to principal basis to customers all over the world, including to customers located in India, whereby the title to the goods sold to Indian customers passes from it outside India. A liaison office was set up in 1991 in New Delhi to act as a communication channel and not carry on any business activity. GE has been in India since 1902. Its global businesses had a presence in India and the group had become a significant participant in a wide range of key services, technology and manufacturing industries. Employment across India exceeds 12,000. Over 1 billion dollar of exports from India support GE’s global business operations around the world. It has sourced products, services and intellectual talent from India for its global businesses. It pioneered the concept of software sourcing from India and was one of the largest customers for the IT service industry of India. Following an extensive audit the tax authorities issued an income assessment to what they had determined to be a permanent establishment of GE in India. GE held they were not subjected to income tax laws of India as they had no permanent establishment. The High Court dismissed GE’s appeal and upheld the assessment. The High Court concluded that core sales activity was conducted from GE premises in India and that the activities in India were not of a preparatory and auxiliary character. The High Court rejected GE’s contention that since the expatriate employees and employees of the Indian entity did not have the authority to conclude contracts, the activities could not be anything other than preparatory and auxiliary. Determining whether a practice is preparatory or auxiliary requires asking whether the activity undertaken at the fixed place of business is an essential and significant part of the activity of the enterprise as a whole – it must be the case that the activities must per se be responsible for the realization of profits.” “… the process of sales and marketing of GE‟s product through its various group companies, in several segments of the economy (gas and energy, railways, power, etc.) was not simple.” “…. the facts of the present case clearly point to the fact that the assessee‟s employees were not merely liaisoning with clients and the headquarters office.” “GE India comprising of expats and other employees of GEIIPL etc., were not working for a particular enterprise, but, for multiple enterprises dealing in one of the three major businesses of GE group. Activities of an agent must be “devoted wholly, or almost wholly on behalf of that enterprise.” “GE India‟s activities clearly constitute activities that would establish agency PE in India” “…the analysis carried out by the Revenue – not merely by the ITAT but also by the AO in the assessment order, was after considering the relevant decisions – including Rolls Royce PLC – where 35% profits were attributable to marketing activities in India.” “Having regard to the conspectus of facts in this case and the findings of the lower Revenue authorities – including the AO and the CIT(A), both of whom have upheld the attributability of income to the extent of 10% and apportionment of 3.5% of the total values of supplies made to the customers in India as income, the Court finds no infirmity with the findings or the approach of the Tribunal in this regard.” “…since all questions of law have been answered against the assessees, these appeals have to fail and are consequently dismissed but without orders as to costs.” ...

The main mechanisms for resolving issues that arise in the application of international tax principles to MNEs are contained in these bilateral treaties. The Articles that chiefly affect the taxation of MNEs are: Article 4, which defines residence; Articles 5 and 7, which determine the taxation of permanent establishments; Article 9, which relates to the taxation of the profits of associated enterprises and applies the arm’s length principle; Articles 10, 11, and 12, which determine the taxation of dividends, interest, and royalties, respectively; and Articles 24, 25, and 26, which contain special provisions relating to non-discrimination, the resolution of disputes, and exchange of information ...

US companies, AB LLC and BD Holdings LLC, came to South Africa in 2007 to perform certain services for X, a company based in and operating from South Africa. To perform these services they concluded a contract with X. There only purpose for coming to South Africa was to perform the services and earn income or profits in terms of the contract. Having achieved this objective they left the country in 2008. Furthermore in 2009 they recieved a succes bonus for the work performed in 2007 and 2008. On 14 June 2011 they were assessed for taxation purposes for the 2007, 2008 and 2009 years by the Revenue Service. The total taxable amount for these years, although only earned during the period February 2007 to May 2008, according to the respondent, was R 63.990.639. The assessment was based on the provisions of Articles 7(1), 5(1) and 5(2)(k) of the DTA. According to these assessments the US companies were liable for tax for those years for the income it earned in South Africa during the stay here in 2007 and 2008. It was contended by the US companies that once the requirements of articles 5(2) are met the focus of the enquiry shifts to the requirements in article 5(1), and only if the requirements of article 5(1) are met can it be safely concluded that the existence of a “permanent establishment” has been proved. On this basis the, even if it were found that the requirements of article 5(2)(k) were met in this case (it specifically eschewed any concession to the effect that they were met), it nevertheless has still to be found that the requirements of article 5(1) had been met in order for being held liable for taxation for the income earned (or the profits it made) from operations in this country. The Court refered to basic rules of interpretation: “The need to interpret international treaties in a manner which gives effect to the purpose of the treaty and which is congruent with the words employed in the treaty is well established.” And: “As mentioned above the term must be given a meaning that is congruent with the language of the DTA having regard to its object and purpose.” The defining characteristic in terms of article 5(1) is that it must be “a fixed place of business through which the business of an enterprise is wholly or partly carried on”. Thus, the nonresident party (the appellant in this case) is not required to carry out all its business from the “fixed place of business” so established. In this sense, even if some of the obligations were performed from another premises, they would, nevertheless, have established “a permanent establishment”. The Tax Court dismissed the appeal and ruled in favor of the Revenue Service. The Court also upheld a penalty imposition of 100%. The court disagreed with the taxpayer’s argument that it had not intended to avoid the tax but had merely misinterpreted the law in good faith. The court noted: “The appellant must accept responsibility for its own error regardless of whether the error was bona fide or not. In these circumstances, it cannot be held that the respondent acted erroneously, or failed to exercise his discretion judiciously, when only waiving part of the additional tax he was entitled to impose, or that the imposition of the additional tax at all was unduly harsh. The appellant benefitted significantly from the waiver granted by the respondent. In my judgment, taking the waiver into account, it cannot be said that the additional tax imposed is disproportionately punitive. I find no fault with its imposition. Hence, its appeal against the additional tax must fail.” ...