IN BRIEF

Impacts of Covid-19 on International Taxation

April 21, 2020

Empty Champs Elysees in Paris
Photographer: Cyril Marcilhacy/Bloomberg

IN THIS ARTICLE

How might Covid-19 and the various actions of individual countries to respond to it affect companies’ international tax positions?


What will companies need to know to deal with this unique business challenge?


How are tax compliance requirements changing?


What tax relaxation measures are being put in place to assist businesses?


What are the potential consequences of travel restrictions on personal, employer, and company taxes?


Countries’ accounting rules can be critical in managing Covid-19’s effect


Something to think about for the future


[For more tax and accounting guidance to help you advise clients and businesses through the impact of Covid-19, visit our resource page.]

How might Covid-19 and the various actions of individual countries to respond to it affect companies’ international tax positions?

For businesses and individuals with cross-border operations or trade in goods and services, and for individuals who reside or work in two or more countries, the measures adopted by countries to combat Covid-19 and then recover from it could have significant tax consequences.

For example, restrictions on the movement of people may alter exposure to personal tax liability or tax residence, employers’ liability for tax in a country, or in extreme situations, even the place of effective management of corporations (i.e., corporate residence). Business closures and significant reductions in turnover of inventory and imports or exports, and the isolation or quarantine of key personnel, will create challenges in complying with tax and accounting requirements.

Other taxes such as payroll and excise taxes are not covered by this relief but may be the subject of future IRS guidance.

[Subscribers: Keep up with all of the coronavirus coverage available on our Coronavirus Tax Watch page.]

What will companies need to know to deal with this unique business challenge?

Much will depend on the country or countries in which your business operates and in which employees reside and carry on administrative and business activities, the extent of cross-border activities, and how those relate to tax and other measures that countries have introduced to support both businesses and individuals in resisting and recovering from the effects of Covid-19.

 

It is therefore essential to keep abreast of the unintended consequences that existing legislation may have on your domestic and international tax liabilities and compliance requirements, and the effect of each country’s further actions to help businesses mitigate the effects of Covid-19.

 

The following outlines various tax compliance, tax liability, and tax accounting issues that companies may face.

Coronavirus Tax Watch Page

Bloomberg Tax & Accounting’s Coronavirus Tax Watch page, accessible to all subscribers, provides easy access to all of our tax coverage related to Covid-19. In addition to news and links to key documents, you’ll find In Briefs and roadmaps from our analyst team that provide concise summaries and analysis of rapidly changing tax developments.

How are tax compliance requirements changing?

Because Covid-19 is spreading around the world during the spring, it is hitting at a time when many countries’ annual income tax filing and payment deadlines occur. Requirements for people to quarantine themselves at home and closures of cities – and in some cases whole countries – to travel are disrupting workforces and interrupting businesses’ ability to manage information and meet compliance requirements.

Many countries are reacting to this by extending deadlines to file income tax returns, make tax payments, or both. In some cases, countries have gone further and offered penalty- and interest-free periods within which returns can be filed and payments made. Similar extensions are being offered for other taxes, including VAT returns and payments in some countries, which usually offer faster turnarounds on benefits than income tax measures.

Administrative compliance requirements such as the due date for reports under the Common Reporting Standard and FATCA are also often being relaxed during the Covid-19 crisis.

These measures are changing as the severity of the measures that must be taken to combat the virus increases, so tracking them for countries in which a company has business will be important.

[For more information on changes to filing and payment requirements and tax breaks, see the International Direct Tax Coronavirus Roadmap.]

What tax relaxation measures are being put in place to assist businesses?

In an effort to stimulate activity and help businesses through this rough period, many countries are enacting tax measures to reduce tax expenses in addition to compliance relaxations.

Business expense deductions and credits:

Many countries have announced or enacted a very broad range of tax base reduction measures such as extra deductions for depreciation (capital allowances), enhanced deductions for sanitary or health measures taken to protect employees and customers, and in some cases, permitting deduction of a multiple of an actual expense. Most countries that are actively pursuing fiscal policy enhancements are coming forth with measures to assist employers and employees, such as reductions or postponements of social taxes and, in some cases, multiple deductions of wages and salaries under defined conditions.

Many countries are similarly announcing or implementing VAT reductions, targeted credits, and relaxed compliance requirements to stimulate trade.

Operational losses:

Companies severely impacted by Covid-19 and the various measures introduced will likely realize operational losses in the fiscal years affected. Many countries are either permitting or expanding provisions for loss carrybacks as a way to provide businesses with cash to continue operations. Companies should keep abreast of these measures in different countries so that they can make the most efficient use of them. The most tax-efficient methods should be sought for offsetting those losses, including carryforward and carryback provisions, offset against other profits and gains (e.g., whether operational losses can be offset against capital gains).

In countries that permit intragroup transfers of losses, transfer pricing rules must be taken into consideration for those loss transfers. As with any related party transaction, contemporaneous documentation is essential in many countries to sufficiently demonstrate that the arm’s-length principle has been met. General anti-avoidance rules may also apply.

What are the potential consequences of travel restrictions on personal, employer, and company taxes?

If a company has employees stranded in a country because they can’t return home, a number of tax consequences might result, some of which might be managed, but all of which should be considered.

Individual liabilities:

Restrictions on cross-border movement that cause employees to spend unexpected time in a country can have a variety of consequences for an individual. Many of these consequences will derivatively affect their employers. At the most basic level, an employee working in a country for a minimal period of time may not be liable for a country’s income tax, but in most countries, this presence threshold is low. Overstaying a planned presence by two or three weeks could make that employee liable for income tax, particularly if the employee uses that time in-country to work.

Longer presences – whether an employee works during that presence or not – can have more severe impacts: stay in a country long enough, and the country will likely consider you to be a resident. Many countries use a strict day count (often either 90 or 183) to determine when a presence is long enough to confer resident status. Acquiring resident status will expand the income the country will seek to tax from what is earned in-country to worldwide income.

This becomes of particular relevance if that country has higher tax rates than the individual’s usual country of residence, and can be an expense for an employer if the employer reimburses employees for foreign tax expenses. Companies in businesses that involve projects count very carefully how long project employees are in a country; Covid-19 travel restrictions or quarantine requirements can affect these, unless the country has implemented rules to excuse workers caught by those measures. (Some countries are doing so.)

Social security or national insurance tax:

Employees who work abroad on a temporary basis, but are unable to return to their own country of residence because of movement restrictions, may become liable to the social security or national insurance tax requirements of the temporary location. This has a derivative effect on their employer, who then becomes liable for withholding those contributions and paying employer contributions, which in many countries are larger, often much larger, than employee contributions.

There are social security (“totalization”) agreements that can mitigate this, but if social security taxes become applicable, the employer will need to register as an employer and establish arrangements to report and pay these taxes.

Recognizing this, some countries have announced or implemented relaxation of social security contributions and employer compliance responsibilities for employees stranded in-country by Covid-19 restrictions on travel.

Employers are in a country when employees are in the country:

Just as employees have two potential tax statuses in a country (sufficiently present to be a taxpayer and resident), so do employers, as a result of having employees. At an initial level, in-country employees cause the employer to be conducting business in the country, which is the threshold at which countries begin to expect tax compliance. Income tax presence and VAT presence vary from one country to another, but in either case the initial threshold is low, and employees working in a country while travel restrictions prevent them from leaving can create this issue (even if the original purpose of the trip was a holiday).

A business presence can require registration as a taxpayer, and normally requires, at least in theory, registration as an employer, with attendant return filing and tax payment compliance responsibilities. More significant presence definitely will do both.

In many countries, services provided to a customer or client by an individual (such as an employee) on behalf of an employer can be deemed to be a permanent establishment (PE) if the services last beyond a threshold period (usually either 90 or 183 days). Restrictions on movement of a nonresident individual who is providing services in a country on a foreign employer’s behalf, and which result in his or her remaining there for longer than intended, could result in the creation of a PE in that country. The activities of that individual should therefore be monitored and reviewed if this is to be avoided.

Corporate residence can be affected by directors and high-level managers:

Many countries have a place of effective management (POEM) test to determine the tax residence of corporations. This is where the high-level management of corporations takes place, such as board meetings, and where key operational and financing decisions are made. A change in the tax residence of a company as a result of restrictive movement of key personnel would cause a country’s income tax to apply to worldwide income. Although it may seem unlikely that travel-restricted or quarantined personnel would conduct a sufficient amount of strategic work to change a company’s residence, virtual meetings using telecommunications and other long-distance communication capabilities may raise questions about where the place of “effective” management actually is. This could lead to more than one country claiming to have become the residence of a company, and at best would be a tax-conflict nuisance, if not a major expense, particularly if countries newly claiming to be the place of residence are higher-tax countries.

Double taxation relief:

All of the situations described above create or increase the exposure of people and companies to income tax by more than one country. Restricted movement of people shifts the balance between the countries over how much of the income each country taxes. The negative effect of these tax consequences can be mitigated if there are double taxation agreements between the countries involved. Alternatively, foreign tax credits under domestic legislation for tax paid abroad may provide some relief from double taxation.

Countries’ accounting rules can be critical in managing Covid-19’s effect

In addition to the areas mentioned above, various tax rules for the treatment of items of income and expense will become important. Here are some areas that typically come under pressure in adverse economic times, and may become subject to various changes as countries look for more ways to keep businesses in business.

Inventory valuation:

The value of inventory is a key issue for determining the cost of sales. Companies with significant inventory may be adversely affected by decreased valuation of inventory as a result of substantially reduced trade resulting from Covid-19. A country’s accounting standards and any legislative provisions that it enacts on closing inventory valuation (such as the lower of cost or net realizable value) will be an important factor.

Intragroup finance:

Intragroup financial arrangements in the form of loans, e.g., to shore up loss-making members of the group, may be subject to withholding tax requirements for interest payments on loans. Profit distributions made for this reason may be subject to dividend withholding tax. Management charges for the time spent servicing intercompany loan arrangements may be subject to withholding tax on the service provided.

In most countries, intragroup financing is subject to transfer pricing rules, including contemporaneous documentation requirements to sufficiently demonstrate that the arm’s-length principle has been met. There may also be thin capitalization or other interest limitation rules to consider that restrict the deduction of interest expenses. General anti-avoidance rules may also apply.

Insurance receipts:

It may be necessary to consider the tax treatment of insurance receipts. For example, insurance paid out as compensation for damages (e.g., for stock with a short shelf life that has been lost or spoiled) may not be taxed; however, insurance for loss of income may be taxed in place of the profit that would have been earned.

Corporate restructuring:

Where revenue streams are impacted, and companies decide to restructure by divesting loss-making operations, they may be able to claim tax relief on capital and operational losses. Some countries allow the new owners of those operations to continue to offset and carry forward the losses inherited; other countries prohibit this, or impose limits or conditions to permit this (such as a transfer of majority control to the new owner).

Something to think about for the future

In response to the rapid and severe economic damage of Covid-19, governments are implementing unique stimulus measures, at great expense. The unprecedented tax reductions will severely affect future budgets. Businesses can expect that once the immediate impact of Covid-19 settles down, there will be increased pressure to collect taxes that are due, as well as to increase taxes to cover the cost of stimulus packages.

Coming on top of an already active compliance environment caused by the OECD’s BEPS initiative, multinational businesses can expect more active and aggressive audits in the future. Ensuring that tax positions taken now are well supported and well documented will pay dividends in the future.


Bloomberg Tax & Accounting’s coronavirus resource page offers additional guidance to help you advise clients and businesses through the impact of Covid-19.

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