Wednesday, February 8, 2012

The OECD Model Treaty; Permanent Establishment, Part I

Today, I'm going to move forward and look at the OECD Model Treaty's rules on permanent establishment.  This is important for a simple reason: in order to exert its taxing rights over a transaction or individual, a jurisdiction must either prove the person/business is a resident (which we covered over the last few weeks) or prove the transaction took place within the jurisdiction's borders.  A permanent establishment is where a transaction occurs; hence the determination of a permanent establishment is of vital importance.

Let's start with the basic definition: "For the purposes of this Convention, the term “permanent establishment” means a fixed place of business through which the business of an enterprise is wholly or partly carried on."  The commentary adds important, further clarification.
-- the existence of a "place of business", i.e. a facility such as premises or, in certain instances, machinery or equipment;

-- this place of business must be "fixed", i.e. it must be established at a distinct place with a certain degree of permanence;

-- the carrying on of the business of the enterprise through this fixed place of business.
Key to the above ideas is the importance of attachment to the jurisdiction's geography.  The tax authority must be able to point to a place on the map and say with certainty, "economic activity over which we can exert taxing authority occurs at this location."   The length of time the location is established is irrelevant; for example, as soon as the business is formally incorporated it will exist at the address listed in its articles of incorporation.  In addition, the commentary notes that some enterprises only exist for a short period of time, but should still be considered permanent establishments.

The commentary continues:
The term "place of business" covers any premises, facilities or installations used for carrying on the business of the enterprise whether or not they are used exclusively for that purpose. A place of business may also exist where no premises are available or required for carrying on the business of the enterprise and it simply has a certain amount of space at its disposal. It is immaterial whether the premises, facilities or installations are owned or rented by or are otherwise at the disposal of the enterprise. A place of business may thus be constituted by a pitch in a market place, or by a certain permanently used area in a customs depot (e.g. for the storage of dutiable goods). Again the place of business may be situated in the business facilities of another enterprise. This may be the case for instance where the foreign enterprise has at its constant disposal certain premises or a part thereof owned by the other enterprise.
The purpose of the above paragraph is to cover as many situations as possible, and to prevent ultra-technical lawyering from getting around the PE statute.  In short, this is what I personally call a legal "duck test;" if it walks and talks like a PE, it is a PE.  

Over the next few posts, I'll delve deeper into this concept.

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