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Report on Attribution of Profits to PEs released

The OECD released on 21 December 2006 a new report on the attribution of profits to permanent establishments (PE). The report released by the OECD contains new versions of Part I (General Considerations), Part II (Banking) and Part III (Global Trading), which replace all previous respective drafts.

The OECD have long acknowledged that the current lack of a common interpretation and consistent application of Art. 7 (business profits) can lead to double taxation and non-taxation situations. As such, the OECD decided to examine how the principles developed in the 1995 OECD Transfer Pricing Guidelines should apply in the context of the relationship between a PE and the rest of the enterprise to which it belongs.

As a first step, a working hypothesis (WH) was developed and publicly released in February 2001 as to the preferred approach for attributing profits to a PE under Art. 7. Following extensive public consultation, a revised version of Part I, II and III was subsequently released in August 2004, which renamed the WH as the authorized OECD approach (AOA). Part IV, which deals with insurance enterprises, was only released in June 2005. Based on the public discussions, the working group responsible to analyse whether changes were necessary to the OECD Model and Commentary and/or the Transfer Pricing Guidelines, decided that further work was needed to complete the project.

The revised version of Part I includes several changes to the 2004 Discussion Draft, including the replacement of the "key entrepreneurial risk-taking function" (KERT function) terminology for attributing assets and risks to PEs. The 2006 version uses instead "significant people functions relevant to the economic ownership of assets" and "significant people functions relevant to the assumption and/or management (subsequent to the transfer) of risks". The KERT terminology was retained for the purposes of Parts II, III and IV.

The new version of Part I also does not address the problem of symmetrical application of the AOA. Nevertheless, it is expected that the draft implementation package, which will follow the new drafts, will include appropriate language to incorporate the symmetry issue.

Finally, the new version of Part I includes a modified conclusion as to the criteria by which tangible assets are to be attributed to PEs, in order to reflect a broad consensus of the OECD member countries on that point.

The new drafts are to be followed by the release during 2007 of the implementation package containing additions to the existing Commentary and new Article and Commentary. In fact, the OECD plans to redraft Art. 7 and Commentary in a way to remove the potential for different interpretations as to how profits should be attributed to PEs. The OECD also plans to issue a revised Commentary for the current version of Art. 7, since it considers that many of the conclusions included in Parts I to III do not conflict with the existing Commentary.

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