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Final Report on Improving the Resolution of Tax Treaty Disputes — Orbitax Tax News & Alerts

On 8 December 2006, the OECD released a report entitled "Improving the Resolution of Tax Treaty Disputes". The report includes in the first place a proposal to add to Art. 25 of the  OECD Model Tax Convention an arbitration process to deal with unresolved issues that prevent competent authorities from reaching a mutual agreement. In addition, the report includes a revised version to the Commentary on Art. 25 ultimately designed to enhance the effectiveness of the mutual agreement procedure. The changes to the Model Tax Convention included in the report were approved on 30 January 2007 by the OECD Committee on Fiscal Affairs (CFA) and will be included in the 2008 update to the OECD Model.

Under the framework of tax treaties, the mutual agreement procedure is the general method for resolving cross-border tax disputes, which arise when two States assert conflicting taxing rights. Since cross-border tax disputes, are expected to become more frequent, the OECD agreed to modify the OECD Model Tax Convention by including the possibility of arbitration in cross-border disputes unresolved for more than two years.

In that regard, the OECD will add the following new paragraph 5 to Article 25:

-           Where,

a)         under paragraph 1, a person has presented a case to the competent authority of a Contracting State on the basis that the actions of one or both of the Contracting States have resulted for that person in taxation not in accordance with the provisions of this Convention, and

b)         the competent authorities are unable to reach an agreement to resolve that case pursuant to paragraph 2 within two years from the presentation of the case to the competent authority of the other Contracting State, any unresolved issues arising from the case shall be submitted to arbitration if the person so requests. These unresolved issues shall not, however, be submitted to arbitration if a decision on these issues has already been rendered by a court or administrative tribunal of either State. Unless a person directly affected by the case does not accept the mutual agreement that implements the arbitration decision, that decision shall be binding on both Contracting States and shall be implemented notwithstanding any time limits in the domestic laws of these States. The competent authorities of the Contracting States shall by mutual agreement settle the mode of application of this paragraph.

The new paragraph is supplemented by a footnote to address situations of States where such type dispute resolution is not permitted or is allowed under certain conditions. In addition, the OECD Commentary to Art. 25 will include new paragraphs 45 to 69.

Unlike the EU-Arbitration Convention, arbitration under the OECD Model is not restricted to transfer pricing issues. Nevertheless, the OECD recognizes that States may wish to restrict arbitration to primarily factual cases or certain classes of cases, such as transfer pricing or permanent establishment determination.

As regards the mode of application of the arbitration, the OECD includes a detailed sample form of agreement that the competent authorities may use as a basis for a mutual agreement to implement the arbitration process.

As regards the general approach of the sample agreement, the OECD uses as starting point the "independent opinion" approach, whereby arbitrators would be presented with the facts and arguments by the parties based on the applicable law, and would then reach their own independent decision which would be based on a written, reasoned analysis of the facts involved and applicable legal sources. Nevertheless, the OECD recognizes other approaches such as the "last best offer" or "final offer" approach, whereby each competent authority is required to give to the arbitral panel a proposed resolution of the issue involved and the arbitral panel would choose between the two proposals which were presented to it (see arbitration provision included in the recently signed US-Germany Protocol). As such, the OECD leaves to the contracting parties the possibility to specify themselves what the mechanics of the arbitration process are.

The sample agreement deals with the following procedural aspects:

-   Request and time for submission of case to arbitration;
-   Terms of reference, and failure to communicate terms;
-   Selection of arbitrators;
-   Streamlined arbitration process;
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Eligibility and appointment of arbitrators;

-   Communication of information and confidentiality;
-   Failure to provide information in a timely manner;
-   Procedural and evidentiary rules;
-   Participation of the person who requested the arbitration;
-   Costs and logistical arrangements;
-   Applicable legal principles;
-   Arbitration decision;
-   Time for communicating the arbitration decision and failure to communicate
-   Final decision;
-   Implementing the arbitration decision; and
-   Cases where no arbitration decision will be provided

In addition to the proposal to add an arbitration process, the report includes several amendments to the Commentary on Art. 25. These changes reflect the various proposals included on the 2004 Progress Report on Improving the Process for Resolving International Tax Disputes which were aimed at improving the way that tax treaty disputes are resolved through the mutual agreement procedure MAP

The last part of the report deals with additional proposals included in the 2004 Progress Report, which lead for example to the recent release of a Manual on Effective Mutual Agreement Procedure (available online) and to the development of a reporting framework for mutual agreement cases.