Nexia International Tax ConferenceIstanbul - 2011Istanbul - 2011

Rajesh Sharma, Smith & Williamson Limited, London

Hybrids

• Entities which may be regarded as ‘opaque’ or transparent for tax purposes(US LLC, UK LLP, Dutch CV, German KG & Co)

• Commonly used in International Tax PlanningVenture Capital Funds, Acquisitions

Tax Issues

• Who is taxable?

• Tax residence?

• Eligible for DTA?

• Extent of a mismatch due to lack of symmetry?

• Tax arbitrage possibilities?

Dividend Distributions

i. Application of DTA on dividends from subsidiary to company?

ii. Application of DTA on dividends from subsidiary to member?

member

Holdingcompany

subsidiarydividends overseas

onshore

Double non-taxation

No taxation as income is attributed to entity in Country P.

No taxation as income attributed to company in R.

member

Holdingcompany

subsidiaryCountryS

transparent

opaque

transparent Country

P

CountryR

Treaty Issues

i. Installation contract in country S

ii. Members 1 and 2 provide the services for 3 months and 2 months respectively.

iii. Both countries treat the entity as transparent and therefore members 1 and 2 are taxed.

iv. Do you aggregate the time spent by members 1 and 2 for the purposes of the PE article in the treaty?

Member1

PE

CountryS

CountryR

Member2

Entity classified: OECD approach

• 1999 OECD report on application of Model Convention to Partnerships.

• To what extent a partnership and its partners may claim the benefits of a tax treaty with respect to partnership income?

• Whether a partnership qualifies as a ‘person’ and as a ‘resident’.

• Position with respect to bilateral and triangular cases, particularly when the tax treatment is not symmetrical.

Entity classification: US approach

• 1996 ‘CTB’ rules• Discretion to taxpayer to determine classification system

for US and foreign entities subject to some restrictions (Per Se corporations).

• Simple election for classification.• Default rules if election is not made.• Treaty benefits ‘look through’ so that items of income

considered as derived by a hybrid is considered to be derived by the resident.

Entity classification: German approach

• Six factor test:– Centralisation of interest– Limited liability– Free transferability of interest– Discretion to access profits– Equity contribution– Continuity of life

• Case by case classification of entities.

Entity classification: Dutch classification

• Four factor test:– Can the entity hold legal title to assets and

liabilities?– Is there at least one participant with unlimited

liability?– Does the entity have capital divided into shares?– Is the admission or replacement of participants

possible without the consent of the other participants?

Entity classification: UK

• Legal existence from its members.• Existence of share capital or something equivalent.• Whether the business is carreid on by the entity or jointly by its

members.• Whether members are entitled to a share of the profits as they arise or

whether entitled to the share of the profit depends on a decision by the entity or its members.

• Is the entity or are members responsible for debts incurred as the result of carrying on a business?

• Do the assets used in carrying on the business belong benecially to the entity of its members?

* Key items based on the decision in Memec Plc v CIR.

*

*

Entity classification: UK

1. English partnership:• Not a legal person• Partners jointly assets and responsible for liabilities• Jointly carry on business and entitled to profits

2. Scottish Partnership:• A legal person which owns assets and incurs the liabilities but partners carry on

the business and entitled to the profits

3. English Company:• Separate legal person• Owns the assets and incurs the liabilities, no liability for the members• Carries on the business• Members only entitled to profits in the form of dividends decided upon by the

directors and members

4. In the case of Swift v HMRC, the US LLC is considered to fall between the Scottish Partnership and the company. However the case is going to appeal.