OECD draft addresses multinational banks and insurance companies that take excessive interest deductions

 

The OECD today issued draft rules to be used by countries that seek to prevent multinational banks and insurance companies from avoiding tax through excessive interest deductions.

While the OECD last October agreed to tax rules limiting interest deductions for multinationals in its base erosion profit shifting (BEPS) report under Action 4, that report also suggested that countries consider excluding banks and insurance companies from the scope of the rules until more study was conducted.

The October report recommended that countries adopt a fixed ratio rule for multinationals, restricting an entity’s net interest deductions to a fixed percentage of its earnings before interest, taxes, depreciation, and amortisation (EBITDA), and that countries also consider adding an optional group ratio rule, which allows an entity to deduct more interest, based on a financial ratio of its worldwide group.

The new discussion draft recommends that banks and insurance companies be generally excluded from the BEPS fixed ratio and group ratio limits on interest deductibility. The draft states that BEPS risks for such groups are perceived to be low because regulatory capital rules typically limit the amount of leverage in such entities.

The OECD added, though, that some countries may want to adopt rules addressing tax avoidance through use of third party or intragroup interest to fund equity investments that give rise to income which is nontaxable or is taxed in a preferential manner.

The draft states that the final report will include a summary of the rules currently applied by countries which are designed to provide protection against BEPS involving interest in the banking and insurance sectors, to be considered for use by other other countries.

The discussion draft states further that entities in a banking or insurance group —  such as holding companies, group service companies, and companies engaged in non-regulated financial or non-financial activities — pose a greater risk of engaging in tax avoidance through excessive interest deductions.

The report said that such groups may avoid tax by incurring excessive third party or intragroup interest expense, which may be set against taxable interest income in the bank or insurance company.

The OECD thus recommends in its report that countries consider applying the general fixed ratio and group ratio rules to these entities, with some modifications.

The discussion draft does not represent the consensus view of the OECD Committee on Fiscal Affairs or its subsidiary bodies; rather, it is intended to provide stakeholders with material for analysis and comment.

Comments on the draft rare requested by September 8.

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