On 26 April 2022 the launch of the 2021 update of the UN Model Tax Convention took place as part of the UN’s “Financing for Development” forum. There were presentations and a panel discussion.
New Articles 12A and 12B
The new Article 12A of the UN Model concerns tax on technical services. The technical service fee article in existing double tax treaties was not always sufficiently clear. The UN wanted to clarify the definition and the rules by adding Article 12A. This will reduce the danger of base erosion arising from payments for technical services.
Article 12B of the UN Model deals with automated digital services. These are services with minimal human involvement. Article 12B is intended to be simple to administer and gives the source country a fair share of the tax from these services. The Article provides for a gross withholding tax at source on automated digital services, and there is an option for a net business tax on the qualified profits from the services.
Offshore Indirect Transfers
The updated UN Model provides guidance in relation to designing measures to enable a country to tax gains arising when a non-resident entity sells shares or other interests in an entity that owns assets in that country, and the gain on the shares would not otherwise be taxable by the country where the assets are situated. This is an issue for developing countries and especially for resource-rich countries where assets such as mineral rights or licensing rights held in an entity may be transferred by a transfer of shares on a company, without being subject to tax in the country where the assets are located.
Article 13 and the Commentary have been updated to include provisions that would enable a country to tax the gains on such share transfers, provided that the necessary provisions have been included in their domestic tax law. Paragraph 7 of Article 13 allows for the taxation of gains from certain offshore indirect transfers by the country in which the underlying assets are situated.
CIVs and Pension Funds
The updated treaty notes that a provision could be included in Article 1 covering the taxation of collective investment vehicles. The Commentary to Article 1 discusses the circumstances where a collective investment vehicle (CIV) could benefit from tax treaty provisions. CIVs can take various different forms and may include investors from a number of different countries. The Commentary looks at different options for negotiators to look at when considering including a provision relating to CIVs.
Future of tax treaties
The panel discussion at the launching event discussed the future of tax treaties. The work schedule of the UN subcommittee on digital economy tax is to look at the possibility of developing a multilateral instrument (MLI) for implementing Art 12B, and possibly also Art 12A and a subject to tax rule (STTR). There are however a number of technical difficulties with designing an MLI, and it is not clear how many countries would sign the agreement. It could however provide one option for developing countries to quickly update some of their tax treaties.
Difficulties of negotiating treaties
The panel noted the difficulties for developing countries in negotiation of treaties. For example, a country will normally want the power to collect adequate tax at source from passive income, but the maximum withholding tax rate is often driven down during negotiations where there is unequal bargaining power.
The difficulty of negotiating particular treaty provisions depends on the characteristics of the economy of the other country. That country may have priorities and minimum positions that make negotiations difficult on certain articles of the treaty. Countries must consider what you want to achieve in the treaty negotiations and plan their approach to the problems that may arise.
The panel noted that tax treaties are important documents and are important for domestic resource mobilisation and achievement of the sustainable development goals. Some trust in the international tax system has been lost because of bad publicity arising from various incidents such as publication of the Panama papers. Trust needs to be rebuilt with business and the public.
