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A Look Ahead: Prospects Unclear for U.S. Tax Treaties in 2020

Posted on Dec. 31, 2019

The outlook for U.S. tax treaties and the OECD multilateral instrument in 2020 seems uncertain, particularly in light of the stormy international trade climate among major trading nations, practitioners say. 

For nearly a decade, the Senate has been in a treaty deadlock, unable to proceed with the ratification of its tax treaties and protocols — in large part because Sen. Rand Paul, R-Ky., has blocked Senate approval since taking office in 2011, citing privacy concerns, among other things.

After pushback from prominent businesses, the Senate in July approved protocols to the United States' tax treaties with Japan (2013 protocol), Luxembourg (2009 protocol), Spain (2013 protocol), and Switzerland (2009 protocol). However, pending tax treaties with Chile, Hungary, and Poland are still in line for approval, and practitioners agree that the road ahead is uncertain. 

“Right now, the importance — and even the relevance — of a double tax treaty is unclear,” David R. Hardy, a partner with Osler, Hoskin & Harcourt LLP, told Tax Notes. He said stumbling blocks for future tax treaties include the United Kingdom’s unilateral 25 percent diverted profits tax, introduced in 2015 to encourage multinational groups to adjust their transfer pricing, and France’s 3 percent revenue-based digital services tax, which has resulted in recent tariff threats from the United States. Hardy said countries seem to be taking a second look at their tax policies. 

“The combination of trade disputes and major national tax policy differences makes this a difficult time to negotiate traditional double-tax-avoiding treaties," Hardy said. "Think about the U.K.'s diverted profits tax, which it claims is not inconsistent with its treaties because it isn’t an income tax. As demonstrated by the OECD’s current digital economy initiative to combat French and other unilateral digital services taxes, the major trading nations are in the midst of reevaluating core principles of taxation.” 

The OECD is working to obtain consensus by 2020 on a multilateral approach to address tax challenges related to the digital economy through a two-pillar work program known as BEPS 2.0 in reference to the OECD's base erosion and profit-shifting project. Neither of the discussion drafts on the two pillars of the work program highlight the relationship between the original BEPS project and BEPS 2.0.

For that reason, and because of the impact the BEPS 2.0 guidelines would have on the MLI, it's unlikely any progress will be made until a consensus is achieved, Hardy said. “The new initiative would directly impact the permanent establishment thresholds of treaties and the profit allocation provisions,  and potentially the deductibility of payments to foreign affiliates, all of which directly affect the interpretation of existing treaties," he said. "I would be surprised if any OECD country would be taking any further action on the MLI until these issues are clarified. That is unlikely to occur in the first half of 2020.”

A few months ago, approval of the Chile-U.S. tax treaty seemed to be on track for 2019, Ignacio Gepp, tax director at Puente Sur, told Tax Notes. But time has since run out. "I remain optimistic about having a treaty before 2021,” he said. 

While some observers blame politics for the treaty delays, approval has also been postponed because of concerns that the base erosion and antiabuse tax enacted as a part of the Tax Cuts and Jobs Act violates articles 23 (relief from double taxation) and 24 (nondiscrimination) of the U.S. model income tax treaty. Treaty renegotiations to take the BEAT into consideration can be expected to further delay ratification, Hardy said. 

“The approval of the treaty protocols earlier this year provided some optimism for the three remaining full treaties.  As time lapses, generally, any momentum from the earlier protocols could be lost, and we’ll have to await a new catalyst to prompt Senate action,” Ron Dabrowski, a principal with the Washington National Tax practice at KPMG LLP, said.

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