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Disruption in Cross-Border Assignments: Tax Impact

By Atty. Fulvio D. Dawilan

 

"In most of the existing tax treaties which the Philippines has with other countries, the furnishing of services in the Philippines by an entity which is a resident of a treaty country for a period or periods aggregating more than 183 days results in the creation of a PE (service PE) in the country."

Disruption in Cross-Border Assignments: Tax Impact
By Fulvio D. Dawilan

Cross-border transactions are not spared from the impact of the COVID-19 pandemic. Travel restrictions and quarantine measures undertaken in almost all jurisdictions have heavily impacted on cross-border assignments and projects. Constraints in movements between jurisdictions and the unexpected repatriations of foreign nationals back to their home countries suddenly resulted in the disruption in their usual work arrangements. Employees find themselves out of work or physically working outside their usual place of business.

This disruption in cross-border assignments raises several tax-related issues for the cross-border workers and for their employers or principals as well as to their clients/customers. This apprehension is valid as this would affect the concerned countries’ right to impose tax both on the employees or agents and on their employers or principals.

On the application of tax treaties, an issue springs from the possible unintended creation of a permanent establishment (“PE”). A PE is a concept in tax treaties where a person, who is a resident of one State, may be considered as carrying on business in another State, giving the latter the right to tax that person – a right which is not present in the absence of a PE. A number of instances are enumerated in tax treaties which may lead in the creation of PE, some of which are dictated by the length of presence or duration of project in a host State.

693. BM Stranded Employees FDD 04.21.2020A number of discussions had already been made on this issue, such as whether a home used as an office by a stranded employee may result to a PE. I will not deal further on those, and instead limit my discussion on the PE impact of a prolonged presence in the Philippines of a foreign entity through its stranded employees/agents and the extension of project time lines due to the travel restrictions and implementation of quarantine procedures. The other ramifications will be discussed in future issues in this column, including the impact on the concerned individuals.

In most of the existing tax treaties which the Philippines has with other countries, the furnishing of services in the Philippines by an entity which is a resident of a treaty country for a period or periods aggregating more than 183 days results in the creation of a PE (service PE) in the country. The question is - will the employee create a taxable presence in the country with the unintended extension of stay due to the travel bans, either locally or in his home country?

Our tax authority had, in the past, in evaluating whether this 183-day period is breached, often referred to the number of days of actual physical presence of representatives in the Philippines. In fact, one of the requirements in applying for the benefit (tax treaty relief) under a treaty is for the foreign provider of service or income recipient to present copy of the passport of its concerned employees or representatives. If based on the passport, the actual stay in the Philippines exceeded the 183-day threshold, the tax treaty relief is denied. In essence, our tax authority assesses the existence or non-existence of a PE by counting the number of days in the Philippines, regardless of whether or not they all refer to the furnishing of services. On this basis, a forced extension of stay may result in the creation of a PE.

Another instance that may lead to the creation of PE, which is a fact of time, is the presence of a building site or construction or assembly project or installation project and related supervisory activities, where such site, project or activity continues for a period more than 183 days (construction site PE). The duration of the project is the element that determines the presence or absence of a PE. Our tax authority had often cited the Commentaries on the OECD Model Tax Convention that a site should not be regarded as ceasing to exist when work is temporarily discontinued. Seasonal or other temporary interruptions should be included in determining the life of a site. Interruptions are therefore included in determining whether the 183-day period is breached.

The question then is – would a project that would have been completed in 5 months but extended to seven months due to the implementation of a lockdown result in the creation of a PE? That would be the effect. On the other hand, would a PE cease to exist due to work interruptions? The answer is no.

Having said that, the situation is unprecedented. The extensions and interruptions are not due to the requirements of the business. It is due to the pandemic that governments are forced to implement restrictions and businesses are required to follow. Some countries have in fact issued guidelines in the application of tax treaties, essentially disregarding the effects of the changes in business activities brought about by the pandemic. While our tax authority had not issued one, we hope that it will be more tolerant in the determination of the presence or absence of a PE, vis a vis the changes in business arrangements, if such changes are the effect of the COVID-19 pandemic.

The author is a partner of Du-Baladad and Associates Law Offices (BDB Law), a member-firm of WTS Global.

The article is for general information only and is not intended, nor should be construed as a substitute for tax, legal or financial advice on any specific matter. Applicability of this article to any actual or particular tax or legal issue should be supported therefore by a professional study or advice. If you have any comments or questions concerning the article, you may e-mail the author at This email address is being protected from spambots. You need JavaScript enabled to view it. or call 8403-2001 loc 310.