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Leading Insight

Tax officials examine procurement

As one consequence of tax changes, the recently enacted multilateral instrument convention will have an impact on procurement.

By Alex Postma, EY Global International Tax Services Leader

Businesses have been confronted with many new tax developments demanding headline attention such as the tariff proposals in the US, mandatory disclosure rules and the digital tax phenomenon in the EU.

But there are also a number of tax changes underway that don’t draw the same media focus but can nevertheless significantly affect the global business operations of multinational enterprises (MNEs). The impact the recently enacted multilateral instrument (MLI) convention will have on procurement is one consequence of those changes.

"Given the consequences that may lie ahead, now is the time for multinationals to begin stress testing their procurement functions."

In the last three decades, procurement has evolved from a business support function focusing mainly on cost management to a key value driver for many MNEs.

Procurement teams are now engaged in managing group demand, maintaining supplier relationships and strategically sourcing inputs or overseeing quality control, and are also increasingly influencing product design and supplier integration in the supply chain to more strategically drive long-term cost leadership.

Country-by-country reporting

The increased importance of the procurement function has not escaped the attention of tax authorities. For example, the country-by-country report (CbCR) that multinationals were obligated to file in many countries for the first time by 31 December 2017 specifically required multinationals to indicate which entities are involved in procurement functions.

Also, the CbCR handbook on effective tax risk assessment from the Organisation for Economic Co-operation and Development (OECD) mentions “procurement entities in jurisdictions other than its manufacturing locations” as a risk indicator to which countries’ tax authorities should pay special attention.

Additionally, the master file demands a special section be completed in which the multinational must describe its supply chain and provide an analysis of the various functions performed along the supply chain.

The CbCR and the master file are not the only instruments available to the tax authorities. The 2017 change of the OECD model treaty and commentary strips procurement of its “automatic” preparatory and auxiliary status and consequently from the automatic application of the exemption from the creation of a taxable presence.

Furthermore, even when the activities of a single entity are preparatory and auxiliary, countries may now elect to ignore this exemption if the procurement activities are part of a cohesive business operation with other group entities in the jurisdiction of the procurement activity (the so-called anti-fragmentation rules).

Separately, a change in the OECD model treaty concept of agency permanent establishment (PE) will affect procurement operations, as agency was previously limited to “concluding contracts” but now more broadly includes activities “leading to the conclusion of contracts.”

‘The game is on’

These changes to limit the application of the preparatory and auxiliary exemption and expand the agency definition have been adopted by the majority of the approximately 80 countries that have signed or are expected to sign the MLI convention, which should accelerate the adoption of these changes by the 2,300 or so existing tax treaties between the participating countries.

And with Slovenia’s ratification in March, this MLI convention has now entered into force and will be effective for any particular combination of countries six months after both jurisdictions have ratified the instrument.

In other words, the “game is on,” and a leading practice for multinationals is to thoroughly review their procurement activity ahead of the pending changes. Some areas to which companies with cross-border procurement activities need to pay particular attention are:

  • Overall procurement footprint. This should be assessed and mapped against countries adopting changes to the PE rules in their treaties and or domestic law.
  • Foreign rep offices or any other fixed presence in another country. These may become taxable presences as a result of the loss of the application of the preparatory and auxiliary test as well as the application of the anti-fragmentation rules.
  • Business travelers. Business travelers who negotiate procurement contracts may be considered to play the principal role leading to the conclusion of contracts and may thereby create a tax presence for their principal.
  • Agents either related or unrelated to the multinational enterprise. These agents may create a taxable presence if they exclusively or almost exclusively work for the same MNE.


Once a taxable presence —in tax parlance, “permanent establishment” — exists, tax consequences can start piling up: from corporation tax returns, transfer pricing reports, CbCR and master file obligations, to new tax liabilities, individual income tax compliance and social security obligations of business travelers to the jurisdiction.

Ignoring the new normal may come at a cost: countries have also over the past years sharpened their regimes for penalties and sanctions, with a number of countries now wielding potential criminal sanctions in addition to financial penalties for failure to report a PE. Given the consequences that may lie ahead, now is the time for multinationals to begin stress testing their procurement functions.

How we can help: International Tax Services


Alex Postma


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