[Tax Story] The Vast Prospects of Tax Treaties and the Launch of Multilateral Agreements

Baek Jeheum, Lawyer at Kim & Chang

Amid global cooperation on the novel coronavirus infection (COVID-19) that has brought attention to K-Quarantine, discussions on multilateral conventions in the international tax domain are heating up. Our government signed the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (BEPS) in June 2017 and completed ratification and approval by the National Assembly in December last year. In May this year, the ratification instrument was deposited with the Organisation for Economic Co-operation and Development (OECD). So far, the OECD has prepared 15 BEPS Action Plans as countermeasures against international tax avoidance by multinational corporations. Among them, Action Plans 2 to 15 have entered the implementation phase, and Action Plan 1 on the digital economy is expected to be finalized by the end of this year. The BEPS Multilateral Convention was introduced as a multilateral agreement system instead of amending existing bilateral treaties to effectively reflect the Action Plans related to tax treaties. While the revision of traditional international tax norms following the establishment of Action Plan 1 at the end of the year is a major shift, the launch of the multilateral agreement system marks a significant procedural change in the century-long journey of tax treaties. Once the multilateral convention comes into effect in September, the minimum BEPS countermeasures will be automatically incorporated into tax treaties among the contracting parties without separate negotiations.

The BEPS Multilateral Convention consists of ① basic BEPS implementation provisions, ② compatibility provisions regulating the relationship between implementation provisions and covered treaty provisions, ③ reservation provisions defining the scope of permissible reservations, and ④ notification provisions for changes to covered treaty provisions. It is characterized by reflecting the minimum standards of BEPS countermeasures while allowing flexibility by permitting reservations freely in other respects. The main points are the limitation of benefits in tax treaties and improvements in dispute resolution procedures, which are minimum standards that participating countries in the BEPS project are obligated to implement. Under the BEPS Multilateral Convention, transactions primarily aimed at obtaining benefits such as reduced withholding tax rates under tax treaties will have those benefits denied, contributing to the prevention of tax treaty abuse. Additionally, taxpayers will be able to choose between the tax authorities of the residence country or the source country?both parties to the tax treaty?to raise objections against tax assessments inconsistent with the tax treaty, thereby enhancing taxpayer rights.

International tax norms started with tax treaties in the last century and have now evolved into multilateral conventions. After World War I, the League of Nations commissioned four distinguished economists, including Edwin Seligman, in 1923 to prepare a report on double taxation to promote international trade and investment. The core of that report was to reduce the source country's taxing rights within mutually agreed limits and instead have the residence country give priority to the source country's taxing rights to resolve double taxation, marking the origin of international tax norms. Subsequently, the League of Nations proposed a double taxation avoidance convention in 1928, which underwent several revisions. In 1943, the Mexico model emphasizing source country taxation was devised, and in 1946, the London model favoring residence country taxation was developed. However, attempts to propose multilateral tax treaties failed. After World War II, discussions were held mainly by the UN's Finance Committee, but the US's refusal to ratify double taxation avoidance agreements led to no progress. The Organisation for European Economic Cooperation (OEEC), the predecessor of the OECD, produced four interim reports. Later, with the inclusion of the US and Canada, the OECD was established and drafted its first model tax treaty in 1963, revising it more than ten times until 2017. Meanwhile, the UN adopted a separate model treaty in 1980, strengthening source country taxing rights from the perspective of developing countries. Approximately 80% of countries worldwide adopt the OECD model, while about 20% adopt the UN model. The US, on the other hand, has developed its own unique US model treaty with distinctive reservation provisions to maximize its national interests. Historically, the existence of various model treaties reflects the difficulty of reconciling national interests in international taxation and the long, arduous history of allocating taxing rights between source and residence countries in tax treaties.

The international tax field can be described as a battleground of diverse and ever-changing players with varying interests. While the US and the European Union (EU) have formed a joint front on traditional international tax norms such as the permanent establishment regime, cracks have appeared in the digital economy era. The EU's introduction of a digital services tax on US multinational corporations is a clear example. Although broad consensus has been reached on the BEPS Multilateral Convention, detailed issues still see sharp conflicts of interest among countries. For example, the US participated in BEPS project discussions but neither supported nor accepted the conclusions, likely due to reluctance to tax its multinational corporations. Conversely, the EU actively voiced opinions from the outset of BEPS discussions. In 2016, the EU adopted the Anti-Tax Avoidance Directive, requiring member states to incorporate it into domestic law. In line with this, all 27 EU member states signed the multilateral convention. Japan is evaluated as participating more actively in the multilateral convention than Korea, even accepting arbitration provisions that Korea reserved. Among major emerging economies represented by BRICS (Brazil, Russia, India, China, South Africa), China, Russia, and India have ratified the multilateral convention, excluding Brazil. It is also notable that tax havens such as Liechtenstein, Mauritius, and Monaco have signed the multilateral convention.

With no progress in the international trade system centered on the World Trade Organization (WTO) since the Doha Round, the Free Trade Agreement (FTA) system has emerged and been successfully promoted. This is seen as a shift from multilateralism to bilateralism, whereas the international tax order centered on the OECD increasingly emphasizes the importance of multilateralism. The Multilateral Convention on Mutual Administrative Assistance in Tax Matters, focusing on tax information exchange and administrative cooperation, was the starting point. However, the multilateral convention on substantive law is not a complete legal document by itself and presupposes existing bilateral treaties. Therefore, efforts must be made to harmonize comprehensive changes through the multilateral convention with individual bilateral treaty amendments. Special attention is also required regarding conflicts between tax treaties amended by the multilateral convention and domestic tax laws. Furthermore, in-depth and strategic reviews should be conducted on new taxation measures for the digital economy and provisions of the multilateral convention not adopted by Korea. Many provisions in tax treaties concluded with advanced countries in the 1970s and 1980s or with developing countries since the 1990s no longer fit Korea's rapidly changing economic reality, and ratification of the multilateral convention alone may be insufficient to address these issues. We look forward to the multilateral convention's enforcement serving as a stepping stone for a century-long grand plan to upgrade Korea's tax treaty policy.

Baek Jeheum, Attorney at Kim & Chang