Implementing regulation for DAC7 equivalency fails to address different definitions of “residence”

May 18

Published: May 18, 2023

Overview

On April 13 2023, the European Commission adopted the implementing regulation which establishes the criteria for determining whether the information automatically exchanged under an agreement between the tax authorities of EU Member States and a non-EU country is equivalent to that specified in Council Directive (EU) 2021/514 (“DAC7”). The implementing regulation failed to address any criteria for establish equivalency (or non-equivalency) regarding the definition of “tax residence”, therefore leaving open a sort of “chicken or egg” paradox regarding differences between the OECD definition and the DAC7 definition and uncertainty for non-EU Platform Operators.

What is DAC7?

If you have arrived at this blog post and don’t know what DAC7 is, I suggest reading this blog post for US platforms or this blog for non-EU (ex-US) platforms before returning here.

What is DAC7 equivalency and why does it matter?

DAC7 is (or will be) carried into the domestic legislation of all EU Member States. It requires non-EU Platform Operators to register in an EU Member State and comply with the DAC7 reporting requirements unless such non-EU Platform Operator is resident in a non-EU jurisdiction that has an “Effective Qualifying Competent Authority Agreement” in place that requires the automatic exchange of tax information that is equivalent to that which is set out in DAC7. Said in plain language, where a non-EU Platform Operator is going to be reporting the same information to their own local tax authority, who then exchanges that information to the EU Member States, then the non-EU Platform Operator does not also need to register and report in an EU Member State as that would cause duplicate reporting.

The implementing regulation regarding the determination of equivalence, through the covering notes and Article 5 “Due diligence procedures”, has left open the issue of residence as a “facts and circumstances analysis” rather than having addressed the issue head on. This leaves the issue open and far more uncertainty for non-EU Platform Operators on their reporting obligations, pending various interpretations by each separate EU Member State. While these non-EU Platform Operators are building out their data collection and reporting systems, this uncertainty could cause expensive issues due to over-building or under-building, over-reporting or under-reporting.

What is a non-EU Platform Operator and why are they in scope of DAC7?

When the DAC7 was created, the EU needed to create a level playing field that would require non-EU Platform Operators to comply with DAC7 if they have any sellers or immovable real property located in an EU Member State. Otherwise non-EU Platform Operators with EU sellers using their platform (or with EU situated property) but not obligated to report those sellers/activities would have a competitive advantage over EU Platform Operators required to report.

Below are the 5 things that can cause a Platform Operator to be in scope of due diligence and reporting in an EU Member State under DAC7, with non-EU Platform Operators typically falling into the 5th (last) bucket.

1- is tax resident in an EU Member State
2- is established under the law of an EU Member State
3- has its place of management in an EU Member State
4- has a permanent establishment in an EU Member State and is not a Qualified Non-EU Platform
or
5- is none of the above, but facilitates the operation of a Relevant Activity by Reportable Sellers or a Relevant Activity related to the rental of immovable property (i.e. real estate) located in an EU Member State, and is not a Qualified Non-EU Platform

The issue at hand is how does a non-EU Platform Operator determine that they are doing business with a Reportable Seller resident in an EU Member State? Some information is required to be collected under DAC7 in order to know that a seller is indeed a resident in an EU Member State so how can a Platform Operator be required to collect that information if it doesn’t first know that it is in scope to collect that information?

An “out” of the 5th item is that a non-EU Platform Operator that is a “Qualified Non-EU Platform” does not have to register and report in an EU Member State for those activities covered by a “Effective Qualifying Competent Authority Agreement” in its home jurisdiction which is one that requires the automatic exchange of tax information that is equivalent to that which is set out in DAC7. This relieves duplicate reporting.

What is the tax residence chicken or egg paradox?

This blog explores the issue with two examples using the Canadian implementation of the OECD Model Rules.

In both the DAC7 and OECD Model Rules, Reporting Platform Operators must determine the residency of a seller. In general, if more than one residency is identified then all residencies are reportable (though there are some exceptions). The Reporting Platform Operator must also record and report the manner in which it determined each residency:

Residency by main address (also adopted by the OECD Model Rules)
Residency by Government Verification Services (also adopted by the OECD Model Rules)
Residency by jurisdiction of TIN issuance (not adopted by OECD Model Rules)
Residency by identification of jurisdiction of permanent establishments (only applies to entities, and not adopted by the OECD Model Rules)

The definition of residence in the EU DAC7 is found under Annex V, Section II Due Diligence Procedures, Procedure D for the Determination of Member State(s) of Residence of Seller. The definition of residence in the OECD Model Rules is found under a similarly titled Section II Due Diligence Procedures, Procedure D for the Determination of Jurisdiction of Residence of Sellers.

While the OECD Model Rules do adopt the requirement that Reporting Platform Operators collect the jurisdiction of TIN issuance, they do not adopt that the jurisdiction of TIN issurance is factored into the determination of residence. Additionally, the OECD Model Rules do not adopt the requirement to collect any information about the existence or jurisdiction of permanent establishments. If a non-EU Platform Operator has not collected information about their sellers such as jurisdictions of permanent establishment, then it would not know that it might have EU resident sellers and be in scope of the DAC7.

Let’s explore this example with the impending adoption of the OECD Model Rules by Canada.

Example 1: Canada and the OECD Model Rules

It is January 2024 and a Platform Operator solely resident in Canada is reviewing their activity for calendar year 2023. Canadian OECD Model Rules go into effect January 1, 2024 with first reporting in January 2025 therefore for the 2023 calendar year, there is no equivalence for Canada and the DAC7. Any Relevant Activities in 2023 with Reportable Sellers in EU Member States would therefore require the Platform Operator to register and report in an EU Member State of their choosing.
We will assume that for other domestic Canadian reasons, the Platform Operator already collects TINs of their sellers but does not have a reason or requirement to collect the jurisdiction that issues the TINs nor information about existence and jurisdictions of permanent establishment.

The Platform Operator has a seller it has documented as follows:
- Entity name: Banksy Inc
- Primary Address: 123 Main Street, Canada
- TIN: 12345678
- Business registration number: ABC0987654
Unknown to the Platform Operator, the TIN on file was issued by France.
The Platform Operator makes €5,000 of payments to Banksy Inc for the sale of goods on the platform during 2023.
The Platform Operator does not register and report Banksy Inc activities to the Canada Tax Authorities for 2023 as the OECD Model Rules are not in force in Canada until 2024.
The Platform Operator does not register and report Banksy Inc activites to any EU Member State for 2023 under DAC7 because it had no domestic (Canadian) reason to have collected the jurisdiction of TIN issuance and therefore had no reason to know that Banksy Inc has created a DAC7 reporting obligation in an EU Member State (France).
During the 2024 calendar year, the Reporting Platform Operator collects the jurisdiction of TIN issuance as required under the now in-force Candian OECD Model Rules.
The Reporting Platform Operator makes €5,000 of payments to Banksy Inc for the sale of goods on the platform during 2024.
The Reporting Platform Operator reports the activity of Banksy Inc to the Canadian Tax Authority in January 2025 for the 2024 calendar year activity, indicating that Banksy Inc is solely tax resident in Canada.
The Canadian Tax Authority does not exchange any information about Banksy Inc with the French Tax Authority because even though the information was collected by the Reporting Platform Operator as part of the due diligence procedures, the “TIN issued” jurisidiction is not a criteria under the Canada and OECD Model Rules for determining residence of the seller and is therefore not reported as such.

Issues:

Would the Reporting Platform Operator be subject to penalties for calendar year 2023 for having not registered and reported Banksy Inc as a French tax resident in an EU Member State under the DAC7 rules? If so, which EU Member State would have the jurisdiction to levy such penalties and on what basis would the penalty be assessed?
Is calendar year 2024 any different? The fact pattern is different in that the Reporting Platform Operator now has collected the jurisdiction of TIN issuance and therefore has the information but under Canadian OECD Model Rules, this is not a criteria for assessing tax residence and it is therefore unclear if the Reporting Platform Operator would get relief from reporting Banksy Inc in an EU Member State.

The implementing regulation for DAC7 equivalency had an opportunity to address this situtation but failed to do so, leaving open uncertainty for Canadian Platform Operators as to whether they should have to register and report in an EU Member State via the DAC7 residence definition.

Example 2: Canada and the OECD Model Rules

We jump 1 year later in this example. It is January 2025 and a Reporting Platform Operator solely resident in Canada is reviewing their activity for calendar year 2024. Canadian OECD Model Rules went into effect January 1, 2024 with first reporting in January 2025 for the 2024 calendar year.
The Reporting Platform Operator adopted the due diligence procedures outlined for them in their domestic Canadian legislation. They collect TINs from all of their sellers, as well as the jurisdiction issuing those TINs. They do not collect any information about existence or jurisdictions of permanent establishment.
The Reporting Platform Operator has a seller it has documented as follows in accordance with Canadian and OECD Model Rules:
- Entity name: Bobbles Inc
- Primary Address: 123 First Street, Canada
- TIN: 23456789
- TIN issued by: Canada
- Business registration number: DEF0987654
Unknown to the Reporting Platform Operator, Banksy Inc also has a permanent establishment located in Germany.
The Reporting Platform Operator makes €5,000 of payments to Bobbles Inc for the sale of goods on the platform during 2024.
The Reporting Platform Operator reports the activity of Bobbles Inc to the Canadian Tax Authority in January 2025 for the 2024 calendar year activity, indicating that Bobbles Inc is solely tax resident in Canada.
The Canadian Tax Authority does not exchange any information about Bobbles Inc with the German Tax Authority as the Reporting Platform Operator was not required to collect information about permanent residence during due diligence procedures under Canadian and OECD Model Rules.

Issue:

Would DAC7 require this Reporting Platform Operator to register in an EU Member State in order to report the sale of goods activities and payments of €5,000 to Bobbles Inc as a German resident? If so, how would the Reporting Platform Operator know that they even have this requirement since they aren’t required under their domestic Canadian law to have collected information about permament establishments? Or is the reporting by reason of permanent establishment under DAC7 only required where such information was “otherwise collected and available” for some other non-DAC7 reason? This is further complicated by the use of phrases like “if available” or “where available” in the DAC7 and domestic legislation of some EU Member States as this could be interpreted as a kind of optionality akin to “if you already have a reason to have it”. A different (and more likely) interpretation of “if available” and “where available” is that the Platform Operator is required to ask for it but that the answer returned by the seller may be nil (meaning that they have nothing to report outside of their registered address and TIN jurisdictions). That said, this still circles back to the question of whether the Platform Operator can be required to collect this information.

The implementing regulation for DAC7 equivalency had an opportunity to address this situtation but failed to do so, leaving open uncertainty for Platform Operators solely resident in Canada as to whether they must be collecting information about permanent residence or not.

Addressing the issue in domestic legislation of EU Member States

As the DAC7 implementing regulation on equivalency does not address this residence definition issue, then we must look to separate EU Member States to see how they would handle it. While most EU Member States legislation are silent to this point so far, an interesting example emerges in the Netherlands. In the section regarding Due Diligence of Sellers, we see the following statement (translated to English):

4. Contrary to the second paragraph, with regard to an entity that is not an Excluded Seller and that is resident as referred to in part II, paragraph D, OECD model rules of a non-EU jurisdiction that has an adequate agreement in force with the Netherlands which provides for the reciprocal exchange of equivalent information between the Netherlands and that state, the following shall not to be collected: 1) the VAT identification number; and 2) the existence of any permanent establishment through which relevant activities are carried on.

Exceptions to collecting due diligence information typically make sense when it is the “extra information” that must be collected about a seller once their residence is known (and therefore whether they are a Reportable Seller or not). For example, once I know the residence of a seller (by way of one of the four tax residence criteria) then I can decide not to collect certain remaining information (such as VAT identification number) depending on which residence country they are reportable to. But what is confusing about this excerpt from the Netherlands guidance is that the exception to collecting information is an item that is required to be collected in order to first know in what countries the seller is resident. This excerpt seems to say that if an entity seller is a resident in a non-EU jurisdiction by way of their registered/primary address or a GVS search (the two tax residence criteria under the OECD Model Rules), then the Platform Operator does not need to collect the existence and jurisdiction of permanent residence(s). Though not stated explicitly, this implies that if a Platform Operator has collected the existence and jurisdiction of permanent establishment(s) and an EU Member State is identified through that information, that the seller would not be reportable to that EU Member State? That seems like a very odd outcome that defeats the purpose of including permanent establishment as one of the 4 tests of tax residence under DAC7.

A last important note about this example from the Netherlands is that this does not give any meaningful relief to Platform Operators in the quantity of data that they need to collect and store. This is because in year 1 (2024 reporting over 2023 activities) there are no non-EU jurisdictions that meet equivalency since there are no non-EU jurisidictions that are adopting the OECD Model rules in “Year 1”. As such, any in-scope Platform Operators may have cases where they have to collect information about permanent establishment in Year 1 (and other data points referenced like VAT identification numbers) and then possibly stop collecting it in Year 2.

Conclusion

The DAC7 implementing regulation on equivalency missed an opportunity to address some of these issues, complexities, and paradoxes but failed to do so. As such, many non-EU Platform Operators are still left with uncertainty as to if and how to apply DAC7 to their operations until such (later) time that each EU Member State takes their own interpretation of equivalency and signs agreements with non-EU jurisdictions regarding this point. These non-EU Platform Operators will need to assess in what circumstances to collect and report certain information about their sellers, in order to not under-report (i.e. penalties) or over-report (i.e. alienating their sellers).

How can Dune Consultants help?

Jessalyn Dean