One thing that scares many businesses about expanding into a new country is the issue of compliance and tax. A significant risk that needs to be considered is the tax concept of ‘permanent establishment’. In this article, we survey some of the risks that need to be managed when expanding globally. We also explain what permanent establishment is, and look at four tips for managing risks associated with permanent establishment.
Please note: This article provides general information. For specific advice on tax and compliance obligations, you should seek professional advice relevant to your situation.
What are the risks when expanding your business internationally?
The benefits of international expansion are clear. Growing globally can reduce your overhead costs, allow you to connect with a talented workforce, minimize economic risks, and allow you to explore new market opportunities.
As with any major business change, there are risks that need to be carefully managed. These include:
This last risk is the focus of this article.
Summary: While global expansion doesn’t have many downsides, businesses need to carefully manage some of the risks involved. In this article, we focus on the ‘permanent establishment’ risk.
What is permanent establishment?
Permanent establishment (‘PE’) is a concept defined in the tax laws of a country and based on the bilateral treaties entered into with other countries. These tax treaties usually define permanent establishment on the concept set out in the OECD Model Tax Convention on Income and on Capital (the ‘OECD Model’). Article 5(1) of that model provides: “The term “permanent establishment” means a fixed place of business through which the business of an enterprise is wholly or partly carried on”.
There are three key components to the concept of PE:
There is no definitive list of what will count as a PE and what will not. However, there is a list of prima facie PEs. That is, these set-ups will often be a PE, according to the standard definition:
Summary: There is not always a simple answer to whether or not your enterprise will constitute a PE in a target country. It will depend on the specific operations of your business.
What is the effect of a permanent establishment?
The existence of a PE means that corporate income tax will be applied to the profits of that permanent establishment (see article 7 of the OECD model). The profits are, in turn, determined by attributing the revenue and expenses arising from that specific PE, and treating it as if it were an independent enterprise.
Summary: The existence of a PE means paying corporate tax in the target country.
How to avoid or mitigate permanent establishment risk
The risks of creating a PE need to be managed. We recommend:
Summary: As part of your international expansion, ensure you receive professional advice on the effect of a PE. You should also consider the effects of sending your employees overseas and explore the possibilities of setting up a legal entity or engaging a PEO.
One of the challenges to setting up your business in a new country is ensuring that you are fully compliant with relevant tax laws and compliance obligations. One of the most significant risks is that you inadvertently create a ‘permanent establishment’ and are hit with an unexpected tax bill and/or penalties.
This is not something that is easy to work out on your own. Different countries incorporate the concept of PE into their tax laws in different ways. As such, it is crucial that you obtain professional advice from experienced operators on the ground.
This is where you need professional advice. New Horizons Global Partners provides expert advice on how to set up your business operations in another country. We will advise you whether a global PEO, outsourcing, or setting up a new legal entity is the right way of structuring your overseas expansion.
New Horizons’ Global PEO allows you to expand into more than 150 countries worldwide – quickly, compliantly, and cost-effectively. We act as your employees’ Employer of Record, which removes the burden of establishing a local entity in your country of expansion. This also enables your business to begin operating overseas in as little as 48 hours – saving you up to 85% in expansion costs.
To discover how New Horizons’ Global PEO can simplify and fast-track your expansion, contact our specialist team today.