16 May 2017 / article

The challenges of BEPS for treasury: are you prepared?

Your task as the treasurer of a multinational is to ensure that the business has sufficient cash available at all times, at minimal financing costs. The OECD’s Base Erosion and Profit Shifting (BEPS) Project will make managing net financing costs even more challenging. These are the 3 steps treasury plans to deal with the challenges successfully.

A holistic approach, in which treasury first seeks to understand the BEPS effects, then quantify the effects and finally optimise them, is highly advisable. A holistic approach will not decrease the complexities of BEPS. It will however endorse good decision-making and allow optimisation of treasury results, albeit perhaps with less ecstatic tax savings than in the past. These are the steps:

1. Understanding BEPS effects

As a first step, the treasurer should seek to understand the relationship between BEPS and treasury. In accordance with its task to ensure minimal net financing cost, treasury should first understand which measures impact these costs. The model below shows how the various BEPS measures affect net financing cost and how they relate to the economic drivers of finance costs.

2. Quantifying BEPS effects

In the second step, treasury should quantify the BEPS effects on net financing costs in a financial model. This enables establishing the new net financing costs level and to set the ‘zero position’ for future optimisation. Taking a holistic approach means that treasury should look at the firm-wide total net financing cost as the quantitative measurement and include transaction costs, such as the cost of maintaining corporate structures.

This approach allows improving value trade-offs that must be made when it comes to optimising the net financing cost through tax planning. For example, a business recently chose local bank finance over centrally arranged internal borrowing, although bank finance initially appeared more expensive. The bank net financing cost, however, turned out to be lower than internal borrowing if withholding taxes, interest deduction limitation and transaction costs were accounted for. The holistic approach will reveal hidden drivers of financing costs and will endorse sensible decision-making.

The holistic approach will reveal hidden drivers of financing costs and will endorse sensible decision-making.

The treasurer should also consider the time factor by analysing multiple years rather than only the current year: an operating company may suffer EBITDA limitation in the current year, but may be allowed to carry forward unused deductions to later years. Negating that effect may entice redirecting financing flows at significant transaction costs, with negligible impact on net financing costs.

Holistic approaches do not mean that every detail requires analysis. Instead, regularly testing sensitivity of all relevant drivers to the overall net financing cost will secure a focus on drivers that really matter.

3. Optimising BEPS effects

Once treasury knows the new level of net financing cost, it may start optimisation. For example, where a treasury company lacks sufficient economic substance to have financial income allocated to it under the new transfer pricing rules, it is worthwhile considering to either relocate the company to where actual risk management is executed, or to relocate decision-making staff to the company location. Again, treasury should take into account all drivers of net financing costs and should focus on longer term effects of optimisation efforts.

In case of staff relocation, not only the direct relocation costs should be calculated, but also the effect on people retention and future recruiting. In less far-reaching optimisation efforts, however, time also plays an important role: fairly simple adjustments to internal debt arrangements, such as extension of loan tenures, may optimise interest rates and push up future EBITDA carry forwards with significant longer term effects.

Obviously, treasury should execute the whole exercise in close co-operation with the tax department. Taking a holistic approach that focuses on the aggregate effect of all optimisation efforts on net financing cost will ensure that the project does not fall into the typical expert trap, in which intellectually exciting exercises absorb all attention with negligible financial effect.

Finally, managing BEPS should be ongoing, as both economic drivers and tax legislation keep changing constantly.

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