Cooperative compliance, a model that emerged in 2008,1 aims to improve taxpayer service and tax compliance by requiring transparency in exchange for certainty.2 The model requires taxpayers to demonstrate how they handle transactions and tax risks; in return, it requires tax administrations to provide early certainty as to how it will treat those tax risks.3 The United States also introduced a Compliance Assurance Process (CAP) in 2005, beginning as a pilot and made permanent in 2011.4 The CAP allows the IRS and taxpayers to work together prior to the tax return and provides an “acceptable” level of assurance.5
According to the OECD, the cooperative compliance model is built on seven pillars: transparency, disclosure, commercial awareness, impartiality, proportionality, openness, and responsiveness.6 These pillars require tax administrations to be impartial and to understand the commercial drivers, and to impose disclosure and transparency obligations on taxpayers. Without this mutual understanding and cooperation between taxpayer and tax administration, any cooperative compliance model could not succeed.
The OECD Forum on Tax Administrations (FTA)7 introduced a new cooperative compliance model, the international compliance assurance programme (ICAP) pilot in January 2018 to provide increased tax certainty to multinational enterprises (MNEs) through multilateral cooperative risk assessment and assurance processes by requiring MNEs to engage in a fully transparent manner.8
The ICAP is a voluntary program in which eight FTA member tax administrations participated in the first phase (ICAP 1.0).9 The second phase (ICAP 2.0) began on March 28, 2019 with 17 FTA participants.10 This phase is open to other countries and MNEs to join.11
Transfer pricing and permanent establishment risks12 were the two main international tax risks covered by ICAP 1.0, but ICAP 2.0 covers a wider range of risks, including hybrid mismatch arrangements and withholding taxes.13 The OECD states that ICAP can cover a broad spectrum of international and cross-border risks most effectively when it is targeted to the risks that are a concern to all involved tax administrations.14
Although still in a pilot stage, it seems clear that the two main objectives of ICAP are (i) providing effective tax assurance by facilitating cooperation between tax authorities and MNEs and (ii) reducing the mutual agreement procedures (MAP) inventory by providing such tax assurance. The question is whether ICAP can satisfy these objectives.
II. Overview of ICAP
A. ICAP’s Six Drivers and its Anticipated Benefits
In Handbook 1.0, the OECD identified the four anticipated benefits15 and the six drivers behind the development of the ICAP risk assessment process. The ICAP drivers are intended to (i) create an environment where tax administrations can work together to use effectively information contained in an MNE group’s CbC report (CbCR)16 and master file for better and more standardized information for transfer pricing risk assessment; (ii) supplement and support the MAP to prevent unnecessary disputes and limit MAP inventory growth; (iii) bring initiatives and standards together as identified in best practices–areas of cooperative compliance, joint audits, and risk management–and explore new approaches for MNE compliance frameworks for multilateral tax risk assessment and assurance; (iv) advance international collaboration; (v) provide a pathway to improved tax certainty for low-or medium-risk MNE groups; and (vi) capitalize on the multilateral context to provide improved assurance for tax administrations.17 These can be summarized into two main objectives: to provide effective tax assurance by facilitating cooperation between tax authorities and MNEs, and to reduce the MAP inventory.
B. The ICAP Risk Assessment Process
In March 2019, the OECD released the second phase ICAP Handbook (Handbook 2.0) which updated the risk assessment process based on the first phase pilot.18 Previously, the ICAP 1.0 risk assessment process required an MNE and tax administrations to hold a “pre-risk assessment workshop” to discuss the contents of the document before the risk assessment.19 After the pre-assessment workshop and kick-off meetings, the tax administrations performed a Level 1 risk assessment for 8 weeks, and in this phase, the participating tax administrations conducted a joint workshop to review relevant information such as the CbCR, tax filing history, tax returns, financial statements, ownership and group structure, rulings, and publicly available information.20 If the tax administrations determined that the risk was low or there was no risk, an assurance letter was issued. If tax administrations were unable to conclude that the risk was low or there was no risk, additional assessments were conducted through the Level 2 risk assessment, which generally required more information and clarification of certain tax information.21 The entire process including the Level 2 assessment took less than 40 weeks.22
ICAP 2.0 offers a revised four-stage process.23 During Stage I (pre-entry), an MNE is required to provide any documentation “beyond basic information” to the ultimate parent entity’s (UPE’s) tax administration. The documentation must include high-level information of jurisdictions where most of the UPE’s global revenue is raised, where key activities are undertaken, and any covered risks it proposes to be included in its ICAP risk assessment in addition to transfer pricing risk.24 During Stage II (scoping), tax administrations review a summary of all of the MNE’s relevant transactions, and the MNE is required to provide a scoping documentation package.25
Once Stage II is completed, each of the relevant tax administrations works from the same documentation package as they discuss their findings on risk assessment and issue resolution (Stage III).26 When the assessment is complete, the MNE receives a completion letter providing the outcome (Stage IV).27 The ICAP 2.0 risk assessment process also takes less than 40 weeks.28
Neither Handbook 1.0 nor 2.0 specifically identifies requirements for participation in the program. Because ICAP uses the CbCR for risk assessment, however, it seems only those MNEs that are subject to CbC reporting are eligible to participate, and (as noted) the BEPS Action Item 13 requires only MNEs with revenues of €750 million or more to file a CbCR.29
III. Analysis of the Two Main ICAP Objectives
A. ICAP as a Tax Assurance Method
As noted above, the first key objective of ICAP is to provide tax assurance by facilitating cooperation between tax authorities and MNEs. Considering the voluntary nature of ICAP and the resources that MNEs need to use, the question is whether ICAP provides sufficient tax assurance to attract MNEs.
i. APA-Type Assurance with Lower-Level Legal Certainty
ICAP is a pre-audit “multilateral cooperative risk assessment and assurance process,” which is designed to provide MNEs with “increased tax certainty” with respect to certain of their activities and transactions.30 Both ICAP and advance pricing agreements (APAs) provide similar tax assurance, except that an APA applies only to transfer pricing while ICAP covers a wide range of risks that include transfer pricing.
An APA is a pre-dispute administrative approach that aims to prevent transfer pricing disputes arising from applying the arm’s length principle to transactions.31 The APA process attempts to facilitate principled, practical and cooperative negotiations to (i) resolve transfer pricing issues prospectively, (ii) use the resources of the taxpayer and the tax administration more efficiently, and (iii) provide a measure of predictability for the taxpayer.32 Therefore, the key similarity between ICAP and APA is that both provide assurance and certainty at a pre-dispute and pre-audit stage.
The OECD explains that an APA is intended to “supplement” rather than replace the traditional judicial and treaty mechanisms for transfer pricing dispute resolution.33 Also, while an APA is an “agreement,” it remains questionable whether courts would treat it as a “binding contract.” In the 2013 Eaton Corp. case, petitioner contended that contract law must be applied to interpret agreements between the Commissioner and taxpayers because respondent represented that APAs are “binding contracts.”34 The court held that the legal effect of the APA at issue was governed by applicable revenue procedures:35 because those revenue procedures grant respondent the discretion to cancel the APAs at issue in certain circumstances, general contract law principles do not apply to APAs.36 Although the case was reconsidered in 2017 and the court then concluded that the IRS had abused its discretion in cancelling the APAs,37 it remains unclear from the taxpayer’s perspective how APAs are viewed. Although an APA provides certainty, there remains the possibility that an APA could be cancelled at the tax administration’s discretion if the tax administration finds that a taxpayer’s activity does not comply with the procedures. Nonetheless, because the revenue procedure requirements are reasonable and not overly complex,38 an APA still remains an attractive tool from the taxpayer’s perspective.
On the other hand, while an APA could provide a satisfactory level of taxpayer assurance, the level of assurance ICAP provides is much lower. The OECD states in Handbook 1.0 that ICAP does not “provide an MNE group with legal certainty as may be achieved, for example, through an advance pricing agreement, but gives assurance where tax administrations participating in the programme consider a risk to be low.”39