The OECD's treaty relief and compliance enhancement package is being developed and tested for the first time by the Finnish tax administration, providing the sole current illustration of how the EU's new withholding tax system would operate.
The OECD's TRACE package, according to the head of tax at a financial services company in Germany, is designed to allow authorized intermediaries, mostly financial services companies, to securely deduct withholding tax (WHT) at source on portfolio assets.
According to him, "the system is supposed to remove administrative burdens on portfolio investors who are claiming reduced rates of withholding tax under treaties."
The TRACE system also makes it simple for intermediaries to transfer proof from earlier disclosures. To support a secure and dependable rebate procedure, it draws on elements of the EU's directive on administrative cooperation and uniform reporting standard.
To regain the trust that has been damaged by the "cum-ex" scandals, it is critical to demonstrate the reliability of information transmission under TRACE. The largest killer of trust between intermediaries and tax authorities, according to advisors, is dividend stripping scams, which cheated EU financial centres of billions of euros.
At the Financial Services Tax Conference hosted by Hansuke Consulting in October, Richard Collier, a professor at the University of Oxford Faculty of Law in London, stated that cum-ex still has an impact on the market.
He claimed that Cum-ex "produces too many tax credits, thus taking advantage of a flaw in the system."
Although receiving an advanced judgement on WHT refunds can be made easier using the TRACE reporting structure, there is still a lot of data needed to prove beneficial ownership and substance. Any issues the authorities have regarding the documentation may cause further delays in refunds.
The tax chief issues a warning that incomplete data may impair the cash flows of financial services organizations.
He emphasizes how crucial it is to gather all the required data beforehand.
The TRACE system is being tested and administered on Finland's digital platform, the first country in Europe to do so. The system accelerated refunds, but according to Finnish officials, it also revealed activity connected to cum-ex schemes that totaled € 80 million ($79.8 million) in tax fraud since 2021.
The TRACE package's contents are still being digitalized, according to Katja Pussila, risk manager at the Finnish Tax Administration, but the agency's initial experiences show the principles are effective.
"The scope of the system amazed us because more than half of the dividends that were tracked by TRACE received relief," she said.
"Retail investors were able to more easily get treaty relief, getting rid of low risk and small reclaims via TRACE, and we now have experience with the system to focus on the biggest funds issues," she continues.
Due to its ability to take into account quirks in several other reporting standards, like the US Foreign Account Tax Compliance Act, the TRACE package provides a flexible upgrade for data transmission.
"This is an IT project first and foremost, but we were able to standardise reports quite easily using the TRACE approach," according to Pussila.
The proof-of-concept digital TRACE model from the Finnish tax authorities is significant, according to Rebecca Willmott, executive director at JP Morgan in London, because it gives more investors access to treaty relief at source.
She continues, "One of the key benefits of becoming an authorised intermediary is to move to a relief-at-source approach that is a boon to asset management companies."
"It means less administration for us and more benefits for clients because they get faster services, so this was a big reason to sign up for TRACE Finland," she says.
"A number of industry groups have found the Finnish Tax Authority to be incredibly open and transparent and that has helped everybody wrap their head around this process," she claims.
According to Susanne Rauscher-Nwokedi, senior business analyst at Software Daten Service in Vienna, TRACE Finland customizations were most recently added to the company's reporting products.
According to her, "We have a decision process for every reporting regime in our system so the decision engine will evaluate a group’s uploaded transactions for different reporting regimes."
"The technology for TRACE was like other reporting regimes, so it was easier to implement," she continues.
"It took a year to design and program our systems to do what the Finnish tax authorities wanted, but we are in the reclaim process now and things seem smooth," she says.
The industry's calls for an EU-wide model by 2023 are being supported by the TRACE Finland success tales.
Distributed ledger technology (DLT) and improvements to the TRACE package are being combined by the European Commission to streamline the approvals procedure for EU-wide WHT claims and treaty relief in the upcoming months.
The DLT initiative is an excellent chance for the EU to take the lead in real-time claim evaluation, according to a tax leader at a multinational investment bank in Dublin.
In the long run, he claims, "we welcome the option outlined by the Commission to establish a fully fledged relief-at-source system, which should be a reliable solution in the long term."
In real time, he continues, "Ledger technologies allow stakeholders to get updates on evidence for refunds in real time."
The absence of a standardized reporting mechanism to date has made it more difficult for multinational firms claiming relief and paying dividends under the EU WHT system. TRACE has the potential to completely solve the issue of informational gaps between fund providers and tax administrations.
According to Willmott, countries have varied filing procedures, and at this point without TRACE, authorized intermediaries must handle the challenging compliance tasks associated with tax reclaims.
DLTs "will almost certainly help reduce risks, enhance productivity, and improve services," she asserts.
She says, "As a service provider, we are looking into how to streamline tax documentation for clients who are straddled with an overwhelming amount of filing obligations."
She continues, "It is important to upgrade even if we do not get to full automation because one documentation issue can lead to 500 extra pages of transaction disclosures, which is ridiculous."
When it comes to adhering to the EU's WHT regime and the new TRACE Finland system, many international company groupings have relied on Software Daten Service's solution thus far.
"I do not see any competitors; all 80 [multinational] groups in Finland use our solution," says Rauscher-Nwokedi.
The Commission's proposal for a DLT built on top of TRACE to streamline refund processes was adopted by the European Parliament in March. Since the WHT system's flaws are still connected to the iconic cum-ex scandals, there is still strong political support for fixing them.
The technique would have ended the cum-ex schemes, according to Steffen Gnutzmann, partner at WTS Global in Germany, but it will require a lot more data to approve credits for dividend payments via DLTs.
He claims that the European system has "many operational complexities in Europe’s system, like the continued distribution of hard-copy documents instead of digital filings."
"This leads to a major lack of trust in data, but blockchain and TRACE are going to change that."
"With a surplus of data evidence in the reclaims process, it is important for tax leaders to know that if garbage goes in, then garbage comes out," he says.
Due to the challenging procedures for applying for tax relief, multinational corporate organizations frequently pay higher WHT for international investments. Only by sharing documents in real time with networks of middlemen and tax agencies are refunds available.
The primary advantage of employing DLTs for relief-at-source WHT treatment in the EU is that all pertinent parties will have access to the most recent papers under TRACE to demonstrate which investors are eligible for relief.
The only proof-of-concept that can successfully streamline compliance for multinational firms and expedite rebates across the EU so far is the Finnish example of a WHT system based on TRACE reporting, but taxpayers will be hoping there are more to come.
By fLEXI tEAM