On July 28, 2016, the OECD released a discussion draft on approaches to address base erosion and profit shifting involving interest in the banking and insurance sectors.

The final version of the report on Action 4 (Limiting Base Erosion Involving Interest Deductions and Other Financial Payments) set out a common approach to address base erosion and profit shifting involving interest and payments economically equivalent to interest. This included a ‘fixed ratio rule’ which limits an entity’s net interest deductions to a set percentage of its tax-EBITDA and a ‘group ratio rule’ to allow an entity to claim higher net interest deductions, based on a relevant financial ratio of its worldwide group.

The final report also identified a number of factors which suggest that a different approach may be needed to address risks posed by entities in the banking and insurance sectors. These include the fact that banks and insurance companies typically have net interest income rather than net interest expense, the different role that interest plays in banking and insurance compared with other sectors, and the fact that banking and insurance groups are subject to regulatory capital requirements that restrict the ability of groups to place debt in certain entities. The report therefore allowed countries to exclude entities in banking and insurance groups, and regulated banks and insurance companies in non-financial groups, from the scope of the fixed ratio rule and group ratio rule, and provided that further work would be conducted in 2016 to identify approaches suitable for addressing the related risks posed by these sectors, taking into account their particular characteristics.

The discussion draft, which has been produced as part of the follow-up work on this issue, does not change any of the conclusions agreed in the above-mentioned final report on Action 4, but provides a more detailed consideration of the risks posed by banks and insurance companies and those posed by entities in a group with a bank or insurance company, such as holding companies, group service companies and companies engaged in non-regulated financial or non-financial activities.

The discussion draft does not represent consensus views of the Committee on Fiscal Affairs (CFA) or its subsidiary bodies but is intended to provide stakeholders with substantive proposals for analysis. The CFA invites interested parties to send written responses to these questions, in order to facilitate the analysis of the issues covered by the discussion draft.

A public consultation on the discussion draft is organized on October 11-12, 2016 at the OECD Conference Centre in Paris.

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