All about the permanent establishment in Business

Permanent Establishment

Permanent establishment (also known as PE) as a concept is not known globally and has a lot of gray areas. Varying from country to country, many people might not know what it is. However, it´s still important to know about them, since it essentially determines when a business crosses from sporadic business procedures to more permanent ones. A country taxes and gets revenue from the permanent establishment it has.

If you want to set up a permanent establishment, then having a plan to approach them is a must. This will let you prepare for the charges previously mentioned and establish strategies to find the best locations. Successfully managing a permanent establishment can bring many benefits; however, if you try to slip under the radar, you´ll face financial and legal consequences. That is why it is essential to understand them.

In this article, we’ll talk about the basics of permanent establishment rules and everything there is to know to tackle them. We´ll cover:

1-What is a permanent establishment?

2-Determine your permanent establishment checklist

3-How do permanent establishments vary between countries and industries?

4-Risks and benefits of a permanent establishment

5-How to set up a Permanent Establishment

6-How to manage permanent establishment risk

7-How can PEO Middle East help you set up a permanent establishment?

1-What is a permanent establishment?

Permanent Establishment

We refer to Permanent establishment as a concept usually used to denote any business activity that generates revenue within the host country. We say “usually” because its definition varies depending on the country. Each one may have different criteria; however, the definition usually stays the same throughout the world. A significant component of it is that it needs to have a fixed place of business; however, that´s not the only requirement.

Currently, there is no global power of attorney to enforce permanent establishments. The closest organization for it at an international level is the OECD (Organization for Economic Cooperation and Development). Many countries and professionals follow this organization when they need guidance to establish a PE.

Generally accepted permanent establishment rules around the world are:

Have a fixed place of business

It´s recommended for companies to have a fixed place of business, for example, a permanent address, bank account, or other physical presence. If your workers occupy the building frequently for business-related reasons, it could be seen as a PE. Said building doesn´t need to be the property of the organization either, since a co-working space or rental is also viewed as a PE.

The workers conduct the organization´s activity in the country that generates revenue

In a broader interpretation, generating revenue is not just direct sales. It can also be marketing tactics, negotiating contracts, and other business activities. Some countries stick to the general definition while others use the broader interpretation.

Perform the activity within a time frame

Same as the previous points, this varies depending on the country. You need to perform the activity for an amount of time before it is considered a PE. Some countries view it as a continuous period, for example, 6 months or longer.

The employees conducted are under the control of a parenting company in another country

This usually refers to agents that make deals and negotiations. However, if they´re independent, then they aren´t under your company´s control. On the other hand, a dependent agent does trigger a permanent establishment. Another factor of this is the agent´s authority to sign contracts on the organization’s behalf.

2-Determine your permanent establishment checklist

Permanent Establishment

We already referred to the general criteria across the world to establish a permanent establishment. Due to these rules, a country can have many types of permanent establishments, based on their location, agents, or services offered.

If you want to determine if your business can be considered a permanent establishment, it is best for you to make a permanent establishment checklist in which we recommend to do yourself these questions:

Does your business have employees that work at a fixed site?

If your business has a fixed business site in which employees work and return continually when they visit, it is likely a habitual activity. This especially applies if the site is owned or rented by the organization.

Does your business conduct work at that location?

If the activity of the business is related to the main goal of the company or organization, then it´s likely considered a permanent establishment.

Do you make revenue from the work?

Your business likelihood of being considered a permanent establishment increases if your business makes revenue from the activities.

Does your business have dependent agents that can make contracts on behalf of your business?

If by any means your business doesn´t have a fixed site, it can still be considered a permanent establishment if you have agents working for your company.

3-How do permanent establishment vary between countries and industries?

Between countries

We already mentioned before that the rules and criteria of a permanent establishment vary between countries. Some of them are stricter on their enforcement and identification, while others are more relaxed on their approach.

In general, lenient countries tend to be lenient thanks to their interest in their own economic growth. On the other hand, stricter countries tend to be strict because they´re more established.

The UAE follows the definition of a PE in Article 5 of the OECD Model Tax Convention. In the UAE, a non-residence company that carries out its business in an Emirate is prima facie taxable under the tax decree of that Emirate.

Between industries

Thanks to a varied amount of businesses models, a permanent establishment also varies between industries.  Some countries and industries outline these specifications while others use a more “general” approach to encompass the work.

There are some areas where a permanent establishment has considerations, for example:

Constructions

Most of these projects aren´t permanent. Because of this, most permanent establishments look at the duration of the project. Most countries look for a time period of continual activity, mostly 6 months or more.

Consulting

Most consulting service businesses don´t have a fixed place to work, this means that permanent establishments try to look for non-physical activities. These kinds of activities vary by type and the time spent on it.

Brokerage and agents

A permanent establishment considers the dependency of agents and brokers on the parent company. They aren´t controlled by the company in a foreign country if the company doesn´t want to establish a PE.

4-Risks and Benefits of a permanent establishment

Permanent Establishment

Before establishing a permanent establishment, you´ll need to measure permanent establishment risk and determine what it means for your company. Setting up a PE can bring many benefits as well as many risks to your business. In addition to this, it helps you manage the global expansion of your business.

Benefits

Most of the permanent establishment´s benefits come from planning. Firstly, it reduces the possibility of surprise taxes. A sudden trigger of a PE can result in penalties and interest that you need to pay for the period you didn´t pay. In addition to this, it also charges you foreign taxes you may have not budgeted for before expanding.

Secondly, it ensures you work legally, abiding by the laws of the hosting country. This, in turn, gives you peace of mind since by paying your dues, you don´t have to worry about tiptoeing around authorities. In addition to this, you also make sure to avoid being seen as a tax evader.

Last but not least, it allows you to improve your tax efficiency and helps you find the best framework to generate revenue. Furthermore, it lets you have a good relationship with the authorities and the host country. This allows you to work easily with the authorities.

Risks on Permanent Establishment

Setting up a permanent establishment makes you open yourself to surprise taxes. This can be beneficial if you´re prepared for it since you know you´ll need to pay. However, if you are not prepared, this can be detrimental to your business. These additional charges can throw off your budgets, taking you by surprise. Researching the host country´s laws helps you understand the risk of how much you´re taking on.

In addition to this, depending on the infrastructure of your business, you can pay taxes on both your home country and the host country.  Even if you don´t trigger a PE, you might have to pay business taxes or withhold fees on payments from another country. Some tax treaties between countries help you manage these charges thanks to their lenient criteria and lower-rate taxes.

You also have the risk of being seen as uncooperative if you don´t prepare for a PE and don´t pay for your fair share.  This puts your relationship with the country at risk, which is a major marketing issue for your business. On the other hand, if you are prepared for a PE, you might need to deal with more audits and discussions with tax authorities. This means you´ll spend more time and money on them.

Considered the most detrimental risk, you can face interest charges and penalties if you fly under the PE radar for a while. In other words, you´ll need to pay for all the taxes you didn´t pay throughout that period. There also are other penalty charges that are significant for your business. 

5-How to set up a permanent establishment

Permanent Establishment

In case you are trying to establish a permanent establishment, you´ll need to know the basics of how to set it up. This includes knowing the permanent establishment tax and permanent establishment rules.  As the previous points, these can vary depending on the country, but they generally include these steps:

Do your research for Permanent Establishment

As mentioned before, there are a lot of things you need to take into account before establishing a PE. Firstly, you´ll need to look at the permanent establishment tax amounts, research about what parts of your revenue will be taxed. We also recommend searching for how much money will you spend to contract business in the host country. Lastly, you´ll need to research the differences between hiring and payroll and how do they look like.

Compare options

This is in case you want to consider different countries aside from the UAE. It´s recommended for you to look at the factors that influence the benefits you get from each country. For example, search for the more lenient tax treaties or domestic tax credits for foreign activity.

Prepare the paperwork

As implied by its name, you need to prepare the necessary paperwork to set up a permanent establishment. Creating a PE entails the registration of your business with the local authorities. If you don´t have the necessary paperwork, you may face consequences, penalties, and legal problems.

6-How to manage permanent establishment risk

Permanent Establishment

We already mentioned the risks of setting up a permanent establishment. However, you may be left wondering how to manage that permanent establishment risk. Some options to take into account are:

Set up a local entity

If you set up a company in the host country, you eliminate the uncertainty about the tax situation of that country. You will be accountable to pay corporate tax like any other local business. However, this carries a range of significant compliance obligations.

Pay attention to global mobility

Sending an employee of your company from the head office to other countries to manage affairs in them can inadvertently create a permanent establishment in the host country.

Engage a PEO

A PEO (Professional Employer Organization) is a common organization that helps you hire workers globally. The global PEO can act as an ‘Employer of Record’ for your workforce in a country. They also take on a range of compliance obligations for those employees.

A PEO itself won´t reduce the chance of a permanent establishment is created. However, if business activities in a country are short-term and non-habitual, a PEO can help. It helps because they provide an audit trail for tax and employment authorities. This demonstrates that your business activities are fully compliant.

7-How can PEO Middle East help you set up a permanent establishment?

A permanent establishment can bring many benefits to a business since it allows them to work in foreign countries. Nevertheless, they also have their own fair share of risks, and even if you know about them, you might still have trouble dealing with the establishment of one. So it´s better to hire a company to help you with these kinds of problems.

That is why PEO Middle East is your best option. With over 20 years of experience on the market, PEO Middle East looks for your utmost satisfaction in regard to permanent establishments.

Would you like to know more about permanent establishments? Call us at +9714331688 or send an email to [email protected] and you’ll talk to one of our representatives that will gladly answer all of your questions.

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