The COVID-19 crisis has highlighted the challenges a multinational enterprise (“MNE”) faces when global supply chains are disrupted. Decisions must be made quickly when a distribution center is temporarily shut down, when employees in key supply chain roles cannot perform their functions in their expected locations and when the source of raw materials and components changes from one country to another.

Tax is an important component to an efficient global supply chain. Sound international tax planning consistent with global standards ensures that the proper amount of income is allocated to the functions, risks and assets employed by the supply chain and also ensures that no income tax arises where functions performed in a location do not rise to the level of taxable nexus. Moreover, indirect taxes (e.g., VAT) depend directly on how goods and services flow between countries.

The COVID-19 crisis has created a shock to the global supply chain system. This Legal Update discusses some of the key international tax challenges associated with this disruption.

Transfer Pricing Challenges

Impact on Distribution Structures

The COVID-19 crisis has had a sudden adverse impact on both macroeconomic conditions and the profitability of many (if not most) MNE’s which in turn raises immediate challenges for transfer pricing planning and compliance. While an MNE’s existing intercompany agreements should provide the starting point for analyzing the transfer pricing impact, such agreements are typically drafted under the assumption of “normal” operating conditions and business cycles and may not specifically address how short-term losses of an unanticipated catastrophic nature should be taken into account. For example, a typical limited risk distributor (“LRD”) agreement may provide for the LRD to earn a predictable, fixed margin and for all residual profit or loss to inure to the principal. While the LRD agreement may provide for the principal to bear most of the LRD’s costs and risks in the ordinary course of business, tax authorities might challenge whether the agreement should be respected in a situation like the COVID-19 crisis where MNE’s may face sudden, catastrophic losses from both supply chain interruptions and plummeting demand. An even more difficult judgement call may arise in the case of a “routine” or “full-fledged” distribution agreement, in which the distributor has no contractual guarantee of profitability but is nevertheless intended to bear only the routine risks of distributing products. Additional questions may be raised by the presence or absence of force majeure, hardship or other similar provisions that could impact the interpretation or legal effect of the agreement.

In any event, administering intercompany agreements designed for “normal” operating conditions during the COVID-19 crisis will require considerable judgment and give rise to interpretational issues. MNE’s should begin to address these interpretational issues now, and consider documenting their rationale for interpretation of relevant provisions. While new intercompany agreements and clarifying amendments entered into in order to specifically address COVID-19-related matters may have less persuasive weight with the tax authorities than preexisting agreements, they could nevertheless be considered in appropriate circumstances as part of a proactive strategy.

Impact on Transfer Pricing Documentation

The COVID-19 crisis will also complicate comparability analyses for both transfer pricing planning and documentation purposes. Identifying comparable companies for 2020 transfer pricing analyses will be particularly difficult since full-year financial data for independent companies similarly adversely affected by the COVID-19 crisis will generally not be available until well into 2021. While some MNE’s with a calendar fiscal year may be able to take a “wait and see” approach and make appropriate adjustments for tax reporting purposes when 2020 comparables become available, this may not be an option for MNE’s with earlier fiscal year ends (e.g., March 31 or June 30) or for entities in jurisdictions that do not allow retroactive adjustments. Further, the unprecedented conditions during 2020 may draw into question many well-accepted benchmarking practices, such as multiple year analyses using 2020 data and the use of relatively large comparables sets consisting of companies that are functionally comparable but span different industries and multiple jurisdictions (e.g., pan-European comparable sets) that may be disparately impacted by the COVID-19 crisis. Moreover, for certain MNE’s disproportionately impacted by COVID-19 (e.g., one that experiences a near total shutdown as a result of a major supply chain interruption), there may simply be no good “comparables” for 2020.

While the COVID-19 impact on MNE’s comparability analyses and transfer pricing documentation will likely vary from sector-to-sector and even from company-to-company, in many cases a fresh look may be required and the MNE may need to make exceptions to its longstanding transfer pricing policies out of necessity. Some of the approaches to comparability analyses and transfer pricing documentation employed during the financial crisis of 2008-2009—including use of comparables financial data from prior recessions and the use of longer timeframes for analysis—may also be helpful to consider for 2020, bearing in mind that the down economy spurred by COVID-19 may differ from the financial crisis in many ways. Furthermore, for certain MNEs, novel approaches to loss allocation could be considered that would take into account the steps taken by local entities in an effort to stem the losses measured against the severity of local downturn.

Allocation of Catastrophic Costs

COVID-19-related costs are of unprecedented scale for MNE's and the allocation of those costs among the members of the group should be reviewed and monitored from a tax and transfer pricing standpoint. In particular, consideration will need to be given as to how such costs should be shared among the MNE group and whether it is appropriate for a group member that is only entitled to a limited or risk free return to be allocated a share of such costs. An analysis of this issue should include the review of the rights and other assets of the parties, the risks assumed, the economic rationale and the options realistically available to the parties. Contractual terms in intercompany agreements will be especially important in this regard.

Transfers of Value

Conversely, as a result of the disruption, MNE’s may provide financial, technical or other support to a group member in order to ensure that member’s profitability and viability as a going concern. This support may be considered a cross-border transfer of value requiring compensation from a transfer pricing standpoint and may also give rise to tax consequences associated with an outbound transfer of IP or “business restructuring” in the context of the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations.

Support and other payments can give rise to broader tax concerns beyond transfer pricing. Support payments may not be deductible by the paying party or may give rise to withholding taxes. Moreover, a payment by a US member of an MNE group to a related party may be considered a base erosion payment under the US base erosion and anti-abuse tax (“BEAT”) rules. 

Distributor/Supplier Terminations

MNE’s may consider terminating distribution agreements as part of a plan to realign a supply chain in response to the crisis. Careful attention must be given to what damages a supplier or distributor may be entitled to as a result of the termination. Third party comparable data may not be available or may not be relevant in the case of limited risk distributors. Distribution and supply agreements often have liquidated damages provisions which can be helpful in limiting the amount of damages for which a related distributor or supplier may be entitled.

Consistency with Customs Valuation Requirements

Finally, for those MNE’s that have significant import operations, any change in transfer pricing methodology needs to be considered through the lens of customs regulations as well. Customs authorities consider transfer prices on a transaction-specific basis and typically apply different rules than tax authorities in assessing whether a transfer price reported on an import transaction is a reasonable proxy for a market price.  

Recommended Actions

MNE’s should be reviewing their intercompany agreements to analyze how COVID-19 should be addressed for transfer pricing purposes. A particular focus should be given to hardship, force majeure and other provisions that may allow for one time reallocations of profit or loss to more fairly spread the cost of the crisis to the MNE group.

MNE’s shall also begin to consider and document now what variances from their transfer pricing policies may be appropriate for 2020, and for MNE’s with a fiscal year ending in the next several months, the need is particularly urgent.

MNE’s that have significant import operations should consider whether changes in transfer pricing methods also align with customs valuation regulations in the country of importation.

Tax Challenges Arising from Functional Dislocation

A significant consequence of the COVID-19 crisis is that employees may be working in different locations and may be performing different functions. Projects that were meant to be temporary may become extended. These operational challenges can raise significant tax issues.

Permanent Establishment and Residency Issues

The presence of employees working from a fixed location in a country will generally cause the employer to have a taxable presence under local law or a permanent establishment under an applicable income tax treaty. Moreover, many countries use a central management and control test to determine whether a company is resident in that country.

Ordinarily, an employee working in another country through a fixed place of business of his or her employer will create a permanent establishment in that country for the employer. An employee may also create this permanent establishment for the employer if the employee has and habitually exercises the authority to conclude contracts in the name of the employer. Where employees are stranded in another country as a result of travel restrictions or other limitations, business exigencies may require them to exercise contractual authority.

In addition, where an employee working remotely is acting in a management capacity or exercising authority as a member of the board of directors of a company, that activity creates a risk that the company could be viewed as having its central management and control in that country and thus considered a resident of that country for tax purposes. Correspondingly, if directors cease to exercise central management and control over their company in a particular country (for example, because they are unable to travel to that country), the company may cease to be resident there for tax purposes with potentially adverse tax consequences such as exit charges. In fact, certain countries that otherwise require in-person board meetings for purposes of local substance and tax residence requirements have temporarily modified their rules to allow board meetings to take place remotely.1

It would be helpful for countries to issue guidance indicating that the presence of remote employees during the crisis will not create a permanent establishment or residency if such did not already exist. Australia has already issued guidance in this regard2 and the USCIB has recommended that Treasury issue similar guidance.3

In addition to the permanent establishment and residency risks associated with stranded employees, stranded employees themselves may become subject to tax where their stay exceeds the number of days allowed under relevant local law or income tax treaty.

Under most income tax treaties, an installation, construction or building project is not considered a permanent establishment provided the project is temporary. Both the US and OECD Model Income Tax Treaties provide a twelve month period after which the project will become a permanent establishment. Permanent establishment risk arises when a project is delayed, for example, by events such as COVID-19. The Commentary to the OECD Model Treaty indicates that temporary interruptions in a project for seasonal weather delays or similar events do not extend the relevant time period. Given the unprecedented and catastrophic nature of COVID-19, a case can be made that the crisis is different from more predictable weather and other events. Country level guidance and a recommendation from the OECD in this regard would be helpful.

CFC Considerations

The controlled foreign corporation (“CFC”) laws of many countries require a level of substance in a CFC in order to prevent an income inclusion to the shareholder of the CFC. They may also provide for safe harbors from that inclusion, which a supply chain might previously have relied upon. In the United Kingdom, for example, a CFC inclusion may not be required in certain circumstances if the CFC has no or limited “UK-managed” risks and assets or has sufficiently low profits. In the United States, the subpart F substantial contribution test requires the CFC to be actively engaged in a number of functions supporting manufacturing.

These and other CFC related requirements are generally tested on an annual basis. As a result, when because of external events such as COVID-19 employees of a CFC are not able to perform particular functions, or that CFC is required to perform different functions, there is a risk that an income inclusion will be required at the shareholder level.

MNE’s may need to shift production from a CFC to another CFC or back to the MNE’s home country. Broad tax considerations arise here including relative tax rates between the jurisdictions and taxation of royalty and other payments arising from the shift. In the United States, a US MNE will need to evaluate the trade-off between taxation under the global intangible low-taxed income (“GILTI”) regime and the incentives available for exporting, in particular the foreign derived intangible income (“FDII”) incentive.

DEMPE Dislocation

Many countries have implemented the recommendations of BEPS Action 8 requiring that an entity maintain a sufficient level of substance in order to earn a risk adjusted return on intangible property (“IP”). For this purpose, the sufficiency of an entity’s substance is determined primarily by reference to the development, enhancement, maintenance, protection and exploitation (“DEMPE”) functions that it performs or controls. Under this standard, in order to earn premium returns associated with IP, an entity needs to be able to perform or control the DEMPE functions with respect to such IP. 

DEMPE functions are also important in years of minimal profitability and losses, when there are no premium returns from IP to allocate. As with CFC substance requirements, when employees of a company cannot perform the necessary DEMPE functions, there is a risk that a licensee of IP will lose deductions for royalties paid to the licensor or that the licensee will be required to withhold taxes on a royalty payment.

Recommended Actions

MNE’s should be reviewing their delegations of authority for key personnel working from remote locations in order to assess risk with respect to the above issues. Although the consequences may vary on a country by country basis, where remote board meetings need to take place during the crisis, documentation should be maintained as to the location of the meeting and why the meeting could not take place in the relevant country.

Indirect Taxes and Customs Duties


There are a number of ways in which changes to a supply chain as a result of the COVID-19 crisis could result in changes to the indirect taxes (such as VAT or GST) that are payable by the various parties to that supply chain. Many of these changes will be driven by changes to the “place of supply” which is generally the basis on which jurisdictional taxing rights are asserted in respect of indirect taxes. The place of supply may alter from the perspective of the supplier or recipient as a result of a modified supply chain.

For example, a recipient in Jurisdiction X may previously have received supplies of goods or services from a supplier in its home jurisdiction or one based in an overseas jurisdiction (Jurisdiction Y). Instead, as a result of the COVID-19 crisis and related changes to a supply chain, it begins to receive supplies of the same or different goods or services from a new supplier in Jurisdiction X or from a new supplier in a third jurisdiction (Jurisdiction Z). In these circumstances, where the recipient receives goods or services from a new supplier in Jurisdiction Z, having previously received those goods or services from a supplier in its home jurisdiction (Jurisdiction X), it may be required to account for indirect tax on those goods or services in Jurisdiction X under a so-called reverse charge procedure, whereas previously it might have been the responsibility of the supplier based in Jurisdiction X to account for that indirect tax. Correspondingly, if the recipient begins to receive goods or services from a new supplier in its home jurisdiction (Jurisdiction X), having previously received those goods or services from a supplier in Jurisdiction Y, it will usually be the supplier’s responsibility to account for the indirect tax to the tax authorities in Jurisdiction X.

Moreover, despite the above examples, if a new supplier supplies goods or services to an overseas recipient as a result of a change to a supply chain, then, as regards certain types of supply, it may still be the supplier that is responsible for accounting for indirect tax on that supply, in which case the supplier may charge the indirect tax to the recipient by way of an increase in the contractual price for the supply. In turn, the recipient may not be able to recover the cost of that indirect tax by way of credit or repayment from relevant tax authorities, which might not have been the case as regards supplies it received from its previous, possibly local, supplier (the new overseas indirect tax might also be imposed at a higher rate). Tax reporting, registration and other compliance obligations may also arise in these and related circumstances for either the recipient or supplier that did not previously exist. In addition, if the nature of the supplied goods or services changes as a result of modifications to a supply chain, both supplier and recipient will generally have to determine the appropriate treatment of the supply for applicable indirect tax purposes - for example, whether it is eligible for an exemption or for a lower rate of tax. Finally, special consideration should be given to the indirect tax consequences of supplies of goods or services that are canceled due to government restrictions, inability of persons to travel or other restrictions (e.g., obtaining a refund of VAT/GST that the supplier has already paid to the tax authority).

Customs Duties

Similar considerations will also apply to customs duties. In particular, because of the COVID-19 crisis, a party to a supply chain may have to source goods from overseas that it has previously acquired from a local supplier, or may have to change foreign suppliers due to localized outbreaks. Changing suppliers can result in a significant increase in customs duties. Customs duties are generally applied on a product-specific basis but there can be significant differences by source country due to both duty elimination programs like free trade agreements or punitive measures such as those in place today in the United States against Chinese imports (i.e., Section 301 duties). Moreover, in addition to potential changes in the cost of supply, importers also take on compliance burdens in order to ensure that their import operation comply with local customs laws.

Recommended Actions

Overall, if a supply chain is proposed to be modified as a result of the COVID-19 crisis, affected suppliers and recipients should consider the following with respect to indirect taxes and customs duties:

  • The ability of the relevant party to recover the cost of applicable indirect taxes by way of relief or credit;
  • The impact of any new indirect taxes or customs duties on the cost effectiveness and pricing of the modified supply chain;
  • The jurisdiction in which any new indirect taxes or customs duties need to be accounted for and which of the supplier or recipient is responsible for accounting for them; and
  • The extent to which the new taxes and duties result in additional tax reporting, registration and other compliance obligations for the responsible party.

Mayer Brown’s Supply Chain Practice

Mayer Brown has a dedicated cross-practice supply chain team focused on the key legal and tax issues associated with supply chain disruptions arising from the COVID-19 crisis.

1 See Luxembourg’s March 20, 2020 Grand Ducal Resolution at

2 See

3 See

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