It is increasingly popular to expand business to other countries. New clients, competent employees, and geographical advantages are some of the reasons we see companies drawn to check the opportunities abroad. The remote work practices set in place during the COVID-19 pandemic have also made it possible for many office employees to work from home also in the future – the home sometimes being abroad.
Generally, it can be rather burdensome for a foreign company to get a clear view of the laws and praxis of another country. This is also true for the laws and praxis relating to the creation of a permanent establishment, ‘PE’ for short. A creation of a PE grants vast income taxation rights to the country where the PE is located. The creation of a PE is always a question of a complete case-by-case assessment of facts and circumstances – and the related praxis is ever-evolving. The purpose of this blog post is to offer guidance to recognize some circumstances where a PE risk might exist according to Finnish tax praxis – and the circumstances where it would be beneficial to seek for more in-depth PE advise from local tax professionals.
The general rule of a permanent establishment
The general rule concerning permanent establishments is found in the OECD’s (Organisation for Economic Co-operation and Development) Model Tax Convention: A permanent establishment is a fixed place of business through which the business of a company is wholly or partly carried on. This rule is generally included in the tax treaties Finland is a part of. According to the Finnish Income Tax Act, a PE means a place where a distinct place of business is situated for the purpose of carrying on a permanent business or where special arrangements have been made. Even though there are some differences in the permanent establishment definitions between the Model Tax Convention and Income Tax Act, the rules have been interpreted similarly in tax practice.
When there is an applicable tax treaty, the PE definition of the tax treaty has been held decisive. The definition of the Finnish Income Tax Act is applicable and decisive when there is no applicable tax treaty. In such a situation foreign company’s trade or business income generated in Finland is taxable in Finland even if the foreign company has no PE in Finland. However, if there was a PE, the PE would expand Finland’s taxation rights to all income which is attributable to the foreign company’s PE in Finland.
To be considered a PE under the general rule, a place of business must be:
- established at a distinct geographical place;
- established with a certain degree of permanence, and
- the business of the enterprise must be carried through the fixed place of business.
According to the OECD’s Model Tax Treaty, the term 'permanent establishment' includes especially:
- a place of management;
- a branch;
- an office;
- a factory;
- a workshop, and
- a mine, an oil or gas well, a quarry or any other place for extraction of natural resources.
However, this list is not conclusive, and a PE could be deemed to exists also in other circumstances where the place of business exists according to the general rule. In the next part we look at some of the circumstances where the creation of a PE might not be as clear cut.
The application of the general PE rule: Special circumstances and the related PE risk
Auxiliary and preparatory activities
It is noteworthy that if only auxiliary or preparatory activities are carried on in Finland, no PE is constituted. For example, advertising and storing are usually regarded as auxiliary or preparatory activities in nature. However, no activity can be regarded as auxiliary or preparatory categorically, and a case-by-case analysis is always needed. For example, activities cannot be regarded as preparatory or auxiliary, if the activities are an essential part of the foreign company’s business. If the PE carries out similar business as the whole enterprise, it cannot be regarded as preparatory or auxiliary as it is an essential part of the business. Also, if the activities of a PE require a significant proportion of the employees or assets of the enterprise, it is quite unlikely that the activity could be regarded as auxiliar.
Home office / remote work
An interesting aspect of PE formation is the case of home offices, as the number of remote workers multiplied during the COVID-19. During the pandemic it was regarded that an exceptional and temporary change of location to work from home in Finland due to the COVID-19 related public health measures should not create a PE for a foreign company. However, many employees have continued to work from a home for their employer resident in another country even after the cessation of the said measures which clearly raises the PE exposure of the employer.
A permanent establishment can be formed at the home of an employee or director working in Finland for a foreign company. However, as the general rule points out, the working must be permanent in nature, meaning that temporary or sporadic work from home in Finland cannot constitute a PE. It is also required that the home office is at the disposal of the enterprise for which the employee or director works for, and the work is wholly or partly carried out from the home office. This means that a PE could form at the home office if the employer has required the employee to work from home, and it has not provided a separate office space for the employee, even if it the circumstances require that an office should have been provided for the work of the employee. Also, the work carried out from the home office should be something other than auxiliary or preparatory for a PE to be deemed to exists at the home office.
If management activities are carried out in Finland, there is a significant PE risk since management activities cannot be regarded as auxiliary or preparatory in nature. These activities can be carried out from e.g., director’s home (see above) or even from the premises of another company. A place of management is any place where decisions are made that impact the whole company or a part of it. To be a place of management that could be a PE, the decisions made at the place of management must be active, business-centered, and independent. More than one place of management can exist globally, meaning that the existence of a place of management in another country does not exclude the possibility of a management PE in Finland.
Activities lasting less than 6 months
Usually, activities lasting less than 6 months do not create a permanent establishment in Finland, as there is not enough permanency to the activities performed. However, as there is no specific provision relating to how long activities must last for a PE to be created, at some circumstances even activities lasting less than 6 months can be deemed to create a PE. These situations may arise for example in case of seasonal and recurrent activities, or if a certain part of a foreign company’s business is solely carried out in Finland. Special attention should be paid e.g., if a foreign company posts employees to Finland in a situation where each employee is in Finland less than 6 months, but the combined duration of the employees exceeds 6 months. A case-by-case analysis of all circumstances should be made if these kinds of activities are in question.
Circumstances where the permanent establishment risk should especially be considered have not been exhaustively listed in this blogpost. Usually more in-depth examination is needed. It is always recommendable to contact a local tax professional to assess the PE exposure in more detail as well as to seek advice about the obligations that may follow from the creation of a PE. The Finnish Tax Administration may also at times approach foreign companies not yet having a PE in Finland with a letter titled “Further information required for determining permanent establishment” – the response to this letter should be carefully drafted.
If you wish to read more about permanent establishments, please find some additional information from here and here. It is worth to note that in addition to the income tax obligations, a PE can create registration, VAT, and employer liabilities as well.