Tax Treaty Shopping After BEPS: What Still Works

Tax treaty shopping is far harder after BEPS. We explain the principal purpose test, the limitation on benefits clause, and how to claim treaty relief.

For decades, the route to lower withholding tax on cross-border dividends, interest and royalties was well worn. You inserted a holding company in a jurisdiction with a favourable treaty, routed the income through it, and captured a reduced rate that the ultimate owner could never have claimed directly. This was tax treaty shopping, and for a long time it sat in an uncomfortable grey zone between legitimate planning and abuse.

That era has effectively closed. The OECD's Base Erosion and Profit Shifting (BEPS) project, and in particular the Multilateral Instrument (MLI) that amended thousands of bilateral treaties at once, was designed precisely to shut down conduit arrangements that lack genuine commercial purpose.

Treaty access has not disappeared. But the question has shifted from "does a treaty exist between these two states" to "can this particular taxpayer, with this particular structure, actually rely on it." Getting that wrong now means denied relief, interest, penalties and the unwinding of an entire structure. This article explains what changed and what still works.

What treaty shopping was, and why it drew fire

A double tax treaty allocates taxing rights between two countries and typically reduces or eliminates withholding tax on cross-border payments. The benefits are reserved for residents of the two contracting states.

The abuse arose where a resident of a third country, who would otherwise face high withholding tax, interposed an entity in a treaty-favoured state purely to access a better rate. The interposed entity often had no employees, no real activity and no commercial rationale beyond the tax saving. Tax authorities increasingly saw these conduits as undermining the bilateral bargain treaties were meant to strike.

BEPS Action 6 identified treaty abuse as one of the most significant sources of base erosion. The response was a minimum standard that the great majority of treaty partners have now adopted.

The two gatekeepers: PPT and LOB

Two mechanisms now govern whether treaty relief is available. Most jurisdictions have adopted the principal purpose test; a smaller number, led by the United States, rely on detailed limitation on benefits provisions. Some treaties contain both.

The principal purpose test (PPT). This is the dominant standard under the MLI. In broad terms, a treaty benefit is denied if obtaining that benefit was one of the principal purposes of an arrangement or transaction, unless granting it would be in accordance with the object and purpose of the relevant treaty provisions. The PPT is deliberately wide. It looks at intention and substance, not just legal form, and the burden of showing a genuine non-tax purpose effectively falls on the taxpayer.

The limitation on benefits clause (LOB). This is a more mechanical, rules-based filter. It sets out objective categories of "qualified persons" who may claim benefits, such as listed companies, entities owned by residents of the same state, or those carrying on active business. An entity that fails every category is denied relief regardless of intent. LOB delivers more certainty than the PPT but is harder to satisfy for privately held international groups.

The practical reality is that a structure must now survive both a subjective test of purpose and, where applicable, an objective test of qualification.

Beneficial ownership still matters

Long before BEPS, many treaties already restricted reduced rates on dividends, interest and royalties to the beneficial owner of the income. Courts and tax authorities have given that term real teeth.

A company that receives income only to pass it on, with no discretion over its use and no meaningful exposure to the risks and rewards of holding the asset, is unlikely to be treated as the beneficial owner. A back-to-back loan funnelled through a financing company, or a holding entity contractually obliged to on-pay dividends, will often fail. The beneficial ownership requirement, the PPT and the LOB now operate as overlapping defences against the same behaviour.

What still works: substance and genuine purpose

None of this makes international holding and financing structures obsolete. It makes them earn their treaty access through real substance and a credible commercial story.

Genuine economic substance. An entity claiming treaty benefits should have a reason to exist beyond tax. That typically means qualified local directors who actually exercise decision-making, appropriately skilled people, suitable premises, its own bank accounts and books, and the ability to bear and manage the risks associated with the assets it holds. The greater the income flowing through, the more substance regulators and counterparties will expect.

A coherent commercial rationale. Regional holding platforms that consolidate ownership of operating subsidiaries, centralise group treasury, hold intellectual property where it is genuinely developed and managed, or pool investment for a family group can all have purposes that survive a PPT analysis. The key is that the structure would be defensible even if the tax outcome were neutral.

Choosing the right home. Established holding jurisdictions remain relevant precisely because they combine broad treaty networks with credible substance ecosystems and EU directives where applicable. The selection should be driven by where genuine activity can plausibly sit, not solely by the headline rate in a treaty table.

Aligning legal form with economic reality. The arrangements on paper, the conduct of the parties and the flow of funds must tell the same story. Mismatches between intercompany agreements and what actually happens are where challenges succeed.

Practical pitfalls we see

Several recurring mistakes turn a workable structure into an exposed one.

Relying on a treaty rate at the point of payment without confirming the recipient is both a qualified person and the beneficial owner is a common error, particularly where withholding agents apply relief at source. So is treating a holding company as a filing cabinet, with nominee directors who never convene and no local decision-making. Layering multiple intermediate entities to reach a favourable treaty almost always invites a PPT challenge, because the only credible explanation for the layers is the tax result.

Documentation gaps compound all of this. If the commercial purpose was real, it should be evidenced contemporaneously in board minutes, business plans and correspondence, not reconstructed years later under audit.

How HPT helps

We design and operate international holding, financing and intellectual property structures that are built to withstand the principal purpose test, limitation on benefits provisions and beneficial ownership scrutiny. That means selecting jurisdictions for genuine commercial fit, putting real substance in place, documenting the rationale at the time, and coordinating local tax advice in each relevant state so that treaty relief is claimed defensibly rather than assumed. Where an existing structure looks exposed, we assess it candidly and help reposition it.

If you are reviewing whether your cross-border structure still earns its treaty benefits, we would be glad to talk it through.