BEPS and Commodity Trading (Trading of Derivatives)

Learning Centre • BEPS and Commodity Trading (Trading of Derivatives)

BEPS and Commodity Trading (Trading of Derivatives)

The reports and discussion drafts published by the OECD at this stage suggest that the trading of derivatives for profit is outside the scope of this stage of the BEPS project.

That said, aggressive tax planning structures which rely on the use of derivatives are already under scrutiny in some jurisdictions. For instance, some jurisdictions have either introduced measures to combat such structures or alerted taxpayers that the use of certain instruments is under review. Although the measures or alerts have been driven by other events, it is not inconceivable that tax authorities could apply these measures to commodity trading where relevant.

Whilst commodity trading (specifically trading of derivatives) for bonafide hedging purposes is an essential part of risk management within the business, tax authorities will appreciate that arbitrage and other types of speculation are separate from trading. Accordingly, it may be prudent to describe how and why such instruments are used in a way that is comprehensible for the tax authorities and demonstrates their purpose.

For instance, if the inquiry related to pricing Australian grain, it could be helpful to explain the methodology used to price grain, including how futures, exchange rates, and basis drive pricing of the commodity, requiring commodity trading businesses to use derivatives to manage risk arising from these factors.

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To say that some tax authorities are on a voyage of discovery in understanding how commodity trading businesses work would be an understatement. A combination of press coverage, large headline revenues, and what appears to them, i.e. governments and tax authorities, to be abnormally low-profit margins can set off alarm bells and even lead some to automatically assume that something nefarious is afoot. In short, it is not common knowledge that commodity trading can be a high volume, low margin business.

In addition, there may also be knowledge gaps on how commodity markets and pricing work. A setup where, for example, trading and pricing are affected primarily by way of OTC instruments rather than futures and exchange-traded or driven-off pricing from one primary source jurisdiction for that commodity.

On the pragmatic side of things, commodity trading groups (particularly with those using the front office) ought to take the initiative by describing the business of commodity trading in clear and simple language to the general public, rather than letting it be defined by people who are less knowledgeable. The alternative of staying silent and letting people come to their own views has not gone well if the press coverage to date is to be used as a barometer of what people outside the industry think.

It is a well-known fact that the requirements for CbC compliance obligations do vary from country to country. Personal experience finds that certain types of diagrammatic representations seem to work well in trying to explain how commodity supply chains work, which perhaps could be useful for fulfilling your obligations to the tax authorities of various jurisdictions.

For example, I know of some it might not be a good idea to meet with you, so it may not be the most comfortable of situations, but the tax authorities may not appreciate us collaborating on non-trading concepts.

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