What is Permanent Establishment Risk & How to Avoid it in 2025

What is Permanent Establishment?

A permanent establishment (PE) is a fixed place or presence through which a company conducts business in a foreign country, creating a taxable presence there. The OECD defines PE as a “fixed place of business” where the enterprise’s operations are carried out wholly or partly. This can include an office, branch, or factory, essentially any physical location your company uses to operate in that market.

But it can also arise through other means, such as having a dependent agent in the country who acts on your behalf, for example, by signing contracts. This means your parent company might be held responsible for local tax liabilities if these agents effectively bind the company in commercial dealings.

Once a PE is established, your company will face income tax and other local tax obligations, making it critical to understand the thresholds that trigger this status.

Types of Permanent Establishment

Knowing the types of permanent establishment helps you identify how your business might be exposed to PE risk.

Common types include:

• Fixed place PE: An office, branch, factory, or any physical location used regularly.
• Dependent agent PE: When someone locally acts on behalf of the company, like signing contracts or managing significant business activities. For example, an employee, contractor, or representative empowered to negotiate and sign contracts.
• Services PE: Providing services in a country over a certain duration, even without a physical office.

Each of these types can lead to a company having to pay corporate taxes and comply with local tax regulations in that jurisdiction.
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What Triggers a Permanent Establishment?

Although the exact definitions of PE vary between countries, certain activities commonly increase your PE risk of being seen as having an establishment in a foreign country.

High-risk Activities

Having an office or other fixed place of business can trigger hidden permanent establishment risks.

This could include:

• A branch, warehouse, factory, mine, or place of address.
• A coworking space or home office (in some jurisdictions).

Having someone locally based, such as a contractor, employee, or employee through an Employer of Record, who:

• Has the authority to sign contracts on your behalf.
• Has a management or senior management role.
• Provides basic business services. 

Low-risk Activities

Not all activities lead to PE status. Some lower-risk scenarios include:

• Business trips to another country.
• Hiring a local supplier or having a local customer.
• Hiring remote workers who provide support but don’t generate revenue locally.
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Assessing Your Permanent Establishment Risk

Taking a close look at your PE risk helps you spot potential issues and ensures you’re following local tax rules. There are different ways to assess this risk, depending on the size and complexity of your operations.

Full Scope Review 

A full-scope review is a thorough analysis best suited for high-risk situations. It includes:

• Interviews and Discussions: Talking with key team members across departments to understand how the business operates.
• Document Reviews: Going over contracts, agreements, and policies to spot anything that could trigger a PE.
• Operational Assessment: Reviewing business activities in each country to see if they create a taxable presence.

Desktop Review

For lower-risk operations, a desktop review is a more affordable option. This method involves:

• Rules-Based Assessment: Using established guidelines to assess PE risk without doing fieldwork.
• Policy and Procedure Analysis: Checking existing documents to ensure they align with local tax laws.
• Benchmarking: Comparing your practices to industry standards and local requirements.

Focused Scope Review

When the PE risk is moderate, a focused-scope review is the way to go. This combines aspects of both full-scope and desktop reviews:

• Surveys and Questionnaires: Distributing tools to collect information from key people in your business.
• Targeted Analysis: Focusing on specific areas of concern identified in earlier assessments.
• Risk Prioritization: Addressing the most significant PE risks first.
• Using a PE Risk Assessment Checklist: A PE risk assessment checklist can help you evaluate important factors like physical presence, agent authority, service duration, and employee roles to better understand your tax obligations.

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Avoid Unexpected Permanent Establishment Risks

Avoid costly tax liabilities abroad. Playroll’s EOR services helps you hire internationally, minimizing PE risk and simplifying compliance

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How to Mitigate PE Risks When Expanding Globally

So, what are some things you can do to avoid permanent establishment risk? Here are some key strategies you can use to mitigate unexpected tax liabilities and remain compliant:

Establish a Local Entity (When Appropriate)

Setting up a subsidiary or branch in a foreign country can establish a clear legal presence and may offer tax benefits. However, this option also comes with significant costs and administrative responsibilities, like registration, ongoing compliance, and financial commitments.

This approach works best for businesses planning long-term operations in a specific market and that have the resources to manage these complexities.

Use an Employer of Record (EOR)

An Employer of Record acts as the legal employer for your international employees, handling payroll, taxes, and compliance with local labor laws. This lets you hire employees in other countries without setting up a local entity, which helps reduce PE risk and makes managing global employment and payroll easier.

EORs are especially useful for businesses testing new markets or managing remote teams across multiple countries.

Be Mindful of Your Activities in the Country

To reduce PE risk, it's wise to limit certain activities in foreign countries, such as avoiding hiring too many employees locally, restricting activities that directly generate revenue, and limiting on-site visits to the same location. Also, avoid giving employees or agents the authority to sign contracts, negotiate sales, or bind the company in the target country.

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Employees playing a supporting role in your business generally offer a lower risk. By carefully structuring your operations, you can reduce the likelihood of being found to have a taxable presence.

Amy Smith, Legal Counsel at Playroll

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Leverage Tax Treaties To Clarify PE Thresholds

Many countries have Double Taxation Treaties (DTTs) that define what counts as a PE and may offer exemptions or lower tax rates for certain activities. Before expanding into a new market, review the relevant DTTs to understand how they apply to your business.

For example, the United States-Canada Income Tax Convention defines a PE as a fixed place of business where business activities are conducted, and it includes specific rules for construction projects and installations that last longer than 12 months.

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Consult Local Tax Advisors For Jurisdiction-Specific Guidance

To stay compliant with international tax laws, you might need to engage local tax advisors. They can provide expert insights tailored to your context when it comes to PE definitions, thresholds, compliance updates, and risk mitigation strategies, helping to keep your global operations running smoothly.

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What Happens If You Get PE Risk Reduction Wrong?

Failing to control permanent establishment risk can lead to serious consequences, including:

• Paying corporate taxes both at home and abroad increases your overall tax burden.
• Incurring withholding taxes on payments between your parent company and foreign entities.
• Facing penalties, interest charges, and audits from local tax authorities.
• Damage to your company’s reputation for non-compliance.
• Increased administrative workload and reporting requirements.
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Compliance and Reporting for Permanent Establishments

What happens once a PE has been established? There are several tax responsibilities and legal requirements to keep in mind. Let’s break it down:

Tax Filings and Local Compliance

Once a PE is set up, it often brings along a range of tax obligations in the host country, which may include:

• Corporate Income Tax: Businesses need to file income tax returns, reporting profits earned in the host country, including a breakdown of income and expenses linked to the PE.
• Value-Added Tax (VAT) or Sales Tax: Depending on the country, the PE may need to register for VAT or sales tax, collect it from customers, and send it to the local tax authorities.
• Withholding Taxes: Any payments like dividends, interest, or royalties that the PE makes to its parent company or affiliates may be subject to withholding taxes.
• Social Security and Payroll Taxes: If the PE has local employees, it must follow local labor laws, including withholding and sending social security contributions and payroll taxes to the government.
• Transfer Pricing Documentation: Businesses with a PE must often provide documentation proving that transactions between the PE and related entities are fair and at market value.

Role of Professional Advisors

Because international tax laws can be complicated and vary widely from one place to another, it’s often a good idea to get professional help. Tax experts and lawyers can guide businesses through:

• PE Risk Assessment: Identifying what activities could lead to a PE and advising on how to structure operations to minimize risk.
• Tax Compliance: Ensuring taxes are filed correctly and on time, and that the business is meeting all local requirements.
• Transfer Pricing Strategies: Helping businesses set up transfer pricing policies that follow both local and international laws.
• Navigating Tax Treaties: Using international tax agreements to reduce double taxation and make tax obligations more efficient.
• Audit Support: Assisting businesses during audits and helping resolve any disputes with tax authorities.
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Country-Specific Considerations

Different jurisdictions may interpret PE slightly differently, but the underlying principles align closely: 

Key Jurisdictions and Their Permanent Establishment Rules

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How Can Playroll Help Reduce PE Risk?

Navigating the complexities of permanent establishment risk can be daunting, especially when expanding into new international markets. That’s where Playroll comes in as a trusted partner offering comprehensive Employer of Record services designed to simplify global employment and minimize your PE exposure. 

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One of the factors for determining a PE is whether there is a legal entity or a physical presence in the territory. By acting as the legal employer for your foreign staff, Playroll assumes responsibility for and fulfills all local compliance requirements, including payroll management, tax filings, and adherence to labor laws, effectively creating a separation between the company's operations from the local tax and employment laws of a foreign country and eliminating the need for you to establish a costly fixed place of business or subsidiary in every jurisdiction.

Amy Smith, Legal Counsel at Playroll

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This approach allows you to hire remote workers and manage global payroll with confidence, knowing that your presence in a foreign country is compliant and your tax obligations are carefully managed. Using an EOR does not eliminate the possibility of Permanent Establishment risk, since this differs per country and specific business activity. However, using an EOR minimizes the risk compared to establishing a fixed place of business yourself.

Playroll’s platform also provides valuable tools such as an Employment Cost Calculator and a Global Hiring Guides library, helping you plan your international hires strategically and mitigate unintended PE risks. 

Ultimately, Playroll’s solution for global expansion keeps your business operations running smoothly, reduces the legal and administrative burden on your parent company, and helps you focus on growth without the pitfalls of non-compliance and double taxation. Book a chat with our team to learn how to expand your business without the red tape.