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ANTI-TAX AVOIDANCE DIRECTIVE: THE CORDIAL OF STATE SOVEREIGNTY & ATTRACTIVENESS

Marc Sanders, Partner, Taxand Netherlands

The release today by the European Commission of the proposed anti-tax avoidance directive, as part of a larger package of measures, aims to stop multinationals taking advantage of the fragmented and disparate nature of national tax systems whilst Member States put BEPS into national law.  Although the concerns expressed by the EC are understandable, these proposals raise concerns that they may simply dilute national sovereignty on tax matters and make the EU a less attractive place to do business. The EU commission’s objective to go further and be more ambitious than BEPS also raises questions of whether “gold plating” BEPS is good for the competitivity of the EU.

The directive has been drafted broadly and without a lot of detail.  Whilst at first glance it appears to provide simplicity, the reality is that a lot more meat will be added to the bones when implemented at State level.  And with no timeline to bring it into force in the draft, we have to ask whether this will actually meet its objective of filling the void during BEPS’ implementation at all.  

Looking at just a snapshot of the directive, it seems to further muddy the waters for multinationals operating in the region.

The increase in taxes due on profits of low taxed subsidiaries through the switch over clause and the CFC rules will impact EU multinationals and their EU HQs considerably.  Whilst this may meet the desired objective of deterring companies from using low taxed subsidiary locations, it could lead to multinationals moving outside of the EU altogether to avoid the new rules, benefitting locations such as Switzerland, or be a deterrent to non-EU multinationals frightened away from using the EU as a hub location.  The draft seems to be nervously skating around the “Cadbury Schweppes” standard of limiting any restrictions on intra-EU activities to “wholly artificial” structures.  A previous draft directive just one month ago stated:

“limiting this (CFC) provision to third countries, as foreseen in the Italian presidency’s compromise text, seems to be the most suitable outcome in the framework of this directive ….”  otherwise  “…the legal drafting of the CFC rules would” become very complicated”

The latest draft changes tack, presumably under political pressure, and attempts to solve the “very complicated” conundrum.  We now have the EU concept of “non-genuine arrangement”, overlaid with a concept of “essential purpose” and combined with a “transactional approach”.  It looks like a tax lawyer full employment program, but could create a real business headache.

Then there is the proposed introduction of the potentially blunt instrument that is the ‘General Anti-Abuse Rule’, or GAAR, which will result in uncertainty for multinationals and increased litigation.  Experience in other jurisdictions such as Canada, which has had a legislated GAAR for almost 30 years, show that although it is simple to state a concept such as the “object and spirit” of the tax law, the “defeat” of which is a prerequisite for the application of the proposed GAAR, actually divining that “object and spirit” can be extraordinarily difficult, particularly when one considers that politicians don’t always mean what they say, nor say what they mean.  As well, the omission of grandfathering rules also implies this could have a retroactive effect, sending further chills down the spines of multinationals who are operating in a permanent state of paralysis over retrospective rulings and investigations.

In addition, the new interest deduction rule will result in double taxation, as only part of the interest will be deductible but it will remain fully chargeable in the receiving state, effectively pressing the starting gun on restructuring to avoid double taxation as much as possible.
Looking more broadly at the measures, multinationals in EU countries with high CIT rates will be impacted more than those in lower taxed EU countries because of the link with the statutory CIT rate in the switch over and CFC clause.  This could easily create a race to the bottom in CIT within the EU, failing to create the harmonised environment and level playing field so desired by the BEPS initiative.

With corporate tax laws in a state of flux, this directive creates an additional layer to a raft of new EU tax rules currently being implemented.  With changes to the Parent-Subsidiary directive, exchange of rulings and the relaunched CCCTB proposal already underway, one wonders whether tax departments can cope with this onslaught of further changes and what impact this transition is having on the EU’s appeal as a place to do business.