On 25 October 2016, the European Commission (EC) has published two directives that would result in a mandatory European Union-wide corporate tax system for multinationals. Multinationals are defined as a group of companies with a total annual turn-over exceeding EUR 750 million. For groups that not meet the EUR 750 million threshold the proposed taxation system will be optional.
In the first proposal the EC sets out rules for a common corporate tax system (CCTB). The CCTB-directive contains a common set of rules on how to determine taxable profits in all Member States of the European Union (EU) similar. This directive also includes anti-avoidance provisions.
If the 28 Member States of the EU will reach a final agreement on this proposal, stage two will be the issue of consolidation. A second directive has therefore been drafted by the EC addressing the consolidation rules (CCCTB). This CCCTB-directive describes the conditions for the creation of one (pan-European) consolidated tax group. It also includes the mechanism for allocating the consolidated tax base back to the respective EU Member States for local taxation.
The EC proposes to firstly agree on the CCTB and thereafter on the CCCTB. This approach could also result in CCTB becoming reality without a subsequent CCCTB. On October 25, 2016 the EC also published proposals on hybrid mismatches and dispute resolution. In this alert we have set out the key features of the aforementioned EC proposals.
Key features of the CCTB-directive
Applicability
The CCTB system would be obliged for multinationals with an annual turn-over that exceeds EUR 750 million and that have a taxable presence in any of the EU Member States. Multinationals that do not meet the EUR 750 million threshold can opt-in for applying the CCTB.
Tax base / Participation exemption
According to the CCTB-directive all revenues will be taxable unless expressly exempted. Fixed assets are depreciated (on an individual basis) to nil on a straight-line basis over their useful life time. Specific defined assets are depreciated per asset class in depreciation terms of 40, 25, 15 or respectively 8 years. A rollover relief will be available for assets that are replaced.
Profits of permanent establishments are exempt in the state of the head office. Income on dividends and capital gains on the disposal of shares are exempt for participations of at least ten percent provided they are owned for at least one year.
Allowance for growth and investment
The taxpayers are given an allowance for growth and investment. A deduction will be made available, calculated by reference to a yield on equity increases. This notional amount will equal the yield of the Euro area 10 year government bond (published by the European Central Bank). Conversely, decreases in equity will be taxable to an amount equaling the notional yield on the decrease.
Deductibility of tax losses / Temporary mechanism for cross-border loss relief
Businesses are allowed to carry tax losses forward indefinitely without restrictions. Carry-back is not possible. Since cross-border consolidation is not possible until the CCCTB-directive (stage 2) has been implemented, a temporary mechanism for cross-border tax loss relief has been introduced under the CCTB.
Losses incurred by a (direct) subsidiary or permanent establishment will be recognized as a deduction in the Member State where the parent company is resident but will only result in a timing benefit. These losses will be reversed either when profits are being made (by the respective subsidiary or permanent establishment) or, alternatively, after 5 years. Anti-abuse provisions have been drafted to discourage attempts to evade the rules on tax loss deductibility through purchasing loss-making companies.
Enhanced deduction for R&D Costs
The proposed directive adds a "super-deduction" for R&D costs, which permits, in addition to a regular R&D deduction, a yearly extra deduction of 50 percent for R&D expenditure up to EUR 20 million. A deduction of 25 percent is allowed for amounts in excess of that threshold. Certain start-ups may additionally deduct 100 percent of their R&D costs in so far as these do not exceed EUR 20 million. No separate patent or innovation box regime will be available anymore.
Anti-abuse provisions
Anti-abuse provisions earlier proposed in other European Anti-Tax Avoidance Directive proposals are included in this draft directive. These are drafted as absolute rules that do not allow Member States to deviate or use them as minimum standards. Provisions included are:
- a limitation on deductibility of interest and other financial costs, limiting such deduction to effectively 30 percent of EBITDA (earnings before interest, tax, depreciation and amortization) or EUR 3 million if this would provide for an higher deduction;
- controlled foreign company legislation (CFC) resulting in non-repatriated low taxed passive income of controlled EU/EEA and non-EU/EEA subsidiaries to be taxable at the level of the EU shareholder;
- a hybrid mismatch provision to avoid (a.o.) that due to qualification differences one and the same payment is deductible in two jurisdictions or in one jurisdiction but without corresponding taxation of the income in the other jurisdiction. (In practice after CCTB is implemented this would only apply towards non-EU countries);
- switch over clause disallowing the participation exemption to profit distributions and capital gains on disposals of shares in subsidiaries resident in low-taxed countries; and
- a general anti abuse provision (GAAR).
Key features of the CCCTB-directive
Applicability
This proposal builds on the CCTB-directive (stage 1 â summarized above) and focusses on the consolidation of tax results across the group and different EU Member States. This proposal is obligatory for multinational groups with an EU presence and an annual turn-over that exceeds EUR 750 million. An opt-in possibility exists for those groups that do not meet the EUR 750 million threshold.
Group definition
Under the CCCTB proposal the EU tax consolidation applies provided a two-part test (50 percent control and 75 percent ownership/profit rights) is met. The latter results in pooling the entire (EU) group member's tax bases and as a consequence eliminates all (EU) intra-group transactions.
One stop shop
The EU tax group would in principle deal with the tax authorities of the Member State in which the group parent is resident. Specific administrative rules will be put forward to address and settle potential disputes between Member States or between a Member State and the tax payer.
Formulary apportionment
If the consolidated tax basis is positive, it will be divided and allocated (for subsequent local taxation) to the respective Member States based on a formula built out of three equally weighted factors being (i) labor, (ii) assets and (iii) sales. The factor labor will be broken down in a payroll and headcount component whereas the factor assets will exclude intangible assets and financial assets. Special rules will apply to certain specific industries, like financial services, insurance, oil and gas as well as shipping and air transport. In case a consolidated loss arises, the loss is carried forward and netted against subsequent positive consolidated tax bases.
Proposal on hybrid mismatches
A separate proposal is put forward to ascertain that the June 2016 Anti-Tax Avoidance Directive (ATAD) -that also included rules regarding hybrid mismatches- is updated to follow the newly proposed CCTB provisions in this respect. If adopted, these rules would apply as of January 1, 2019 not only to mismatches arising within the EU (as under the June 2016 ATAD), but also to mismatches arising in relation to third countries.
Proposal dispute resolution
The existing EU arbitration convention requires improvements in order to be better equipped to effectively avoid double taxation within the EU. The EC therefore proposes specific improvements (in connection to applicable time limits, the scope of the framework, etc.) to this convention. These changes should be implemented by the Member States by December 31, 2017.
Our comments and next steps
The draft proposals will be forwarded to the European Parliament for consultation and thereafter to the European Counsel for adoption. The ratification process requires that the proposals are unanimously approved by all 28 Member States.
If adopted, it will fundamentally change the tax position of multinational groups that meet the thresholds as defined in the proposal. They would, in essence, be subject to one general European corporate tax system instead of the 28 different national corporate tax systems currently in place.
Since in this approach the Member States' autonomy would be limited to the setting of corporate tax rates only and as such entails a significant transfer of (taxation) powers from a national level to the EU, it is questionable whether the required unanimity for these proposals will be reached.
Further, aside from the political aspects, the proposals also need improvements to address technical issues and more profound discussions on applied starting points are required, also to avoid a different implementation in the individual Member State. The allocation formula that is proposed to allocate the consolidated tax base to the respective Member States appears to be disadvantageous for those Member States that have a smaller industrial sector and instead have focused on the services industry.
The above items would make it questionable whether the current proposals will be adopted (in their current form) or within the proposed time frames. Given the unknown outcome of the ratification process and since entry into force will not be before January 1, 2019 (respectively 2021 for CCCTB) it appears that there is no need to take any immediate action.
Notwithstanding the foregoing, this process will need to be monitored in order to make sure that actions are taken when required, so tax payers do timely adapt to a new EU tax environment.
AKD will closely monitor the development on this subject and keep you updated. Please reach out to your AKD contact if you would like to discuss the above in more detail.
Huub Laauwen, Eric Vermeulen, Ivo Vreman, Ayzo van Eysinga, Rutger Zaal.
On 25 October 2016, the European Commission (EC) has published two directives that would result in a mandatory European Union-wide corporate tax system for multinationals. Multinationals are defined as a group of companies with a total annual turn-over exceeding EUR 750 million. For groups that not meet the EUR 750 million threshold the proposed taxation system will be optional.
In the first proposal the EC sets out rules for a common corporate tax system (CCTB). The CCTB-directive contains a common set of rules on how to determine taxable profits in all Member States of the European Union (EU) similar. This directive also includes anti-avoidance provisions.
If the 28 Member States of the EU will reach a final agreement on this proposal, stage two will be the issue of consolidation. A second directive has therefore been drafted by the EC addressing the consolidation rules (CCCTB). This CCCTB-directive describes the conditions for the creation of one (pan-European) consolidated tax group. It also includes the mechanism for allocating the consolidated tax base back to the respective EU Member States for local taxation.
The EC proposes to firstly agree on the CCTB and thereafter on the CCCTB. This approach could also result in CCTB becoming reality without a subsequent CCCTB. On October 25, 2016 the EC also published proposals on hybrid mismatches and dispute resolution. In this alert we have set out the key features of the aforementioned EC proposals.
Key features of the CCTB-directive
Applicability
The CCTB system would be obliged for multinationals with an annual turn-over that exceeds EUR 750 million and that have a taxable presence in any of the EU Member States. Multinationals that do not meet the EUR 750 million threshold can opt-in for applying the CCTB.
Tax base / Participation exemption
According to the CCTB-directive all revenues will be taxable unless expressly exempted. Fixed assets are depreciated (on an individual basis) to nil on a straight-line basis over their useful life time. Specific defined assets are depreciated per asset class in depreciation terms of 40, 25, 15 or respectively 8 years. A rollover relief will be available for assets that are replaced.
Profits of permanent establishments are exempt in the state of the head office. Income on dividends and capital gains on the disposal of shares are exempt for participations of at least ten percent provided they are owned for at least one year.
Allowance for growth and investment
The taxpayers are given an allowance for growth and investment. A deduction will be made available, calculated by reference to a yield on equity increases. This notional amount will equal the yield of the Euro area 10 year government bond (published by the European Central Bank). Conversely, decreases in equity will be taxable to an amount equaling the notional yield on the decrease.
Deductibility of tax losses / Temporary mechanism for cross-border loss relief
Businesses are allowed to carry tax losses forward indefinitely without restrictions. Carry-back is not possible. Since cross-border consolidation is not possible until the CCCTB-directive (stage 2) has been implemented, a temporary mechanism for cross-border tax loss relief has been introduced under the CCTB.
Losses incurred by a (direct) subsidiary or permanent establishment will be recognized as a deduction in the Member State where the parent company is resident but will only result in a timing benefit. These losses will be reversed either when profits are being made (by the respective subsidiary or permanent establishment) or, alternatively, after 5 years. Anti-abuse provisions have been drafted to discourage attempts to evade the rules on tax loss deductibility through purchasing loss-making companies.
Enhanced deduction for R&D Costs
The proposed directive adds a "super-deduction" for R&D costs, which permits, in addition to a regular R&D deduction, a yearly extra deduction of 50 percent for R&D expenditure up to EUR 20 million. A deduction of 25 percent is allowed for amounts in excess of that threshold. Certain start-ups may additionally deduct 100 percent of their R&D costs in so far as these do not exceed EUR 20 million. No separate patent or innovation box regime will be available anymore.
Anti-abuse provisions
Anti-abuse provisions earlier proposed in other European Anti-Tax Avoidance Directive proposals are included in this draft directive. These are drafted as absolute rules that do not allow Member States to deviate or use them as minimum standards. Provisions included are:
- a limitation on deductibility of interest and other financial costs, limiting such deduction to effectively 30 percent of EBITDA (earnings before interest, tax, depreciation and amortization) or EUR 3 million if this would provide for an higher deduction;
- controlled foreign company legislation (CFC) resulting in non-repatriated low taxed passive income of controlled EU/EEA and non-EU/EEA subsidiaries to be taxable at the level of the EU shareholder;
- a hybrid mismatch provision to avoid (a.o.) that due to qualification differences one and the same payment is deductible in two jurisdictions or in one jurisdiction but without corresponding taxation of the income in the other jurisdiction. (In practice after CCTB is implemented this would only apply towards non-EU countries);
- switch over clause disallowing the participation exemption to profit distributions and capital gains on disposals of shares in subsidiaries resident in low-taxed countries; and
- a general anti abuse provision (GAAR).
Key features of the CCCTB-directive
Applicability
This proposal builds on the CCTB-directive (stage 1 â summarized above) and focusses on the consolidation of tax results across the group and different EU Member States. This proposal is obligatory for multinational groups with an EU presence and an annual turn-over that exceeds EUR 750 million. An opt-in possibility exists for those groups that do not meet the EUR 750 million threshold.
Group definition
Under the CCCTB proposal the EU tax consolidation applies provided a two-part test (50 percent control and 75 percent ownership/profit rights) is met. The latter results in pooling the entire (EU) group member's tax bases and as a consequence eliminates all (EU) intra-group transactions.
One stop shop
The EU tax group would in principle deal with the tax authorities of the Member State in which the group parent is resident. Specific administrative rules will be put forward to address and settle potential disputes between Member States or between a Member State and the tax payer.
Formulary apportionment
If the consolidated tax basis is positive, it will be divided and allocated (for subsequent local taxation) to the respective Member States based on a formula built out of three equally weighted factors being (i) labor, (ii) assets and (iii) sales. The factor labor will be broken down in a payroll and headcount component whereas the factor assets will exclude intangible assets and financial assets. Special rules will apply to certain specific industries, like financial services, insurance, oil and gas as well as shipping and air transport. In case a consolidated loss arises, the loss is carried forward and netted against subsequent positive consolidated tax bases.
Proposal on hybrid mismatches
A separate proposal is put forward to ascertain that the June 2016 Anti-Tax Avoidance Directive (ATAD) -that also included rules regarding hybrid mismatches- is updated to follow the newly proposed CCTB provisions in this respect. If adopted, these rules would apply as of January 1, 2019 not only to mismatches arising within the EU (as under the June 2016 ATAD), but also to mismatches arising in relation to third countries.
Proposal dispute resolution
The existing EU arbitration convention requires improvements in order to be better equipped to effectively avoid double taxation within the EU. The EC therefore proposes specific improvements (in connection to applicable time limits, the scope of the framework, etc.) to this convention. These changes should be implemented by the Member States by December 31, 2017.
Our comments and next steps
The draft proposals will be forwarded to the European Parliament for consultation and thereafter to the European Counsel for adoption. The ratification process requires that the proposals are unanimously approved by all 28 Member States.
If adopted, it will fundamentally change the tax position of multinational groups that meet the thresholds as defined in the proposal. They would, in essence, be subject to one general European corporate tax system instead of the 28 different national corporate tax systems currently in place.
Since in this approach the Member States' autonomy would be limited to the setting of corporate tax rates only and as such entails a significant transfer of (taxation) powers from a national level to the EU, it is questionable whether the required unanimity for these proposals will be reached.
Further, aside from the political aspects, the proposals also need improvements to address technical issues and more profound discussions on applied starting points are required, also to avoid a different implementation in the individual Member State. The allocation formula that is proposed to allocate the consolidated tax base to the respective Member States appears to be disadvantageous for those Member States that have a smaller industrial sector and instead have focused on the services industry.
The above items would make it questionable whether the current proposals will be adopted (in their current form) or within the proposed time frames. Given the unknown outcome of the ratification process and since entry into force will not be before January 1, 2019 (respectively 2021 for CCCTB) it appears that there is no need to take any immediate action.
Notwithstanding the foregoing, this process will need to be monitored in order to make sure that actions are taken when required, so tax payers do timely adapt to a new EU tax environment.
AKD will closely monitor the development on this subject and keep you updated. Please reach out to your AKD contact if you would like to discuss the above in more detail.
Huub Laauwen, Eric Vermeulen, Ivo Vreman, Ayzo van Eysinga, Rutger Zaal.