This paper analyses the European proposal on January 28, about tackling avoidance on this tax field. This measure consists of fighting against aggressive tax planning, boosting transparency between Member States and ensuring fairer competition, according to the Single Market principles. Taking that into account, we will put in relation the whole taxation proposal with national regulation (in particular, Spanish) and international efforts, which constitute a genuine enlightenment, in order to show its deficiencies or possible actuation fields.
I.- First of all, a conceptual distinction is need while treating this issue between tax evasion and tax avoidance. The main difference is the degree of rule compliance. Tax evasion involves some affirmative act to evade or defeat a tax, or payment of tax. Nevertheless, avoidance has been configured as the right to reduce, avoid, or minimize their taxes by legitimate means: One who avoids tax does not conceal or misrepresent, but shapes and preplans events to reduce or eliminate tax liability within the parameters of the law. These are Internal Revenue System definitions, we have chosen them due to the fact that OECD incorporated their animus when establishing both aggressive tax planning policies and evasion practices.
European Union’s aim is to drive common tax policy rules to fair, efficient and growth-friendly taxation, according to the namesake strategy, COM (2015) 302 final and ab intio referred Directive. Consequently, taxpayers should contribute, fairly, to support their fiscal residence finance. If legitimate expectancy is one of the tax system sides, the other is the need of having trust on it, because aggressive practices. As a result: Billions of tax euros are lost every year to tax avoidance. This money could be used for public expenditure and investment. Europeans and businesses that play fair end up paying higher taxes as a result.
Furthermore, taxation constitutes an important factor in influencing company’s business decisions, in special, investments and research & development activities. However, implementing tax policies at local level needs global support, in order to fight against burdening strategies at global and digital level.
The Directive COM/2016/026, has the aim of combating tax avoidance, and evasion, practices, due to the fact that they directly affect the functioning of the internal market. This Directive focuses in six specific fields: deductibility of interest; exit taxation; a switch-over clause; a general anti-abuse rule (GAAR); controlled foreign company (CFC) rules; and a framework to tackle hybrid mismatches.
II.-Deductibility of interest
Base Erosion via Interest Deductions and Other Financial Payments is one of the most harmful financial behaviors, as considered on EU taxation papers, where aggressive tax planning structures created on this purpose take up huge amounts of paper.
The structure to erode tax base trough aggressive planning in company acquisitions, obtaining tax relief for internal financing costs, which do not reflect any external financing costs, is established by the following transactions:
A multinational parent company headquartered in a Member State (MP), sets up: a tax-free company, in a State, which is not member of the European Union (Offshore company, OC) and a holding company (HC) in another Member State, different; the non-EU company is contributed- by MP- a large amount of share capital, and the EU territory based holding contributes with a minimum share capital. Another holding company (HC2) is established a third member state as subsidiary, 100% owned by HC with a minimum share capital.
Then, cross loans and share operations start. Firstly, HC takes out an interest-bearing loan from the offshore company; HC2 takes out an interest-bearing loan from B Holdco and uses the funds borrowed to pay the purchase price of the targeted company from a member State
HC2 is strictly a holding company with no income-generating activities of its own, so that the utilization of its tax deductions has to be achieved by targeted company in consolidation process. Interest is claimed by HC2 as a local tax deduction in its EU State. The interest is included in HC taxable income, and compensated by paying interest on the loan from the non-EU company, and claims deduction: As a result: the deduction leaves a small taxable income in European Union States. It is assumed that HC and HC2 do not levy any withholding tax on interest, so that there is no cash deposit on EU-member tax Administration. Of course, It is also assumed, to ensure the overall benefit, that taxation regime on offshore company should be suitable for the cost-assuming neutralization process.
This fiscal optimization structure is subjected to some corrections, even restrictions that are applied to reduce avoidance.
i.- The Multinational Parent company which holds the others has to be resident in a State that apply a total or generous tax exemptions of dividends, and treat controlled foreign companies on low tax destinies as equal taxation regime country; in jargon: not to have CFC rules.
ii.- The offshore entity should not be subject to corporate tax or withholding requirements on dividends paid to Parent company.
iii.- The holding company (thin-cap allowed) placed on second member state has no to be required to withholding tax mechanisms for the interest paid to offshore. Usually, this privileged situation depends on an agreement between enterprise and tax administration, obtaining special rules for the company. Also, tax deduction for interest must not be linked in any way with creditor’s fiscal residence.
iv.- The second holding company (HC2), if group taxation with target is allowed, applies the previous regime and, in addition, must not be limited on interest deduction or subjected to beneficial owner test (OECD-2010 ruling).
General ruling limits leveraged-acquisitions by treating creditor states in different ways, introducing thin capitalization rules or not to allowing group taxation when a holding company acquires the targeted company.
III.- EU Directive COM/2016/026
Directive’s background establishes that: It is necessary to lay down rules against the erosion of tax bases in the internal market and the shifting of profits out of the internal market (…) by limitations to the deductibility of interest. In this sense, as stated in whereas, to reduce their global tax liability, cross-border groups of companies have increasingly shiftedprofits, often through inflated interest payments.
This new Directive introduces some rules to fight against leveraged acquisitions with debt push-down and use of intermediate holding companies with base erosion purpose:
i.- On art. 2, when taking into account borrowing cost, we have to consider the difference between what rule considers a direct borrowing cost, and what is assumed as exceeding cost from the operation.
ii.- Article 4 configures the interest deduction rule, by limiting it to the extent that the taxpayer receives interest or other taxable revenues from financial assets. This is a double limitation, from the positive result of the basis and the origin from financial source.
iii.- Exceeding costs limitation on deduction, has been derogated, and the right to fully deduct exceeding borrowing costs, on group taxation, was given. The rule makes a condition: the taxpayer has to demonstrate that the ratio of its equity over its total assets is equal to or higher than the equivalent ratio of the group.
iv.- According to art. 5, if a taxpayer defers (or reduces) the payment by an exit of taxation, on 5.3, the taxpayer may be charged to the extent necessary to preserve the value of the assessed tax liability.
v.- The inclusion on the taxable basis of a parent entity of the non distributed income of an entity whose income is integrated (on a 50% or more) by interest or any other income generated by financial assets;
i.- Where the application of those rules gives rise to double taxation, taxpayers should receive relief through a deduction for the tax paid in another Member State or third country, as the case may be. Thus, the rules should not only aim to counter tax avoidance practices but remove other obstacles to the market, such as double taxation.
ii.- Art. 2 definition, considers exceeding borrowing costs and natural borrowing cost, companies base erosion possibilities are open trough interest rate definition according to the country regulation, to avoid, thus, the directive rules.
iii.- An important effect in that taxation will take place in the jurisdiction where profits are generated and value is created. This will enhance tax fairness between companies in the EU. Thus, internationally active groups of companies will no longer benefit from tax planning opportunities which are not available to taxpayers who are only domestically active, al small and medium size enterprises.
iv.- Lacks of consistency and mismatches through common rules and procedures in Member States could endanger the success of the whole project. One of these important issues is the interest excess deduction rule.
Firmado: Manuel Díaz Pérez.
Redactor en Derecho & Perspectiva.
-Directive COM(2016) 26 final
-Taxation paper No 62: Financial Transaction Taxes in the European Union.