Brussels is taking a robust approach in leading the fight against tax avoidance by the world’s multinationals in an effort to stem the flow of tax revenues escaping to offshore tax havens. This crusade doesn’t restrict or violate the autonomy of states supremacy over taxation policy. Neither is it a back door to tax harmonisation per se (which is not part of EU law) – at least not yet.

The EU’s tax strategy is clarified in a Commission document: ‘Tax policy in the European Union – Priorities for the years ahead’ (COM (2001) 0260). Subject to compliance with EU rules, member states are at liberty in choosing a tax system considered most appropriate.Footnote 1 Central to EU policy is the abolition of tax hurdles which interfere with the smooth operation of the Single Market, across borders. Hence, actions to eliminate tax evasion, improve VAT compliance and tax fraud are considered within its legitimate remit – particularly where tax avoidance breaches EU state aid rules.Footnote 2 The coordination of tax policy ensures that domestic regimes support wider EU policy objectives, set out recently in the Europe 2020 strategy for smart, sustainable and inclusive growth.Footnote 3

The Commission has been active in the removal of cross-border tax hurdles for EU citizensFootnote 4 such as those faced in cross border, e.g. discrimination, double taxation, difficulties in claiming tax refunds and difficulties in obtaining information on foreign tax rules.Footnote 5 Long-standing reform to tackle tax evasion was introduced through the Savings Taxation Directive (2003/48/EC) and directives providing for mutual assistance between tax administrations.Footnote 6 The 2003 Directive was replaced by Directive 2014/107/EU to strengthen actions to prevent tax evasion.Footnote 7

The EU Directives back domestic authorities in collecting tax on interest from citizens holding bank accounts in other member states. The 2014 Directive widens this scope to cover not only interest income but also from dividends and other types of capital income. It created an information exchange system for tax regimes to assist in identifying individuals that receive deposit (savings) income from banks in another member state. It provides for the automatic exchange of information to enable states to collect data on income from savings of non-residents and automatically transfer this data to their tax regimes where the individual lives.Footnote 8

Corporation Tax – EU Initiatives on Tax Avoidance and Its Wider Implications

‘Member States cannot give tax benefits to selected companies, this is illegal under EU state aid rules’.Footnote 9 This was a statement made by Margrethe Vestager, the EU Competition Commissioner in a landmark ruling (30/8/16) demanding Apple to repay €12 billion in corporation tax (CT) arrears to the Irish government. The verdict was based on a claim that Dublin had, in effect, offered illegal state aid allowing Apple to pay annual tax rates of less than 1% on its European profits for over 10 years.

The ruling prompted criticism at the very heart of the US Administration when the US Treasury accused Brussels of ‘overriding national tax authority’Footnote 10 adding that ‘The Commission’s actions could threaten to undermine foreign investment, the business climate in Europe, and the important spirit of economic partnership between the US and the EU.’Footnote 11

The war of words seems set to continue with a US treasury commissioned white paper published on the 24th of August 2016 stating that

‘This shift in approach appears to expand the role of the [competition directorate] beyond enforcement of competition and state aid law … into that of a supranational tax authority that reviews member state’ decisions on corporate tax.Footnote 12

The US Treasury department has also said the ‘commission’s pursuit of retroactive recoveries is not only in tension with the G20’s efforts to emphasize tax certainty, but also sets an undesirable precedent that could lead to other tax authorities … [seeking] large and punitive retroactive recoveries from both US and EU companies.’Footnote 13

The fear here was that other countries would follow suit. It was justified when on the 16th September the Japan authorities’ claimed that Apple owed it 118 million dollars retrospectively in taxes after a ruling the company was liable for withholding taxes on royalties paid from its local Japanese iTunes unit. The Japanese tax authority argued that the iTunes unit which sends part of its profit made from Japanese clients to its Apple base in Ireland had failed to pay a withholding tax on these earnings.Footnote 14

Margrethe Vestager, the EU’s competition commissioner, continued to assert that Apple should have realised it had a tax deal that was ‘too good to be true’ and has dismissed claims that she acted retrospectively to change Irish law. ‘The state aid rules apply since 1958,’ she said. ‘It has never been a secret that tax exemptions could be state aid, and that, if so, they’d have to be paid back. The only secrets were the tax rulings themselves.’Footnote 15 In the meantime, Apple and the Dublin government will appeal against the EU’s decision with the support of the USA. The tax authorities in the USA are progressing their own claim against Apple for unpaid taxes.

In terms of US CT levels, the high level of CT in the USA (highest in the G20) has played its part in American companies exploring ways to mitigate their CT liabilities by establishing headquarters abroad with Ireland (12%) being a favoured EU destination. The situation is unlikely to change soon, although the steps suggest that some US multinationals are addressing the matter to their own government.Footnote 16

The American tax code, in particular, is in need of reform, a point accepted by both sides in Congress. It is one of only six members of the OECD group of rich countries that taxes overseas income earned by domestic businesses, which has led to situation today where billions of dollars are placed abroad in ‘tax havens’ by the likes of Apple, Amazon, Google, Facebook and numerous other US companies denying the Internal Revenue Service (IRS) revenues which in turn would bolster the economy for urgently needed investment in infrastructure projects.Footnote 17

Unpopular with Who?

The EU’s actions may be unpopular with multinationals – now threatening to move business elsewhere. But EU citizens are less than sympathetic being aware of their own governments’ problems – to increase tax revenues for urgent public spending needs. The populist agenda sweeping Europe has identified a linkage between the multinationals and their hold on the global economy which benefits the big players and is increasingly perceived by the electoral to be rigged in their favour.

Citizens have become aware and critical of large corporations stockpiling profits, with impunity, in tax havens – through complex tax avoidance measures – to mitigate tax liabilities. Although not a main issue in the Brexit decision, leave voters in the UK felt a sense of alienation from globalisation symbolised in their view by banks and multinationals whose interests are propped up by Brussels and neo-liberal regimes.

This is an urgent concern shared with other international authorities, i.e. to curb the ability of the multinationals on CT avoidance. The latest attack from Brussels focuses on new targets such as Amazon, Google, Facebook. Amazon, in particular, is being investigated for what is being suggested that it is full tax liabilities in Luxembourg.Footnote 18

Others such as McDonalds and Starbucks, the coffee franchise chain, are being probed for benefiting from illegal state aid. In the case of McDonalds, Luxembourg, the home state of Jean-Claude Junker, Head of the EU Commission, stood accused of permitting the US fast food chain of paying no tax on its European royalties in Luxembourg (or in the USA).

The matter was again expressed by Margrethe Vestager Competition Commissioner in a statement when she said that Luxembourg had acted against the spirit of a US–Luxembourg double taxation treaty. ‘A tax ruling that agrees to McDonald’s paying no tax on their European royalties either in Luxembourg or in the USA has to be looked at very carefully under EU state aid rules,’ she said. ‘The purpose of double taxation treaties between countries is to avoid double taxation – not to justify double non-taxation.’Footnote 19 The ruling against McDonalds follows that made in October 2015 against both Luxembourg and the Netherlands when the Commission instructed both states to recover tens of millions of Euros in unpaid taxes from Fiat, the Italian car manufacturer, and Starbucks both accused – as with many other companies – of aggressive tax avoidance measures.Footnote 20

For the present, it ferments increase uncertainty for these companies’ tax liabilities in their European trading relations – and for their future investment plans – unable to gauge future tax commitments. For member states such as Ireland, this could put at risk its long-held economic model based primarily on foreign direct investment (FDI) if as a result of the Apple ruling further investigations being conducted result in the EU issuing similar verdicts. Multinationals with their ‘port’ base in Ireland currently enjoy corporate tax levied at 12.5%.

Luxembourg as a Tax Haven

Luxembourg is not on the EU’s published (June 2015) blacklist of the world’s 30 leading tax havens. But this does not stop it earning a well-deserved reputation for ‘tax haven’ status in facilitating beneficial (tax) arrangements for multinationals, many of whom set up bases and European Headquarters there.

Smallest of the member states,Footnote 21 it has developed a sophisticated array of tax loopholes for companies such as Vodafone and GSK in the UK and Amazon in the USA to mitigate their tax liabilities when it receives revenues directly and or when they are diverted to foreign branches of Luxembourg companies in place such as Ireland and Switzerland. As with Ireland, the EU Commission checks whether these deals are anticompetitive and in breach of state-aid rules.Footnote 22 The OECD BEPS Project discussed below aims to establish a single set of consensus-based international tax rules to bring states into line. The importance of this has been expressed by the President of the European Commission, Jean-Claude Juncker, who was the prime minister of Luxembourg between 1995 and 2013.

In a speech in Brussels in July, EU Commission President Juncker promised to ‘try to put some morality, some ethics, into the European tax landscape,’ stating Luxembourg was not a tax haven. Previously, at the G20 Summit in 15 November 2014 (In Brisbane), he commented – without addressing any role as Prime Minister in Luxembourg: ‘What we are intending now is not a full-fledged tax harmonization on each and every detail, but eliminating from our national tax legislations the open gates for tax evasion…I’m in favour of tax competition but I’m also in favour of a fair tax competition in Europe.’Footnote 23

It is not intended here to dwell on each case as investigations are ongoing with some cases several years to run. They involve multinationals which have engineered selective tax deals with individual member states. This is becoming a global issue for sovereign states worldwide and not just in the EU. The OECD is therefore separately working on a strategy to provide guidance to over 100 countries and tax jurisdictions. This will inform on tax avoidance strategies that exploit gaps and disparities in tax rules to artificially move profits to low or no-tax locations.Footnote 24

Whatever solutions are finally decided, legal arguments will still rage over the methodology for profits’ calculation. For example, in the EU Commission’s case against McDonald’s, it focused on the payment of royalties from franchisees operating in Europe to a company called McDonald’s Europe Franchising in Luxembourg. The Luxembourg authorities asserted that ‘Luxembourg considers that no special tax treatment nor selective advantage have been granted to McDonald’s. Luxembourg will fully co-operate with the commission in the investigation.’Footnote 25

The payment of royalties to low tax jurisdictions – attributable to branding and intellectual know-how – is a theme of other investigations by Brussels, as many (multinational) companies claim that intellectual property was created outside the EU and should therefore be deducted from taxes due on European profits.

The Transfer Pricing System

Companies have been able to mitigate their corporate tax liabilities through the ‘transfer price system’, a scheme by which multinational corporations can claim that they ‘buy’ and ‘sell’ partially completed goods from one country to another. The way it works is that a multinational company producing a product in one country for sale in another transfers it to an associate entity in the second country which in turn conducts the sale with the client. The selling price where the transfer arises splits the profits. The ‘split’ can be directed so that the greater profit arises in the jurisdiction with the lowest tax rate. Where also companies are purporting they buy and sell partially completed goods from one country to another, the issue is on how to determine market value.

Brussels has been trying to form a common approach in dealing with this and to introduce common tax rules. Pierre Moscovici, the EU Commissioner for Tax Affairs, has set out to establish a Common Consolidated Corporate Tax Base or CCCTB as part of a harmonisation strategy but this is opposed by the UK (and others) advocating tax competition. In the UK, George Osborne, the former UK Chancellor, announced in his last budget (before his departure following the UK Referendum) a clear indication to lower UK corporate tax from 20% to 17% or less by 2020 challenging Dublin’s hegemony on this.

The ultimate aim in the formation of the CCCTB is to reach agreement with member states on the central principle of where company profits arise. The initiative is not new but a relaunch. What will be the benefits?

It is a fair and competitive corporate tax framework for the EU. Cross-border companies will only have to conform to one, single EU system for calculating their taxable income, rather than many different national rules.Footnote 26 The case made by Apple, the world’s largest corporation (by market capitalisation), was that the greater part of its profits originates from its Irish Dublin subsidiary where CT is 12.5%. They argued that although commercial activity was initiated or conducted in London or Paris, actual ‘value added’ takes place in Dublin. The same line was taken by Google, the search engine company, in its ongoing case with the EU. Some definitive ruling will eventually take form on where the transaction took place to establish where the taxation should take effect.

The OECD/G20 BEPS Project would create a single set of consensus-based international tax rules to protect tax bases so increased certainty and transparency tax authorities and taxpayers alike.Footnote 27 An OECD formula may hopefully gain support with an agreement on how to divide a company’s tax base so it better reflects where the economic activity actually takes place and where the profit should be taxed.Footnote 28

The EU’s relationship with those multinationals conducting business in the Single Market is of vital concern to all parties: to establish a level-playing field so that member states do not obtain unfair tax advantages. The temptation for regimes to lower CT rates is inevitable, especially in smaller (economically) member states like Ireland competing for foreign investment from multinationals – counting reduction in taxes is offset by increased employment which FDI can generate.Footnote 29

In the UK, the new UK Chancellor Philip Hammond intends to take a pragmatic approach but has revised his predecessor’s (George Osborne) intention to lower the UK’s corporate tax rate down to 17% by 2020 – the UK – already the lowest rate in the G20 – seeing no great value in risking falls in corporate tax receipts. This seems prudent with the level of uncertainty for the post-Brexit economy.Footnote 30

The European Commission’s decision against Apple’s tax deal in Ireland highlights the growing antipathy to tax avoidance. EU leaders such as Sweden’s prime minister has made clear, aggressive tax cuts by the UK would needlessly antagonise even those governments inclined to approach Brexit negotiations in a constructive spirit.Footnote 31 This does not escape the fact that post-Brexit, the UK could become a fiscal heaven for multinationals as EU rules would only be binding if it remained part of the Single Market.

Reflections on Corporate Tax Strategies

Some member states – and those of the Eurozone South in particular – will have difficulties in attracting inward investment (FDI), especially from multinationals except where flexible labour laws and low costs prevail. But for most, it is often a matter of striking a balance – not at the expense of eroding the national tax base.Footnote 32 Clearly, FDI supports increased employment in distressed areas, helping to alleviate inter alia high levels of youth unemployment – in countries such as Greece and Spain.

Lower rates are an important driver for company relocation even, e.g. enterprises in recession struck Greece. Greek companies have engaged in relocation to Bulgaria; its northern neighbour sporting the EU’s lowest CT rates. Bulgaria’s CT of 10% marks Greece at 26% (in 2014) very uncompetitive, especially when lower wage costs are taken into account.Footnote 33 In 2015, this rate was increased to 29%, encouraging continued relocation to Bulgaria, although Greek Small and Medium Enterprises (SMEs) had been investing there since the 1990s when the Greek economy was expanding.Footnote 34

In a recent statement (25 May 2016), the Greek Ambassador to Bulgaria, Dimosthenis Stoidis, said that ‘…about 2,000 Greek companies relocated to the neighboring country in 2015 explaining that the outflow of Greek businesses does not cause great concern to the Greek economy, because this was not accompanied by great transfer of major capital.’Footnote 35

Greece, with its high levels of CT, is just one case in point. But it illustrates the view cogently expressed by Joseph Stiglitz when he said ‘…Competition among jurisdictions can be healthy, but they can also be a race to the bottom. Capital goes to the jurisdiction that taxes it at the lowest rate, not where its marginal productivity is the highest. To compete, other jurisdictions must lower the taxes they impose on capital. Thus, the scope for redistributive taxation is reduced.’Footnote 36

Given that the outcome of the OECD BEPS, G20 initiative, was designed to meet states’ concerns about the potential for multinationals to locate profits where they gain more favourable tax treatment, it is hoped that its recommendations will eventually be implemented.Footnote 37