Tackling corporate tax avoidance

KEY POINTS

Scope

The directive applies to all taxpayers that are subject to company tax in one or more EU country, including permanent establishments in one or more EU countries of entities resident for tax purposes in a non-EU country.

Combating base erosion and profit shifting (BEPS)¹

The directive lays down anti-tax-avoidance rules in 4 specific fields to combat BEPS:

• Interest limitation rules: where multinational companies artificially erode their tax base by paying inflated interest payments to affiliated companies in low-tax jurisdictions. The directive aims to dissuade companies from this practice by limiting the amount of interest that a taxpayer has the right to deduct in a tax period. The maximum amount of deductible interest is set at a maximum of 30% of the taxpayer’s earnings before interest, tax, depreciation (a measure of how much of an asset's value has been used up at a given point in time) and amortisation (spreading payments over multiple periods).
• Exit taxation rules: where taxpayers try to reduce their tax liability by transferring its tax residence and/or its assets to a low-tax jurisdiction, solely for the purposes for aggressive tax planning. Exit taxation rules aims to prevent the erosion of the tax base in the EU country of origin when high-value assets are transferred with ownership unchanged, outside the tax jurisdiction of that country. The directive gives taxpayers the option of deferring the payment of the amount of tax over 5 years and settling through staggered payments, but only if the transfer takes place within the EU.
• General anti-abuse rule: this rule aims to cover gaps that may exist in a country's specific anti-abuse rules against tax avoidance, and allows tax authorities the power to deny taxpayers the benefit of abusive tax arrangements. The general anti-abuse clause of the directive applies to arrangements that are not genuine to the extent that they are not put into place for valid commercial reasons that reflect economic reality.
• Controlled foreign company (CFC) rules: in order to reduce their overall tax liability, corporate groups are able to shift profits to controlled subsidiaries in low-tax jurisdictions. CFC rules reattribute the income of a low-taxed controlled foreign subsidiary to its more highly taxed parent company. As a result of this, the parent company is charged to tax on this income in its country of residence.

Amending Directive (EU) 2017/952

Because Directive (EU) 2016/1164 only addressed hybrid mismatches² within the EU, a new Directive (EU) 2017/952 was adopted extending the scope to ensure the rules cover hybrid mismatches with non-EU countries. The rules of the latter directive supersede the rules on hybrid mismatches of Directive EU 2016/1164.

Rules on hybrid mismatches: where corporate taxpayers take advantage of disparities between national tax systems in order to reduce their overall tax liability, for instance through double deduction (i.e. deduction on both sides of the border) or a deduction of the income on one side of the border without its inclusion on the other side. To neutralise the effects of hybrid mismatch arrangements, the directive lays down rules whereby 1 of the 2 jurisdictions in a mismatch should deny the deduction of a payment leading to such an outcome.