Tax rulings: how to approximate market prices

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EU - State aid - DG Competition - Internal Working Paper - 3 June 2016

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As a rule, fiscal measures of a general nature that apply to all undertakings without distinction fall within the remit of the Member States’ fiscal autonomy and cannot constitute State aid, since they do not selectively advantage certain undertakings over others.

By contrast, fiscal measures that discriminate between taxpayers in a similar factual and legal situation constitute, in principle, State aid.

The “arm’s length principle” aims to ensure that all economic operators are treated in the same manner when determining their taxable base for corporate income tax purposes, regardless of whether they form part of an integrated corporate group or operate as standalone companies on the market.

The Commission does not call into question the granting of tax rulings by the tax administrations of the Member States. It recognises the importance of advance rulings as a tool to provide legal certainty to taxpayers. Provided they do not grant a selective advantage to specific economic operators, tax rulings do not raise issues under EU State aid law.

The inquiry has focussed, in particular, on tax rulings which endorse transfer pricing arrangements proposed by the taxpayer for determining the taxable basis of an integrated group company.

The Commission has also analysed “confirmatory rulings”, which confirm the application, or the non-application, of a certain legislative provision to a specific situation.

At the end of 2015 and the beginning of 2016, the Commission adopted three negative decisions with recovery with respect to the tax ruling granted by the Netherlands to Starbucks, the tax ruling granted by Luxembourg to Fiat and the Excess Profit Scheme in Belgium.

The Commission is continuing its investigations concerning the tax treatment of Apple by Ireland, and Amazon and McDonald's by Luxembourg.

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Read more: Preliminary findings of the ruling investigation with respect to transfer pricing rulings.

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Other Tax Transparency chapters

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• Transfer pricing: surviving the new tax world
• Transfer Pricing and Customs Valuation
• BEPS 2015 Final Reports
• EU - Overview of the European Parliament's initiatives on taxation
• EU - Anti Tax Avoidance Package
• EU - Public consultation on further corporate tax transparency
• EU - Introducing public country-by-country reporting for multinational enterprises
• Fight­ing ef­fec­tive­ly against tax cheat­ing, de­vi­ous tax avoid­ance and mon­ey laun­der­ing
• OECD - Actions needed to advance global tax transparency
• OECD - Global tax and transparency
• EU - Accounting Directive - CbC reporting / tax transparency
• Draft report on tax rulings and other measures similar in nature or effect for European Parliament
• UK - Public consultation on tax transparency
• UK - Tax administration: large businesses transparency strategy
• UK - HMRC publishes tax strategy guidance
• Australia targets businesses that shift profits offshore
• Examples of public tax transparency statements
• The Tax Transparency Benchmark 2015
• BEPS and indirect tax

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State aid or not - what about 'reputational tax risks'

Reputational risk is a key element in tax risk management as it is it not only considers individual tax risk but also sees how tax risk may influence the positions in other areas, negatively or positively

On June 2014, the European Commission said it had opened three in-depth investigations into tax decisions affecting Apple, Starbucks and Fiat Finance and Trade in Ireland, the Netherlands and Luxembourg respectively.

An U.S. Senate investigation has revealed that Apple, that, "under the agreement Apple has with Ireland", Apple paid a maximum tax rate of 2 percent or less. Apple's annual reports show that over the past three years, Apple paid taxes worth 2 percent of its $74 billion in overseas income.

On his 2008 Presidential campaign trail, Barack Obama made his hostility toward “offshore” jurisdictions very clear:

There’s a building in the Cayman Islands that houses supposedly 12,000 U.S.-based corporations. That’s either the biggest building in the world or the biggest tax scam in the world, and we know which one it is.

European Commission's decision

In the light of the foregoing considerations, the Commission's preliminary view is that the tax ruling of 1990 (effectively agreed in 1991) and of 2007 in favour of the Apple group constitute State aid according to Article 107(1) TFEU [Treaty on the Functioning of the European Union]. The Commission has doubts about the compatibility of such State aid with the internal market. The Commission has therefore decided to initiate the procedure laid down in Article 108(2) TFEU with respect to the measures in question.

According to Article 107(1) of the Treaty on the Functioning of the European Union (TFEU), state aid which affects trade between Member States and distorts, or threatens to distort, competition by favoring certain undertakings, is incompatible with the EU Single Market.

The European Commission considers that advance pricing agreements (APAs) should not have the effect of granting taxpayers lower taxation than other taxpayers in a similar legal and factual situation.

Apple says EU probe of Irish tax policy could be 'material' on April 29, 2015 - Apple Inc (AAPL.O) said the European Commission's investigation into Ireland's tax treatment of multinationals could have a "material" impact if it was determined that Dublin's tax policies represented unfair state aid. 

Apple has warned investors that it could face “material” financial penalties from the European Commission’s investigation into its tax deals with Ireland — the first time it has disclosed the potential consequences of the probe.

Under US securities rules, a material event is usually defined as 5 per cent of a company’s average pre-tax earnings for the past three years. For Apple, which reported the highest quarterly profit ever for a US company in January, that could exceed $2.5bn, according to FT calculations. [Source: ft.com]

The above, raises the question whether besides evaluating tax risks (level of tolerance) also reputational risks of the company - as part of proper tax risk management - should have been considered when such schemes were setup.

In Apple's defense lots of multinationals have been doing the same and I believed myself that change of the tax system - as those structures are often legally allowed - was the only way to close such gaps.

That changed a bit with the European Commission decision that Luxembourg and the Netherlands have granted selective tax advantages to Fiat Finance and Trade and Starbucks, respectively. These are illegal under EU state aid rules: Fiat and Starbucks ruling.

About change and competencies

Effective tax advice by a tax professional should nowadays not only address the ways of how not paying more tax than necessary and evaluate associated tax risks of implementing such tax planning schemes (rate level of tolerance on a risk scale), but should also take in consideration the impact of such planning on the reputation of the company if it becomes public knowledge.

• What is the impact if the tax planning at hand becomes public knowledge?
• What are the consequences if a newspaper or politician picks it up to make statements about lack of 'tax morale' and the company is used as case study?

VAT reputational risks

VAT exposures associated with the wider impact on the company's that arises from a company's actions or errors and have become public knowledge, examples:

• Aggressive VAT planning / VAT non compliance becomes public knowledge
• Due to company's VAT failures vendors are not paid in time that might disrupt the business
• Due to company's VAT failures VAT deduction of clients are disputed and assessed by tax authorities
• Failure to drive the optimum relationship with the (indirect) Tax Authorities

A tax professional should contribute and give guidance to achieve that taxpayers do not pay more tax than necessary. Every opportunity had to be considered. At least that was the job description and actually how you could differentiate yourself among competition to make that happen for example via realizing beneficial tax rulings.

Has that - due to the Starbucks and Fiat ruling - now changed and to what extent?

In the indirect tax field, especially value added tax, similar aggressive tax structures were for a long time often approved by (national) case law. That has changed when the European Court of Justice ruled a couple of years ago (ECJ Halifax: February 21, 2006) that the tax advantage had to be revoked or denied.

The indirect tax profession had to change as well and reposition itself to 'manage the numbers of indirect tax' - focus more on risk management - and because of new trends relationships with tax authorities became more important to realize the taxpayer's tax objectives.

Will tax planning become more about ‘being in compliance’ planning?

The new trend is to have an open dialogue between revenue bodies, taxpayers and tax intermediaries. OECD promotes ‘enhanced relationship’ (OECD report: Study into the Role of Tax Intermediaries). Even if the authorities have not embraced such an approach (yet), a proactive mode and using elements of this way of working might not only safe time and money, result in a good relationship but as well mitigate reputational VAT risks.

Further (new) information

• EU Commission State Aid Starbucks Decision – low adjustment is a wash out
• A Mysterious Study in the Code of Conduct Report 1999 and a Rumoured French Connection
• Tax advantages for Fiat and Starbucks are illegal under EU state aid rules
• Starbucks and Fiat Chrysler’s tax avoidance deals to be ruled illegal |The Guardian
• Anticipate, prepare for and lead change
• Tax rulings and other measures similar in nature or effect
• BEPS 2015 Final Reports
• BEPS and Indirect Tax

Tax advantages for Fiat and Starbucks are illegal under EU state aid rules

The European Commission has decided that Luxembourg and the Netherlands have granted selective tax advantages to Fiat Finance and Trade and Starbucks, respectively. These are illegal under EU state aid rules.

Commissioner Margrethe Vestager, in charge of competition policy, stated:

"Tax rulings that artificially reduce a company's tax burden are not in line with EU state aid rules. They are illegal. I hope that, with today's decisions, this message will be heard by Member State governments and companies alike. All companies, big or small, multinational or not, should pay their fair share of tax."

Following in-depth investigations, which were launched in June 2014, the Commission has concluded that Luxembourg has granted selective tax advantages to Fiat's financing company and the Netherlands to Starbucks' coffee roasting company. In each case, a tax ruling issued by the respective national tax authority artificially lowered the tax paid by the company.

Tax rulings as such are perfectly legal. They are comfort letters issued by tax authorities to give a company clarity on how its corporate tax will be calculated or on the use of special tax provisions. However, the two tax rulings under investigation endorsed artificial and complex methods to establish taxable profits for the companies. They do not reflect economic reality. This is done, in particular, by setting prices for goods and services sold between companies of the Fiat and Starbucks groups (so-called "transfer prices") that do not correspond to market conditions. As a result, most of the profits of Starbucks' coffee roasting company are shifted abroad, where they are also not taxed, and Fiat's financing company only paid taxes on underestimated profits.

This is illegal under EU state aid rules: Tax rulings cannot use methodologies, no matter how complex, to establish transfer prices with no economic justification and which unduly shift profits to reduce the taxes paid by the company. It would give that company an unfair competitive advantage over other companies (typically SMEs) that are taxed on their actual profits because they pay market prices for the goods and services they use.

Therefore, the Commission has ordered Luxembourg and the Netherlands to recover the unpaid tax from Fiat and Starbucks, respectively, in order to remove the unfair competitive advantage they have enjoyed and to restore equal treatment with other companies in similar situations. The amounts to recover are €20 - €30 million for each company. It also means that the companies can no longer continue to benefit from the advantageous tax treatment granted by these tax rulings. 

Furthermore, the Commission continues to pursue its inquiry into tax rulings practices in all EU Member States.

It cannot prejudge the opening of additional formal investigations into tax rulings if it has indications that EU state aid rules are not being complied with. Its existing formal investigations into tax rulings in Belgium, Ireland and Luxembourg are ongoing. Each of the cases is assessed on its merits and today's decisions do not prejudge the outcome of the Commission's ongoing probes.

Fiat

Fiat Finance and Trade, based in Luxembourg, provides financial services, such as intra-group loans, to other Fiat group car companies. It engages in many different transactions with Fiat group companies in Europe.

The Commission's investigation showed that a tax ruling issued by the Luxembourg authorities in 2012 gave a selective advantage to Fiat Finance and Trade, which has unduly reduced its tax burden since 2012 by €20 - €30 million.

Given that Fiat Finance and Trade's activities are comparable to those of a bank, the taxable profits for Fiat Finance and Trade can be determined in a similar way as for a bank, as a calculation of return on capital deployed by the company for its financing activities. However, the tax ruling endorses an artificial and extremely complex methodology that is not appropriate for the calculation of taxable profits reflecting market conditions. In particular, it artificially lowers taxes paid by Fiat Finance and Trade in two ways:

• Due to a number of economically unjustifiable assumptions and down-ward adjustments, the capital base approximated by the tax ruling is much lower than the company's actual capital.
• The estimated remuneration applied to this already much lower capital for tax purposes is also much lower compared to market rates.

As a result, Fiat Finance and Trade has only paid taxes on a small portion of its actual accounting capital at a very low remuneration. As a matter of principle, if the taxable profits are calculated based on capital, the level of capitalisation in the company has to be adequate compared to financial industry standards. Additionally, the remuneration applied has to correspond to market conditions. The Commission's assessment showed that in the case of Fiat Finance and Trade, if the estimations of capital and remuneration applied had corresponded to market conditions, the taxable profits declared in Luxembourg would have been 20 times higher.

Starbucks

Starbucks Manufacturing EMEA BV ("Starbucks Manufacturing"), based in the Netherlands, is the only coffee roasting company in the Starbucks group in Europe. It sells and distributes roasted coffee and coffee-related products (e.g. cups, packaged food, pastries) to Starbucks outlets in Europe, the Middle East and Africa.

The Commission's investigation showed that a tax ruling issued by the Dutch authorities in 2008 gave a selective advantage to Starbucks Manufacturing, which has unduly reduced Starbucks Manufacturing's tax burden since 2008 by €20 - €30 million. In particular, the ruling artificially lowered taxes paid by Starbucks Manufacturing in two ways:

• Starbucks Manufacturing pays a very substantial royalty to Alki (a UK-based company in the Starbucks group) for coffee-roasting know-how.
• It also pays an inflated price for green coffee beans to Switzerland-based Starbucks Coffee Trading SARL.

The Commission's investigation established that the royalty paid by Starbucks Manufacturing to Alki cannot be justified as it does not adequately reflect market value. In fact, only Starbucks Manufacturing is required to pay for using this know-how – no other Starbucks group company nor independent roasters to which roasting is outsourced are required to pay a royalty for using the same know-how in essentially the same situation. In the case of Starbucks Manufacturing, however, the existence and level of the royalty means that a large part of its taxable profits are unduly shifted to Alki, which is neither liable to pay corporate tax in the UK, nor in the Netherlands. 

Furthermore, the investigation revealed that Starbucks Manufacturing's tax base is also unduly reduced by the highly inflated price it pays for green coffee beans to a Swiss company, Starbucks Coffee Trading SARL. In fact, the margin on the beans has more than tripled since 2011. Due to this high key cost factor in coffee roasting,

Starbucks Manufacturing's coffee roasting activities alone would not actually generate sufficient profits to pay the royalty for coffee-roasting know-how to Alki. The royalty therefore mainly shifts to Alki profits generated from sales of other products sold to the Starbucks outlets, such as tea, pastries and cups, which represent most of the turnover of Starbucks Manufacturing. European Commission - Press release - Commission decides selective tax advantages for Fiat in Luxembourg and Starbucks in the Netherlands are illegal under EU state aid rules

Further information

• Could I Please Get a Fiat for the Price of my Frappuccino? 
• The changing tax world and taxpayer's impact
• Tax rulings and other measures similar in nature or effect
• Anticiperen op onze 'nieuwe' belastingwereld
• BEPS 2015 Final Reports
• UK - Improving large business compliance
• Developing a common framework for disclosing tax information
• Reputational risks

Bloomberg Business: Starbucks, Fiat Decisions Seen in First Wave of EU Tax Cases

Starbucks Corp. and a Fiat Chrysler Automobiles NV unit are set to be first in the firing line as European Union regulators issue a series of rulings over tax breaks for global companies, including Apple Inc.

The EU may issue decisions against Starbucks and Fiat as soon as next week following a two-year probe into how the companies may have gotten unfair tax treatment from Dutch and Luxembourgish authorities, people familiar with the cases said.

Speculation about the probes intensified this week as Margrethe Vestager, the EU’s competition chief, canceled a scheduled visit to China, citing pressing matters relating to her job. Decisions on whether iPhone maker Apple and Amazon.com Inc. got sweetheart tax deals from Ireland and Luxembourg are expected at a later date, said the people who asked not to be identified because the decision isn’t public.

Apple’s tax strategies were thrown in the spotlight in 2013 when U.S. Senate scrutiny showed that a unit incorporated in Ireland and controlled by a board in California didn’t pay taxes in either location despite having recorded $30 billion in profit since 2009.

The revelations set in motion the EU competition regulator, which opened probes into the iPhone maker, Starbucks’ relationship with the Netherlands, and Amazon.com Inc. and Fiat deals in Luxembourg within months.

Luxleaks

While the EU focused on those four companies, the widespread nature of corporate tax avoidance in Luxembourg was highlighted in late 2014 when thousands of pages of secret fiscal deals the tiny nation struck with companies from around the world, including PepsiCo Inc. and Walt Disney Co., were leaked by an international consortium of journalists.

Seattle-based Starbucks said in a statement that it complies with all relevant tax laws around the globe and pays an “effective tax rate of around 33 percent.” The company said it is cooperating with the EU probe.

Officials from Luxembourg, the Netherlands and the EU declined to immediately comment. Fiat declined to comment beyond previous statements.

The Wall Street Journal reported earlier today that the EU would issue rulings saying the tax deals were improper. Apple raised a flag in April about the potential cost if the company is required to pay past taxes to Ireland as part of the European Commission investigation.

 While Apple hasn’t been able to estimate the amount, it could be “material,” the Cupertino, California-based technology company said in a filing with the U.S. Securities and Exchange Commission.

Back Taxes

Any ruling from the EU is unlikely to resolve how much money national governments have to claw back from the companies. Commission officials have previously said the initial decisions will merely contain a formula for national officials to calculate how much back taxes are owed.

While Vestager has promised to move quickly to complete the investigations, she has vowed not to sacrifice quality for speed, as the regulator seeks to build legally sound cases that can fend off legal challenges.

Ireland’s Finance Minister Michael Noonan has vowed to go to court to fight any negative ruling in the Apple case. Whatever happens, “we don’t think it will be damaging,”

Noonan told reporters earlier this month. “If it’s adverse, we think it’s based on very thin legal grounds and we’ll have it before the European Court of Justice.”

In the Starbucks case, the commission said last year that a Dutch unit paid millions of euros to a U.K.-based arm of the company that isn’t taxed in Britain in exchange for a technique to roast coffee beans.

Exaggerated tax-deductible royalty payments for this technique may have allowed Starbucks to unfairly lower its Dutch taxes, the commission said.

In the Fiat case, the commission raised doubts over Luxembourg’s arrangement with Fiat Finance & Trade SA. Fiat said last year it didn’t request a ruling to obtain a tax exemption from Luxembourg and was surprised by the probe. Starbucks, Fiat Decisions Seen in First Wave of EU Tax Cases - Bloomberg Business

Further information

• The changing tax world and taxpayer's impact
• Tax rulings and other measures similar in nature or effect
• Anticiperen op onze 'nieuwe' belastingwereld
• BEPS 2015 Final Reports
• UK - Improving large business compliance
• Developing a common framework for disclosing tax information
• Reputational risks

Tax rulings and other measures similar in nature or effect

On 16.11.15 TAXE Committee will hold an extraordinary committee meeting with various multinational corporations - who have declined previous invitations - to hear their views on recent developments in the corporate taxation in the EU and beyond.

These include, among others, the OECD proposal on the Base Erosion and Profit Shifting (BEPS) Action Plan to the G20 and the ongoing Commission consultation on Common Consolidated Corporate Tax Base (CCCTB).

The Plenary vote is scheduled at Nov II session.

• Multinational corporations invited to appear in TAXE special committee meetings

Committee vote on TAXE report - 26.10.2015

Voting session

The committee vote on TAXE report will take place on 26.10.15 in Strasbourg. 1047 amendments were tabled to the draft TAXE report by co-rapporteurs Ms Ferreira (S&D) and Mr Theurer (ALDE) which cover inter alia recommendations on enhanced cooperation and coordination by Member States on tax issues, including tax rulings, a compulsory CCCTB, state aids rules, transparency, country-by-country reporting, tax advisers, protection of whistle blowers and the third country dimensions.

• Draft report and amendments

The next meeting of TAXE committee will take place on Monday, 26 October in Strasbourg, from 19.00 to 22.30 in meeting room Winston Churchill (WIC) 200. The vote on the committee's report is scheduled to take place during this meeting which will be webstreamed.

 

• TAXE committee - calendar of meetings
• Publications: press releases, presentations, speeches
• TAXE Commitee - Top story on Europarl News

Mandatory exchange of tax rulings proposal: a "missed opportunity” say MEPs

The EU Commission proposal to make it mandatory for EU member states to exchange information on their tax rulings received only a lukewarm welcome in Parliament’s Economic and Monetary Affairs Committee on Tuesday. However, the report by Markus Ferber (EPP, DE), voicing dismay at the directive’s limited scope and late entry into force, has already been overtaken by last week's ECOFIN Council deal, which watered down the Commission proposal even further. 

The report was approved by 49 votes in favour, 0 against and 6 abstentions.

  "Disappointed"

 Parliament’s rapporteur Markus Ferber is disappointed about the Council agreement:

"If this is the final text, member states will have missed a great opportunity to create more transparency in taxation. National budgets will continue to suffer.

We need an EU-wide systematic and mandatory procedure. For the moment, member states' tax authorities would not realise that tax ruling deals forged in other member states are undermining their own tax bases.

Tax authorities should be obliged to exchange information on tax rulings and make them available to a central database at the European Commission. There is also a competition side to tax rulings. This is why the Commission must be empowered to access and use the data to investigate tax avoidance and dumping practices and to assess whether they are in line with state-aid rules. 

Why are member states clearly denying the Commission access to these data? Are they hiding something?"

What MEPs want, compared to what the Council agreed

Limited scope

MEPs would prefer the directive to apply to all tax rulings, not just "cross border rulings and advance pricing arrangements", given that purely national transactions can also have cross-border effects. The Council made the directive’s scope "cross-border only".

Commission not in the loop

The Council also ensured that the European Commission is explicitly not allowed to do anything with the information - to which the Commission only has very limited access - other than overseeing that it conforms to the directive, and that the directive is properly applied.

 No retroactive effect

The Commission says that the mandatory exchange mechanism should apply to tax rulings issued in the ten years before it enters into force, whereas MEPs say it should apply to all rulings that are still valid on the day the directive enters into force. The Council agreed that the directive would apply only to rulings, amendments or renewals of rulings after 31 December 2016.

 Start sooner

MEPS want the automatic exchange of information to start as soon as possible, whereas the Commission proposes that it should start on 1 January 2016. The Council agreed on 1 January 2017.

Exchange faster

MEPs insist that the information should be communicated "promptly after the ruling or price arrangement is issued" rather than "within one month following the end of the quarter during which the ruling was issued" as the Commission proposes. The Council deal says that the information should be provided "within three months following the end of the half of the calendar year during which the ruling was issued". This means that if a ruling is issued in January, the mandatory exchange of information can take place until 30 September.

Next steps

The procedure for amending this Council directive is consultation. The Council struck its informal deal on the Commission proposal at the 6 October meeting of Economy and Finance (ECOFIN) ministers.

The directive is to be adopted at a forthcoming Council meeting, once the European Parliament has given its opinion and it has been finalised in all official languages. The new rules are to apply from 1 January 2017. Until then, existing obligations to exchange information among member states will stay in place.

Source: Mandatory exchange of tax rulings proposal: a "missed opportunity” say MEPs