THE STATE OF THE EUROPEAN UNION

THE STATE OF THE EUROPEAN UNION

as all 42 OECD member states must agree to

adopt these recommendations, it may only be

possible to reach a minimum consensus on cer-

tain key points. How this plan designed to ef-

fectuate an ambitious reform of corporate taxa-

tion in OECD counties unfolds over the next few

months will be of crucial interest. One worrying

signal regarding the eventual outcome of pro-

ject has been the exclusion of a number of very

important issues that have been postponed for

future consideration.

The United Kingdom, which has decided not

to wait for the OECD Plan to be put into action,

will soon introduce a “diverted profits tax”. This

new tax will be applicable only to profits gener-

ated in the UK that a company has attempted to

artificially shift to more “convenient” jurisdic-

tions. Its purpose is to counteract contrived tax

arrangements that result in the erosion of the UK

tax base. With a rate of 25% (5% higher than

the country’s normal statutory corporate tax rate

of 20%), what has come to be popularly known

as the “Google tax” clearly seeks to penalize

companies caught diverting profits generated by

business activity carried out on UK territory.

Other countries such as Australia are consid-

ering the possibility of adopting similar meas-

ures in the near future. US President Obama has

also recently called for the imposition of a 19%

tax of foreign corporate earnings.

Although unilateral action is by no means

the best way to deal with the current problem,

Two important issues that have been deferred are the al-

location of taxing rights between countries and the ques-

tion as to whether the arms length principle should serve

as the only method for controlling the transfer pricing of

intangibles.

Deferred issues include the possibility of questioning of the

free market principle for the purposes of controlling trans-

fer mispricing of intangible goods as well as the grounds

for determining tax jurisdictions (residence versus source

principle).

it may eventually be justified if the BEPS Plan

finally adopted lacks sufficient muscle.

Main types of tax avoidance and corporate

tax schemes

International transactions offer companies

many opportunities to avoid paying taxes.

Multinational companies can lower their tax

bills by reorganising intra-group operations (rev-

enue, expenses, dividends, interest payments

on loans, royalty payments) between the parent

company and its subsidiaries and/or between

subsidiaries.

Tax avoidance practices exploit the gaps and

frictions between national tax systems. For ex-

ample, a budget item treated in one tax jurisdic-

tion as a loan may be regarded in another as

equity, with the varying effects on taxes that

these legal definitions imply. Under the tax re-

gimes of many countries such as Spain, third-

party financing offers more tax advantages than

own financing. However, beyond encouraging

excessively high levels of private debt, such pol-

icies also open multiple windows of opportunity

for tax avoidance in that they constitute an in-

centive for multinational corporations to artifi-

cially increase the indebtedness of subsidiaries

located in high tax-rate countries by means of

intra-group loans and later declare the inflated

interest payments they receive on these loans as

deductible expenses. Whereas their subsidiaries

in high tax-rate countries devote a significant

portion of their financial resources to interest

payments made back to the parent company,

the parent companies declare income received

in the form of interest payments on intragroup

loans in countries with lower or zero corporate

tax rates. Such mechanisms help multinationals

to substantially lower their overall tax burdens.