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By Joe Kirwin
Oct. 5 — The European Union and two European countries are pushing for measures to prevent multinational companies from using “conduit entities” to transfer royalty and dividend income payments outside the EU without being taxed.
Based on confidential documents obtained by Bloomberg BNA, the European Commission, Germany and Denmark have all presented data indicating that the lack of an EU harmonized approach for the taxation of royalty and dividend payments allows profit shifting by parent and associate companies.
Current tax rules typically permit royalties and dividends to move from high-tax EU-member countries to low-tax EU states. Those profits are then shifted to non-EU countries.
To emphasize its concerns, Denmark presented a study citing examples of how a “large” accounting firm has helped unnamed U.S. multinational companies dramatically reduce or eliminate their Danish tax bill via profit shifting of dividend payments using intra-group loans and interest.
A confidential document being considered by the EU's Code of Conduct Group states that the “current uncoordinated interaction of the member states' national policies, as regards the taxation of outbound profit distributions, seemed to act to the detriment of their tax bases that could potentially result in minimized enterprises' withholding tax liabilities, disturbed ‘treaty balance’ of member states double tax conventions and affected location of business entities.”
According to the document, “This appeared to be particularly problematic in the case of distributions to no- or low-tax third country jurisdictions, but could also have negative effects in relation to the most important trading partners.”
Based on data compiled in recent years, the European Commission informed EU member states in September at the Code of Conduct Group for Business Taxation that royalty payments to entities in non-EU countries from some member states are “indisputably higher than those of others when viewed as a percentage of gross domestic product,” and this supports the view of countries led by Germany and Denmark that profit shifting is occurring to avoid taxation.
Data outlined by the Commission indicated Ireland, Luxembourg, Netherlands and Malta, respectively, were the leading EU countries in 2014 from which outbound royalty payments were transferred. The Commission's data also outlined that those four countries don't have withholding taxes on outbound royalty payments.
Malta is the only EU member country with a zero tax rate on outbound dividend payments, whereas the Netherlands and Luxembourg have a 15 percent rate and Ireland has a 20 percent rate, according to the European Commission.
The EU executive body emphasized that exit taxation provisions of the recently approved EU Anti-Tax Avoidance Directive (ATAD) won't stop the problem of untaxed outbound royalty and dividend payments.
“The exit tax provision in ATAD concerns situations where assets are transferred within one and the same company, such as from the head office in one country to a subsidiary in another country, and there is a loss of taxing rights in the originating country on the accrued gains,” a commission official told Bloomberg BNA Oct. 4 on the condition of anonymity.
This provision doesn't cover payments between associated companies such as those in which the parent company holds a minority share.
Germany has submitted a paper to the EU Code of Conduct Group outlining its concerns over untaxed outbound royalty payments, and insisting patent box tax plans in 12 EU member countries have “amplified” the problem.
“On the basis of the Interest and Royalty Directive, profits can be shifted within the EU by means of royalty payments without withholding taxes to another member state with lower tax rates,” the German delegation said in its submission. “This effect is amplified by existing patent boxes which lead to a taxation at a very low level.”
To rectify the problem, Germany has proposed:
“Our preferred approach would be a revision to the Interest and Royalty Directive,” Hardy Boeckle, a spokesman for the German representation to the EU, told Bloomberg BNA Oct. 5.
“A minimum withholding tax rate would be required. Other measures, such as legislation to coordinate withholding tax policies, would work, but to try and get that approved would be very difficult.”
The Danish study presented to the Code of Conduct Group explains three cases where U.S. multinational companies use tax and accounting rules in the U.S., Sweden and Denmark to avoid withholding taxes on either interest or dividend payments.
One such matter—titled “The U.S.-Group Inc. case/Global tax planning,” which also involves moving money through the Cayman Islands, utilized the U.S. check-the-box regime, controlled foreign company laws and 2005 dividend repatriation rules, as well as specific laws in Sweden and Denmark, to avoid taxation.
According to the Danish study, a copy of which was obtained by Bloomberg BNA, the setup “uses the Nordic tax treaty and the EU Interests and Royalties Directive concerning interest as protection against the Danish tax withholding regime.”
It added that “by means of intra-group loans and interest, the American group achieved a tax deduction in Denmark to the sum of 200 million euro for the fiscal years 2005-07.
“Through careful tax planning, the Danish tax saving was carried out without real corresponding taxation of any associated enterprise receiving the amounts,” the Danish study said. “That is to say a total tax saving in Denmark for the multinational group to the sum of 25 percent” on the Danish corporate tax rate of 200 million euro ($224 million).
EU member country officials are due to reconvene Oct. 19 to determine whether revisions to the EU Interest and Royalty Directive should be considered, or whether other measures would be appropriate.
“It remains to be seen if all member states are in favor of adopting specific measures to deal with the issue of outbound taxation of royalties and dividends,” Boeckle said.
Some EU member nations say the best approach would be an anti-abuse provision in the Interest and Royalties Directive similar to what was added to the recently modified EU Parent-Subsidiary Directive.
“The EU Parent-Subsidiary Directive now contains a general anti-abuse clause and there are a number of member states that believe a similar clause should be added to the Interest and Royalties Directive in order to address the issue of taxation of outbound payments,” an EU diplomat working on the issue told Bloomberg BNA Oct. 3 on condition of anonymity.
A spokesman for the Irish Finance Ministry, David Byrne, told Bloomberg BNA Oct. 4 that Ireland will “continue to engage constructively in the discussions, but we have no specific comment to make at this time.”
Officials from Luxembourg, Malta and the Netherlands didn't respond to requests for comment.
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