multinational tax practices face growing scrutiny · these could spring to the fore if, for...

Multinational tax practices face growing scrutiny

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Introduction 03

General trends 04

– Tax exposure and tax reputation 05

– OECD’s Action plan on

base erosion and profit shifting 08

France 14

– A politic will to fight against tax avoidance 15

Germany 18

– BEPS measures in Germany 19

Italy 22

– BEPS measures in Italy 23

– Hot Topics in Italy 26

Netherlands 28

– BEPS measures in Netherlands 29

Spain 32

– BEPS measures in Spain 33

Multinational tax practices face growing scrutiny2

© Allen & Overy LLP 2014

Introduction

Over the last few decades, the globalisation of labour, capital and know-how combined with the growing relevance of intangibles and the digital economy has created new business models and opportunities. However, it has also brought about new challenges for domestic and conventional tax laws.

Governments are now paying more attention to the cross-border tax affairs of companies and to M&A transactions. In doing so they are basically trying to protect their tax revenues, which in many cases have been badly hit by the financial crisis.

The focus on corporate taxation has also been amplified by growing public and media scrutiny. News of multinationals coming under major tax investigations often make the headlines these days.

As such governments are now clamping down on aggressive tax avoidance schemes with more vigour. At the same time, countries are increasingly exchanging information among each other and coordinating their actions to challenge companies looking to pay minimal taxes. As shown in the first contribution to this brochure, taxation not only impacts net profits, but also has a greater impact on the overall business.

Having a reputation as a ‘good’ tax payer is steadily becoming a more valuable asset for multinational enterprises. Indeed, the issue has worked its way into boardrooms and is no longer just the province of tax accountants. This brochure, prepared by members of our Global Tax practice, provides an overview of these trends and looks at the potential impact on business across several countries. It is designed to provide food for thought for tax professionals. But it’s also for directors, who increasingly have to factor in wider tax issues, such as the reputational aspects when making strategic decisions.

In particular, this brochure highlights the OECD’s report of 12 February 2013 addressing what is known as Base Erosion and Profit Shifting (BEPS) – an international initiative to reduce tax avoidance. Contributors from France, Germany, Italy, the Netherlands and Spain show that governments now routinely challenge tax avoidance and aggressive tax planning. They also demonstrate that surviving in this environment of greater tax scrutiny requires concerted action in areas such as risk management and when conducting cross-border business.

Your usual Allen & Overy contact and our local tax experts would be more than happy to assist you with any queries you may have and elaborate on the topic in view of your particular needs.

Contact details may be found in this brochure.

Francesco GuelfiHead of Tax MilanTel +39 02 2904 9659 [email protected]

Gottfried BreuningerPartner – Global Head of Tax Munich Tel +49 89 71043 3302 [email protected]

ContACts

“Governments now routinely challenge tax avoidance and aggressive tax planning.”

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General trends

“A major tax investigation can result in criminal proceedings being brought against top management and/o r business owners.”

“Transparency and the content of agreements need to be addressed with a view that the potential tax consequences may vary in the future due to changes in the law, or its interpretation.”



Tax exposure and tax reputationTaxation has ceased to be a purely academic or technical interest having decisively moved into the public consciousness.

Soaring budget deficits combined with falling tax revenues have spurred governments to fight tax avoidance more aggressively and to counter practices, which shift taxable revenues to low-tax jurisdictions.

A number of multinationals were severely criticised in the UK for diverting taxable profits to low-tax jurisdictions, such as the Netherlands and Luxembourg. They found themselves hauled before the UK Parliament’s Public Accounts Committee to account for their tax practices under the full glare of the media spot light.

The issue of tax avoidance is hardly isolated to the UK. Multinationals have found themselves subject to high-profile tax investigations in other European countries. Back in 2012, a number of multinationals were examined by the Italian and French tax authorities. Then in 2013 tax investigations were launched against them. In Italy, some fashion groups faced harsh scrutiny and treatment from the tax authorities.

At an international level, efforts to counter cross-border corporate tax avoidance by multinationals have been pursued by the European Commission and the Organisation for Economic Co-Operation and Development (OECD). Last year the OECD released the BEPS Action Plan. Earlier this year the first discussion papers emerged looking at some of the measures covered in the Action Plan. National measures are also expected to follow. These trends represent an urgent call for corporates to be more transparent in their tax affairs.

Politicians are not just responding to the need to reduce budget deficits. They’re acutely aware, as is the media, that the general public has been forced to stomach significant sacrifices due to the effects of the financial crisis and the subsequent bailouts of struggling financial institutions. There is a common perception that the financial difficulties suffered by governments have been made worse by these bailouts, where costs have been picked up by taxpayers. This has made the whole issue of fighting tax avoidance and reforming the tax system far more emotive and has in a sense turned it into a moral crusade.

It is hardly surprising that the issue of taxation has made its way into the boardroom. It’s not just the business that is at stake. A major tax investigation can result in criminal proceedings being brought against top management and/or business owners. And being ‘based’ in cyberspace is hardly a protection these days. The Spanish authorities, for example, have taken as much interest in the tax affairs of Internet-focused multinationals as they have in those with a more ‘physical’ presence.

There’s a growing realisation in boardrooms that the repercussions of a tax investigation can significantly damage a corporate’s reputation, its revenues and the value of its brand. How hard a major tax investigation hits a company very much depends on which countries it operates in as well as its market. If it’s a retail business with a high public profile any resulting consumer backlash can be very painful.

However, public reactions to a tax investigation can vary. One multinational coffee chain managed to escape a widespread customer revolt, while on the other hand a famous fashion brand in Italy saw its flagship store temporarily closed while it was subject to intense media and political scrutiny and public disapproval. As such, taxation is no longer just an accounting matter, but one that carries major reputational risks.

Reputational and strategic considerations are now an increasingly important part of tax planning. The main areas of consideration are M&A transactions involving cross-border acquisitions, financing, transferring or exploiting intangibles, R&D programmes, reshaping business models, and transfer pricing policy.

Making sure the tax angle is properly managed requires a new approach to organising the businesses’ functions and handling the tax authorities. Tax risk management is already a reality in the financial sector. Financial supervisors in a number of countries require regulated financial institutions to include tax risk within the scope of their risk management procedures. This will very likely become more common for non-financial firms as well.

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Boards will increasingly be expected to effectively manage tax and the related reputational risks by insuring an appropriate level of interaction between the finance department and other business functions. Those who handle taxes within the finance department should no longer be considered as just a back office function.

Part of the risk management process requires implementing internal procedures, which could be difficult depending on the organisation’s complexity, its tax situation and the countries it operates in. These procedures should facilitate information flows within the organisation and with outside stakeholders, such as tax authorities and the media. This is to keep the board informed of all tax sensitive information that may influence their decisions. It also protects directors from potential tax liabilities.

Risk management should account for a possible media reaction to a potential tax claim, which could centre around specific transactions, portrayed as ‘immoral.’ Being best prepared for such an event requires a full understanding of the business, together with an exhaustive outline of the tax issues surrounding these transactions. This requires close cooperation with the finance department.

But that’s not all. The OECD proposals on BEPS and public discussions on the topic highlight the growing need for transparency and disclosure when it comes to dealing with taxation and tax authorities.

For multinationals this is especially important. The overall resilience of their tax planning may be tested more readily thanks to more efficient and frequent information exchanges between national tax authorities, which are made easier by new technology.

Attention must also be paid to the way past transactions were structured along with the tax guidelines that were used. These could spring to the fore if, for example, a multinational decided to amend its transfer pricing policies or disclose financing structures aimed at replacing more aggressive schemes they used in the past. Transparency and the content of agreements need to be addressed with a view that the potential tax consequences may vary in the future due to changes in the law, or its interpretation.

To sum up, the economic changes since the financial crisis and the growing attention paid by governments, the public and the media to the tax practices of multinationals is a huge reversal of previous trends.

This has seen taxation escalate in importance for various governments, while the ability and growing willingness of national tax authorities to collaborate with each other places a strong onus on multinationals adopting a policy of transparency and disclosure. This widens the scope for risk management, which must encompass not only potential claims by tax authorities, but also the reputational aspects their actions may entail.

This calls for multinationals to organise their tax affairs carefully. This can be done by setting up systems to support efficient information flows and decision-making processes relating to tax. It also requires an appropriate level of interaction between the board and the company’s tax function so they can properly evaluate potential risks when making decisions.



Lydia ChallenPartner – Tax LondonTel +44 20 3088 2753 [email protected]


For more information please contact:

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At the meeting held in Moscow on 20 July 2013, the G20 finance ministers unanimously approved the Action Plan on Base Erosion and Profit Shifting (the BEPS Action Plan) released the day before by the Organisation for Economic Co-operation and Development (the OECD).

The BEPS Action Plan contains 15 actions to be taken by governments to develop measures to counter corporate income tax avoidance in cross-border activities by multinational enterprises, each of which is linked to certain outputs that are expected to be completed in 2014 and 2015. Discussion papers on some of these actions were issued earlier in 2014.

OECD’s action plan on base erosion and profit shiftingBACkGrOunD

The BEPS Action Plan – which follows the OECD’s report Addressing Base Erosion and Profit Shifting of 12 February 2013 – was commissioned by the G20. Globalisation of labour, capital and know-how, with the increasing relevance of intangibles and the digital economy – and the resulting reallocation of business functions – have raised new challenges for domestic and conventional tax laws. In these areas, indeed, domestic measures no longer seem to be effective if they are not reinforced by shared tax rules and proper international coordination. The BEPS Action Plan caters for a roadmap for these measures.

Needless to say, beyond the public plans of governments to protect their revenues in a world where the link between taxable profit and country of source seems to be more and more volatile, this roadmap responds to growing political pressure on equity of taxation and transparency. This envisages coordination between governments and a new pactum between governments and taxpayers, which opens new scenarios in several countries in terms of the relationships between taxpayers and the tax authorities.

OvERvIEw OF THE BEPS ACTION PLAN

The BEPS Action Plan recognises that it is necessary to develop new measures to prevent double non-taxation and cases of no or low taxation associated with practices that artificially segregate taxable income from the activities that generate such income. To this end, international cohesion of corporate income tax systems must be achieved, especially where double non-taxation (or no taxation) results from interaction between more than two countries. In this respect, transfer pricing represents a critical area.

Further, the OECD emphasises that transparency as well as certainty and predictability for business are key points in successfully countering BEPS. Both are sought by the BEPS Action Plan. On the one hand, transparency allows tax administrations to gather information on aggressive tax planning at an early stage, while certainty and predictability are necessary for businesses to make investment decisions.

The proposed actions, time-frames and a few thoughts on each action are briefly summarised below.

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ADDRESS THE CHALLENGES OF THE DIGITAL ECONOMY

The first action is to “Identify the main difficulties that the digital economy poses for the application of existing international tax rules and develop detailed options to address these difficulties…considering both direct and indirect taxation”.

In particular, the BEPS Action Plan calls for an examination of: (i) the potential for a digital presence in a country without the creation of a taxable nexus; (ii) the attribution of value created from the generation of marketable location-relevant data through the use of digital products; (iii) the characterisation and sourcing of income deriving from new business models; and (iv) effective collection of vAT/GST in the case of the cross-border delivery of products.

It has been observed that there is far from international consensus in this area. The proposal for “virtual PE” in the digital economy in February 2013 has been hotly debated. Now, the report identifying issues – ranging from identifying a nexus that allows a country to levy taxes on digital activities up to the allocation of value to different phases of the digital process – is a way to restart discussions in this area.

A discussion draft on this matter was released in March 2014, while the comments received were published on 16 April 2014.

The most critical area is the development of a new, alternative type of permanent establishment based on a “significant digital presence” as this would represent a significant departure from traditional principles of taxation. Foreshadowed withholding obligations for financial institutions in relation to payments made to foreign e-commerce providers represent a further critical area, considering that this would cause significant administrative burdens for the financial institutions involved. Introduction of a consumption tax is also an important area of attention: cross-border “business to customer transactions” (particularly if they qualify as a supply of services) may distort competition in the local market if there is no mechanism to ensure tax charges in the market of consumption.

NEUTRALISE THE EFFECTS OF HYBRID MISMATCH ARRANGEMENTS

Action 2 suggests the development of model treaty provisions and recommendations regarding the design of domestic rules to neutralise the effect (e.g. double non-taxation, double deduction, long-term deferral) of hybrid instruments and entities.


The discussion draft describes what a hybrid mismatch arrangement is, for the purposes of this action, focusing on:

(a) hybrid financial instruments: where the deductible payment made under a financial instrument is not treated as taxable income under the laws of the payee’s jurisdiction;

(b) hybrid entity payments: where there is a difference in the characterisation of the hybrid payer which entails that a deductible payment is disregarded (or triggers a second deduction) in the other jurisdiction; and

(c) reverse hybrid and imported mismatches, where payments are made to an intermediary payee and are not taxable on receipt.

From a domestic viewpoint possible measures might include, inter alia, provisions aiming to prevent exemption or non-recognition for payments that are deductible by the payer, on the one hand, and/or deny deduction for a payment that is not includible in income by the recipient or is also deductible in another jurisdiction, on the other.

It is worth noting that this action will require a certain degree of cooperation between countries given that the tax treatment of an item in a country would hinge on the tax treatment of the same (or mirroring) items in another country of which the tax rules will therefore be important to determine the taxable base in the former country. Exchange of information between countries will also be important here.

From a conventional viewpoint, changes to the OECD Model Tax Convention are envisaged to avoid undue benefits for hybrid instruments. Finally, attention is paid to the interaction between possible changes to domestic rules and the provisions of the OECD Model Tax Convention. Interaction of domestic controlled foreign company rules (CFC) is also a key point.

This proposal seems to be in line with the recent recommendations of the European Commission of 6 December 2012 (EC Action Plan) (recommendation on aggressive tax planning as part of its own action plan to fight tax fraud, evasion and aggressive tax planning) which, among other things, encouraged the EU member states to include a provision in their double taxation conventions that prevents taxpayers from using the conventions to avoid taxation of items in one contracting state that are not subject to tax in the other contracting state.

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STRENGTHEN CFC RULES

This action entails the development of recommendations regarding the design of domestic CFC rules.

These recommendations are expected by September 2015.

The OECD recognises that CFC rules, which substantially lead to the attraction of taxable income in the resident country of the ultimate shareholder, also have a positive effect in source countries, as taxpayers no longer have any incentive to shift profits into a third low-tax jurisdiction.

In the last few years CFC rules have often been addressed by domestic legislation in Europe. There is, however, still scope to improve measures to counter BEPS in a more comprehensive manner.

LIMIT BASE EROSION vIA InTErEST DEDuCTIOnS AnD OTHER FINANCIAL PAYMENTS

Action 4 envisages that recommendations are developed regarding “best practices in the design of rules to prevent base erosion through the use of interest expense”.

In this respect, the OECD recalls the use of related-party and third-party debt to achieve excessive interest deductions or to finance the production of exempt or deferred income, and other financial payments that are economically equivalent to interest payments. Transfer pricing guidelines for financial transactions will also be paramount here and should include, among others, financial and performance guarantees, derivatives (including internal derivatives used in intra-bank dealings) and captive and other insurance arrangements.

Recommendations regarding the design of domestic rules are expected by September 2015, while changes to the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations (the Transfer Pricing Guidelines) are expected by December 2015.

COUNTER HARMFUL TAx PRACTICES MORE EFFECTIvELY, TAkInG InTO ACCOunT TrAnSPArEnCy AnD SuBSTAnCE

This action aims to revamp “the work on harmful tax practices with a priority on improving transparency, including compulsory spontaneous exchange on rulings related to preferential regimes, and on requiring substantial activity for any preferential regime”. It will also engage with non-OECD members on the basis of the existing framework and consider revisions or additions to the existing framework.

The finalisation of the review of OECD member country regimes is expected by September 2014; the strategy to expand participation to non-OECD members will be developed by September 2015; and the revision of existing criteria by December 2015.

This action recalls the OECD’s 1998 report Harmful Tax Competition: An Emerging Global Issue. This action seems to contemplate a broader focus on a wider range of preferential tax regimes. However, this action seems rather to focus on greater transparency and exchange of information between countries.

PrEvEnT TrEATy ABuSE

Action 6 proposes the development of model treaty provisions and recommendations in relation to the design of domestic rules to prevent the granting of treaty benefits in inappropriate circumstances. It should be clarified that tax treaties are not intended to be used to generate double non-taxation, and identify tax policy considerations that a government should bear in mind when deciding whether to enter into a tax treaty.


The discussion draft addresses, among others: (i) proposed wording for limitation - on benefit provisions; (ii) amendments to the tiebreaker rule on tax residence (by introducing a mutual agreement procedure for dual-resident persons other than individuals); (iii) anti-abuse provisions for permanent establishments situated in third states and amendments to title; and (iv) amendments to the preamble to the conventions to make clear that the treaty aims not only to avoid double taxation but also to prevent tax evasion and avoidance (thus avoiding double non-taxation).

The comments on the discussion draft welcome anti-abuse provisions but highlight that they could raise issues of compatibility with EU law (if an EU member state is involved in the application of the relevant treaty). with reference to the tiebreaker rule, it is generally recognised that the mutual agreement procedure should be set up in such a way to make it effective; further, an advance ruling should be made available to avoid situations of uncertainty before the dual-residence issue is tackled by tax authorities.

Changes to the Model Tax Convention and recommendations regarding the design of domestic rules are expected by September 2014.



PREvENT THE ARTIFICIAL AvOIDANCE OF PERMANENT ESTABLISHMENT (PE) STATUS

This action aims to “develop changes to the definition of PE to prevent the artificial avoidance of PE status in relation to BEPS, including through the use of commissionaire arrangements and the specific activity exemptions”. This will also deal with issues concerning profit attribution to a permanent establishment.

Changes to the Model Tax Convention are expected by September 2015.

This action addresses an area foreshadowed by a number of OECD initiatives and has been much debated at international level. Indeed, the proposed action seems to focus on quite restricted aspects of the definition of PE (i.e. commissionaire arrangements and exceptions to PE status), which sometimes give scope for abusive practices (e.g. where multinational group entities fragment their operations among a number of entities to qualify for PE status). The issues are quite delicate: it is therefore anticipated that it might be difficult to achieve consensus.

INTANGIBLES

This and the following two actions specifically address transfer pricing issues. The OECD recognises that the current transfer pricing rules based on arm’s length principles are an effective and efficient means of allocating income in different jurisdictions; nevertheless there are cases where transfer pricing rules are mis-used to artificially separate income from activities.

In this respect, the eighth action proposes the development of rules to prevent BEPS by moving intangibles between group members. According to the BEPS Action Plan, this will include: “(i) adopting a broad and clearly delineated definition of intangibles; (ii) ensuring that profits associated with the transfer and use of intangibles are appropriately allocated in accordance with (rather than divorced from) value creation; (iii) developing transfer pricing rules or special measures for the transfer of hard to-value intangibles; and (iv) updating the guidance on cost contribution arrangements”.

Changes to the Transfer Pricing Guidelines and possibly also the Model Income Tax Convention regarding Intangibles are expected by September 2014 and Cost Contribution Arrangements by September 2015.

This action was partially anticipated by the Discussion Draft on the Revision of the Special Considerations for Intangibles in Chapter vI of the OECD Transfer Pricing Guidelines and Related Provisions (the Intangibles Discussion Draft) in June 2012 and will be coordinated with the outcome of the Discussion Draft on the Transfer Pricing Aspects of Intangibles. The review is now expanded to include cost contribution arrangements (Chapter vIII of the OECD Guidelines). This action shall be duly coordinated with other actions, namely action 3 relating to strengthened CFC regimes and action 10 relating to other high-risk transactions.

RISKS AND CAPITAL

This action deals with rules to prevent BEPS by transferring risks between, or allocating excessive capital to, group members. This will involve adopting transfer pricing rules or special measures to ensure that inappropriate returns will not accrue to an entity solely because it has contractually assumed risks or has provided capital. The rules to be developed will also require the alignment of returns with value creation.

Changes to the Transfer Pricing Guidelines and possibly to the Model Tax Convention are expected by September 2015.

For the sake of homogenisation and coordination between countries, the OECD seems to avoid suggesting new and/or innovative formulae for profit allocation; rather, it seems preferable to improve the current system in particular with regard to the return from intangible assets, risk and over-capitalisation. The role of capital and of economic risk borne by the taxpayer will be paramount. Effects are also expected in the financial sector.

OTHEr HIGH rISk TrAnSACTIOnS

Action 10 deals with transactions which would not (or would only very rarely) occur between third parties and proposes to develop special measures aiming to: “(i) clarify the circumstances in which transactions can be recharacterised; (ii) clarify the application of transfer pricing methods, in particular profit splits, in the context of global value chains; and (iii) provide protection against common types of base eroding payments, such as management fees and head office expenses”.

Changes to the Transfer Pricing Guidelines and possibly to the Model Tax Convention are expected by September 2015.

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ESTABLISH METHODOLOGIES TO COLLECT AND ANALYSE DATA ON BEPS AnD THE ACTIOnS TO ADDrESS IT

Action 11 aims to develop recommendations regarding “indicators of the scale and economic impact of BEPS and ensure that tools are available to monitor and evaluate the effectiveness and economic impact of the actions taken to address BEPS on an ongoing basis”. The work will also involve assessing a range of existing data sources, identifying new types of data that should be collected, and developing methodologies based on both aggregate (e.g. FDI and balance of payments data) and micro-level data (e.g. from financial statements and tax returns). In this respect, taxpayer confidentiality and the administrative costs for tax administrations and businesses should also be considered.

Recommendations regarding data to be collected and methodologies to analyse them are expected by September 2015.

The focus of this action item is diagnostic in nature and reveals a new approach to cross-border tax issues.

REqUIRE TAxPAYERS TO DISCLOSE THEIR AGGRESSIvE TAx PLANNING ARRANGEMENTS

This action envisages developing recommendations with regard to the design of mandatory disclosure rules for aggressive or abusive transactions, arrangements or structures. According to the OECD approach, the work will use a modular design allowing for maximum consistency but adaptable for country-specific needs and risks. An identified area is international tax schemes and the work will examine the concept of “tax benefit” in this framework. The work will be coordinated with the work on cooperative compliance. It will also involve designing and putting in place enhanced models of information sharing for tax administrations to use.

Recommendations regarding the design of domestic rules are expected by September 2015.

This action is in line with general political pressure for transparency and disclosure. Also welcome is the intention to develop criteria for determining what constitutes “aggressive or abusive transactions, arrangements, or structures”.

RE-ExAMINE TRANSFER PRICING DOCUMENTATION

Again in the transfer pricing area, action 13 deals with documentary requirements to enhance transparency for tax administrations. Compliance costs for business must be taken into consideration, however. The OECD focuses here, among other things, on the requirement that multinational entities provide all relevant governments with information about the global allocation of their income, economic activity and taxes paid to countries according to a common template. International coordination is therefore a key aspect here.

A discussion draft on this matter was released in April 2014. Changes to Transfer Pricing Guidelines and recommendations regarding the design of domestic rules are expected by September 2014.

This action entails an essential development in the transfer pricing approach, which more and more addresses the global value chain of a multinational enterprise rather than dealing with specific transactions. This seems to be in line with the guideline for transfer pricing documentation of the EU Council and adopted by several EU member states. These guidelines require both: (i) a “Masterfile” which caters for a general overview by describing the group and the intra-group transactions in general; and (ii) a “Countryfile” for each country where the group is operating which describes the specific features of each local subsidiary.

MAKE DISPUTE RESOLUTION MECHANISMS MORE EFFECTIvE

This action aims to improve the effectiveness of the mutual agreement procedure (MAP). In particular, this action proposes the development of solutions “to address obstacles that prevent countries from solving treaty-related disputes under MAP, including the absence of arbitration provisions in most treaties and the fact that access to MAP and arbitration may be denied in certain cases”.

Changes to the Model Tax Convention are expected by September 2015.

This action responds to requirements for equity in taxation and may be seen as functional to the proposed actions. Indeed, access to MAP, with arbitration as a possible avenue will be paramount in mitigating drawbacks deriving from the possible double taxation that might arise from the enforcement of any new rules relating to transfer pricing, jurisdiction to tax, or the characterisation of payments.



DEvELOP A MULTILATERAL INSTRUMENT

Finally, action 15 addresses “the analysis of tax and public international law issues relating to the development of a multilateral instrument to enable jurisdictions that wish to do so to implement measures developed in the course of the work on BEPS and amend to bilateral tax treaties. On the basis of this analysis, interested parties will develop a multilateral instrument designed to provide an innovative approach to international tax matters, reflecting the rapidly evolving nature of the global economy and the need to adapt quickly to this evolution”.

A report identifying relevant public international law and tax issues is expected by September 2014, with the development of a multilateral instrument by December 2015.

This action is an ambitious goal, which would complete the above roadmap. Multilateral negotiations could indeed facilitate the implementation of many actions that require initiatives at treaty level and which would be slowed up by bilateral negotiations.

CONCLUSIONS

The BEPS Action plan clearly represents an ambitious project in terms of both content and timing.

However, considering that the main result of this work will be recommendations for changes to domestic law and the amendment of bilateral tax treaties, you may appreciate that the effectiveness of these measures and the timing of their implementation will largely hinge on the actions of each country and of local policymakers. Amendments to the Transfer Pricing Guidelines could be effected more quickly, given that these might result in self-executing policy changes in many countries.

In Europe, the interaction between the OECD’s proposals and the work of the European Commission will significantly influence the output of this pattern. The European Commission is willing to implement concrete actions to address perceived aggressive tax planning and tax havens. This could speed up the process of identifying shared and concrete measures and, at least for EU member states, speed up the implementation process.

The measures that will result from the OECD’s work, when effectively implemented by countries, will affect multinational enterprises in specific and concrete ways and might require a significant effort by these enterprises in terms of the administrative burden and of risk management, especially in the areas of transfer pricing and mandatory disclosures. To the extent this is balanced by predictability and certainty of tax rules, however, the new approach might be welcomed by such enterprises as well.



Francesco BonichiPartner Italy - RomeTel +39 06 6842 [email protected]

Giuseppe FranchSenior Associate Italy - MilanTel +39 02 2904 [email protected]

ContACts

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France

“It is worth noting that although the objective of the law was mainly to fight against abusive tax planning and structures, it actually resulted in wider limitations.”



Political action to fight against tax avoidance

French legislation includes various anti-abuse provisions. Recent history shows that this set of rules has been strengthened. The increasing limitations on the tax deductibility of financial expenses and the additional transfer pricing requirements included in the Finance Bill of 2014 illustrate what could be interpreted as the French answer to the BEPS action plan. In the meantime, the law regarding the fight against tax fraud and financial crime, which was enacted in November 2013, provides the French administration with new means of investigation and new penalties.

INCREASING LIMITATIONS ON THE TAx DEDUCTIBILITY OF FINANCIAL ExPENSES

A few years ago, it was still rather easy to implement French tax structures allowing for the tax deductibility of interest on financings from related or unrelated parties, subject to the general abnormal act of management theory.

New thin-capitalisation rules implemented in 2007 initially introduced a limitation on the tax deductibility of interest on related party debt. Since 2010, thin-capitalisation rules have been extended to financings from non-related parties (notably banks), where such financings are guaranteed by a related party or by a third party which is itself guaranteed by a related party.

Since then, additional rules preventing the tax deductibility of financial expenses have been regularly implemented. It is worth noting that although the objective of the law was mainly to fight against abusive tax planning and structures, it actually resulted in wider limitations.

In 2011, an anti-avoidance rule was introduced (the so-called “Carrez Amendment”), aimed at preventing abusive debt structuring in France, in particular where debt is incurred at the level of French entities acquiring the shares of companies located outside France. This mechanism results in a limitation on the deductibility of interest relating to an acquisition of qualifying participations if it cannot be shown that the decisions and/or control or influence relating to those participations are made or exercised by a company established in France.

Further, the Finance Bill of 2012 introduced a new mechanism, rather similar to those existing in other European countries (e.g. Italy and Spain), that caps the tax deductibility of net financial expenses at 75% of their amount. This “haircut” mechanism applies to both related party debt and third party debt if the total net financial expenses exceed EUR3million, and affects financial expenses that remain deductible under the other limitation rules (i.e. thin-capitalisation and Carrez rules).

with the view to fighting against “artificial leverage schemes” and hybrid financing instruments, the Finance Bill of 2014 introduced a new condition for the deductibility of interest on debts subscribed by French borrowers from related parties. Under this new rule, deduction would be possible only to the extent the French borrower demonstrates, upon request from the French tax authorities, that the lender is, for the current fiscal year, subject to income tax on the interest equal to at least 25% of the income tax determined under standard French tax rules. where the lender is resident or established outside of France, reference to “income tax determined under standard French tax rules” would mean that the lender would incur an income tax liability on the interest income in France if it were resident in, or established in, France. This new test applies to the fiscal years ending on or after 25 September 2013.

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nEw TrAnSFEr PRICING REqUIREMENTS

Transfer pricing documentation requirements have been implemented for the fiscal years starting 1January 2010, for French entities whose revenues or gross assets exceed EUR400m and for French entities affiliated with an entity (whether French or foreign) whose revenues or gross assets exceed that same threshold (article L 13 AA of the French Procedural Tax Code). The required documentation includes (i) general information about the group the French entity belongs to (description of its structure, activities, functions, assets and risks, as well as a general description of the transfer pricing policy of the group) and (ii) specific information about the French company (description of its activities, presentation of the transfer pricing methodology, including a functional analysis). Failure to comply with such a documentation requirement triggers a penalty amounting to EUR10,000 for each fiscal year subject to tax audit or, if higher, a 5% penalty assessed on the gross reassessed amount (i.e. transferred benefits within the meaning of article 57 of the French Tax Code).

Article 98 of the Finance Bill of 2014 extends the scope of transfer pricing documentation requirements provided by article L 13 AA of the French Procedural Tax Code to rulings from foreign tax administrations granted to related parties. Compliance with such a new requirement may trigger practical difficulties (the related party may refuse to disclose the ruling, or the ruling may include non-disclosure commitments). In addition, based on the wording of the new provision, it may apply to any ruling, whether relating to transfer pricing policy or not.

Article 106 of the Finance Bill of 2014 originally included new transfer pricing requirements in respect of cross-border business restructurings, resulting in shifting the burden of proof to the taxpayer. These rules applied to transfers of risks and functions between related parties (or to any party, whether related or unrelated, if the transferee benefited from a privileged tax regime or was established in a non-cooperative State or territory) if the operating results of the transferring company during one of the two financial years following the transfer were at least 20% below the average operating result of the three preceding years. In such a situation, the transferring company had to demonstrate that it received arm’s length compensation in consideration for the transfer. For these purposes, it had to provide the French tax administration, upon request, with any relevant information regarding both the transferring and the transferee company. Otherwise, the profits that should have been realised by the transferring company would be added-back to its taxable result. The Constitutional Council has however censored article 106 of the Finance Bill of 2014 on the grounds that neither the concept of the transfer of risks and functions nor the period corresponding to the “profits which should have been realised” have been defined.

Article 97 of the Finance Bill of 2014, which provided for a maximum penalty for failure to comply with transfer pricing documentation requirements up to 0.5% of the turnover of the company (rather than the current maximum penalty of 5% of the profits transferred abroad) has also been censored by the Constitutional Council on the ground that the level of such a penalty was disproportionate.

ENHANCING INFORMATION AND TRANSPARENCY, STRENGTHENING PENALTIES

On 5 November 2013, a law regarding the fight against tax fraud and financial crime was adopted. As far as tax matters are concerned, this law gives new powers of investigation to the French tax administration (e.g. ability to make copies of computer files and to use information of illicit origin), enhances information requirements and strengthens penalties in the event of tax fraud.

Eventually, in addition to the above-mentioned provisions, two measures discussed within the framework of the Finance Bill of 2014 but censored by the Constitutional Council clearly reveal the current political climate and the will to fight against tax avoidance and aggressive tax planning.

The first measure consisted in an enlargement of the abuse of law definition in order to cover transactions whose “main purpose” is to avoid or reduce the tax burden (whereas under the current definition, the abuse of law concept relates to transactions which are “exclusively” motivated by tax reasons).

The other measure consisted in the introduction of a mandatory disclosure requirement regarding tax planning structures.

One cannot exclude the possibility that these proposals could be adapted and discussed again in the future.

CONCLUSION

There is a clear intent on the part of the French government and Parliament to go further in the fight against tax evasion. The legislative changes described above are meant to implement new rules in order to reach this goal. However, from a practical standpoint, the contemplated rules may go beyond the anti-avoidance objectives and catch operations which are just business oriented or plain vanilla tax planning schemes and subject them to unjustified hurdles. It is still too early to assess the effects of such developments but it is clear that taxpayers and tax practitioners will have to adapt to the new climate.




Jean-Yves CharriauPartner – Tax ParisTel +33 1 40 06 53 [email protected]

Sophie MaurelCounsel – Tax ParisTel +33 1 40 06 53 [email protected]

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Germany“Demands from important emerging countries to change the landscape of taxation at source already seem to be dawning. Given the expectation by the established industrialised countries not to change the architecture, conflicts that may not be easily resolved appear already on the horizon.”



BEPS measures in GermanySTATuS quO

About one year after the release of the BEPS Action Plan the public and political pressure to combat international tax planning that may cause base erosion and profit shifting has not lost its momentum. The Council of States (Bundesrat) urged the German government by a resolution of 23 May 2014 to intensify its influence at a European level to repeal in particular techniques that allow the creation of untaxed income and the “double dipping” of expenses. The German Finance Minister, wolfgang Schäuble, underpinned the German commitment to curb the international unfair tax competition recently when Germany took over the Presidency of the G7 Finance Ministers and Central Bank Governors on 1 July 2014. whilst heralding political initiatives is one thing and reality another, it is legitimate to ask where the BEPS Action Plan stands today.

Leaders of the German tax administration share the view of German business associations that Germany has already implemented core aspects of the Action Plan on BEPS such as the interest limitation and business migration rules as well as the correspondence principle to neutralise the mismatch of hybrid instruments. In the meanwhile hybrid mismatches are also targeted by the amendment of the EU parent-subsidiary directive as agreed by the Council of the EU on 20 June 2014. The EU member states will have to transpose the amendment into national law by 31 December 2015. Germany also has tight CFC rules that permit German multinational companies only on a very limited basis to defer taxation of passive income in low-tax foreign jurisdictions.

TOP PrIOrITIES

A top priority of the German tax administration has apparently been to address the tax challenges of the digital economy. The OECD task force in charge of this topic is faced with the ambitious deadline of September 2014 to deliver their report. It is expected that the task force will strive to meet this deadline, even though it is already obvious that significant work on the digital economy will be delayed into 2015. It is not very likely that the report will propose a fundamental new tax regime for the digital economy because the interests of the OECD members are just too different. whilst some countries seem to favour taxation based on a digital presence, other countries still defend the established physical presence approach. In anticipation of the amendment of article 58 of the EU vAT Directive with effect from 1 January 2015 pursuant to which e-commerce “B2C” services will in general be

subject to vAT at the place of the retail customer, Germany has already incorporated the amendment into domestic law, applicable from 1 January 2015 onwards. It remains to be seen what else is to come to broaden the tax base for income taxes as well.

On 22 August 2013 the Federal Ministry of Finance published a model tax treaty with the goal of increasing consistency in the wording of future tax treaties and to brief the legislators of the Federal Parliament better about German tax treaty policy. whilst, following a long German tradition, the model agreement still follows the concept of import neutrality by providing for tax exemption, for certain foreign source income categories (in particular income from foreign immovable property, business profits and dividends from substantial foreign shareholdings), it also underpins the determination to avoid untaxed income by such exemptions. To avoid untaxed income the exemption method is replaced by a tax credit for foreign income taxes paid (thereby ensuring that the tax burden is uplifted to the German level) in cases where there is no sufficient substance or income taxation in the foreign jurisdiction. The weaponry to reach this goal may result in overkill. (i) Dividends received by a German corporation from a substantial holding in another foreign corporation shall only be tax exempt if the foreign corporation conducts a trade or business and maintains an adequate physical business presence (activity clause). (ii) Income put into different provisions of the tax treaty by the other contracting state and thereby causing double or non-taxation shall be switched from the exemption to the credit method (switch-over-clause). (iii) Income that is not effectively subject to income tax in the foreign jurisdiction is also excluded from the exemption and placed into the foreign tax credit basket (subject-to-tax-clause). (iv) If, after consultation, Germany has notified the treaty partner that it intends to apply the tax credit rather than the exemption method to certain categories or elements of foreign source income it may do so.

Another approach vigorously pursued by the German tax administration is the enhanced spontaneous exchange of information with foreign tax authorities. To go beyond the exchange of information as stipulated in the EU Savings Directive of 3 June 2003, Germany, France, Italy, Spain, the UK and the USA passed a common declaration on 26 July 2012 to introduce a system for the exchange of information that follows the template of the U.S. Foreign Account Tax Compliance Act (FATCA) and the Intergovernmental Agreements in this context that Germany and the USA signed on 31 May 2013 and which had already been endorsed by the German Federal legislature and entered into force on 16 October 2013.

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AREAS wITH LOwER PRIORITY

The OECD Action Plan on BEPS also offers the view that enhanced transparency on tax planning measures is also needed. Along these lines the Social Democratic Party and the Green Party submitted a motion to the Federal Parliament on 4 June 2013 to resolve that large companies must disclose in their annual financial statements, amongst other items, their tax payments broken down country by country (country-by-country reporting). Ever since the Social Democratic Party has joined the Grand Government Coalition with the Conservative Party after last year’s election with the Social Democratic Party Chairman, Sigmar Gabriel, opting to take the Ministry of Economic Affairs, little has been said about country-by country reporting. On the other hand, the EU Directive 2013/34/EU of 26 June 2013 on the financial statements of certain types of undertakings stipulates that large undertakings and public-interest entities active in the extractive industry or in the logging of primary forests should disclose to the public payments of EUR100,000 or more to governments. Likewise the EU Directive 2013/36/EU of 26 June 2013, transformed into German law on 28 August 2013, on access to the activity of credit institutions and investment firms requires country-by-country reporting and public disclosure of taxes on profits and public subsidies received with effect from 1 July 2015. There are some indications that a general country-by-country reporting system is not top of the list of the German tax administration. However, given the development at the EU level it remains to be seen if the country-by-country reporting requirement for all large companies can ultimately really be warded off. It is very desirable that it is because country-by country reporting would impose an immense bureaucratic burden on multinational companies and there is little hope that the information revealed would be correctly interpreted by the media and hence the public. Misleading interpretations would most likely give rise to increased international public disputes about the putative fair share of the allocation of tax revenues. Not only Cassandra would be concerned that this discussion would not be a catalyst for mutual international understanding.

OUTLOOK

If one puts the bits and pieces together that have leaked out of the OECD working groups on BEPS it seems to be that, as expected, all measures that may cause different allocation of international tax revenues such as transfer pricing will generate resistance from one or the other side. Demands from important emerging countries to change the landscape of taxation at source already seem to be dawning. Given the expectation by the established industrialised countries not to change the architecture, conflicts that may not be easily resolved appear already on the horizon. The realistic expectation therefore may be that in substance the changes in the BEPS initiative will be less dramatic than hoped or feared, depending on the observer’s perspective. However, those measures that have no impact on the allocation of tax revenues but put significant burdens on businesses, such as enhanced disclosure requirements, are more likely to be implemented.

As regards the timeline the OECD Action Plan on BEPS is very ambitious, perhaps too ambitious. Its architects obviously committed themselves to such a tight deadline to capitalise on the current public mood and the momentum the actions should gain from it. As a next step the intent seems to be to promulgate recommendations by the OECD that are endorsed by all the OECD and G20 countries that support the Action Plan. To avoid extremely cumbersome bilateral treaty negotiations on a case-by-case basis the approach appears to be to enter into a multilateral convention with all willing states and transform this convention into domestic law by ratification by the legislature of each jurisdiction.




Eugen BogenschützPartner – Tax FrankfurtTel +49 69 2648 [email protected]

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Italy“The proposal to involve taxpayers in designing the compliance procedure for an ex-ante tax control mechanism, in particular, is welcome and should hopefully lead to effective and efficient solutions for both parties.”



BEPS measures in Italy

Mandatory disclosure in certain tax areas and increasing collaboration between taxpayers and tax administrations are keywords of the Action Plan on Base Erosion and Profit Shifting (the BEPS Action Plan) released last July by the OECD.

This article addresses two measures implemented in Italy, namely the Cooperative Compliance Programme (the CC Programme) and the International Standard Ruling (the IS Ruling) which, in different areas and with different effects, aims to increase transparency and proactive collaboration between taxpayers and tax authorities.

Further measures are on the agenda, namely in relation to the exchange of information among countries. On 14 January 2014, Italy and the U.S. signed an agreement to improve international tax compliance and implement FATCA (the Foreign Account Tax Compliance Act), which will allow automatic exchange of financial information between the tax authorities of those countries.

BACkGrOunD

The CC Programme is a pilot project which was launched by the Italian Tax Administration (Agenzia delle Entrate) on 25 June 20131 and which aims, in line with OECD recommendations, to implement a cooperative compliance programme for large businesses. The first initiatives foreshadowed by this programme commenced in autumn 2013 and are still continuing.

The IS Ruling has been in force for the last ten years2 so it is not a brand new measure. It should, however, be noted that it has gradually been adopted by several multinational enterprises since its introduction. Further, from 2010, the Italian Tax Administration, in line with the provisions of the OECD Model Commentary, has agreed to discuss and conclude bilateral and multilateral Advance Pricing Agreements (APAs) under the IS Ruling procedure. A recent report by the Italian Tax Administration on the outcome of the IS Ruling applying to the 2003-2012 tax period3 shows how collaboration between taxpayers and tax administrations has developed in recent years.

THE COOPErATIvE COMPLIANCE PROGRAMME

Goals and contents

Under the CC Programme, selected taxpayers have been joining technical roundtables, together with the Italian Tax Administration, to design and test an ex-ante control mechanism based on voluntary disclosure and periodic compliance.

The selected taxpayers and the Italian Tax Administration are examining the main features of the internal tax control framework, the possible obligations and fulfilments of taxpayers and the role and responsibilities of the Italian Tax Administration in enhancing efficiency for both parties.

The CC Programme should lead to the drafting of appropriate legislative measures according to which all large business taxpayers could opt to join a compliance and transparency regime which would provide legal certainty in specific transactions and avoid burdensome ex-post verifications by tax administrations, which often result in time-consuming tax litigation.

A balance should obviously be struck between the benefits that may arise from such cooperation and transparency and the costs of tax compliance for taxpayers. In any event, the opportunity to influence new compliance rules is welcome.

01_ According to Articles 27(9) to (12) of Legislative Decree No. 185 of 29 November 2008, as converted by Article 1 of Law No. 2 of 28 January 2009.

02_ Article 8 of Legislative Decree No. 269 of 30 September 2003, as amended by Law No. 326 of 24 November 2003 and implemented by the Note (Provvedimento) of the Italian Inland Revenue dated 23 July 2004.

03_Italian Tax Administration, International Standard Ruling, Report, II Edition, dated 19 March 2013.

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THE REqUIREMENTS NECESSARY TO JOIN THE CC PROGRAMME

Large business taxpayers (for this purpose being those with a 2011 turnover not lower than EUR100m) who had implemented an organisational model to manage tax risks4 were eligible to apply for the CC Programme. Other factors that might assist in being selected for the CC Programme are, among others, adopting similar compliance programmes in other jurisdictions or subscribing to a code of conduct with other tax administrations.

The Italian Tax Administration has selected the taxpayers to be admitted to the CC Programme.

THE CC PROGRAMME SO FAR

It has been reported5 that 84 applications have been filed: the applicants are companies belonging to 55 groups. Of these groups, 53% are based in Italy, 32% in Europe and the remaining 15% outside Europe. The Italian Tax Administration has started roundtables with the selected taxpayers and a first report on the status of consultations is expected in the next couple of months.

INTERNATIONAL STANDARD RULING

Goals and contents

An IS Ruling allows entrepreneurs engaged in certain cross-border transactions to reach agreement with the Italian Tax Administration on the following matters: (i) determination of the arm’s length value6 of transactions with associated entities; (ii) the tax treatment of cross-border dividends, interest and royalty payments (including identification of the beneficial owners of the relevant payments); and (iii) attribution of profits and/or losses to permanent establishments.

The features of an IS Ruling, as set out by law, are similar to those of a unilateral Advance Pricing Agreements (APA). Starting from 2010, however, the Italian Tax Administration has expressly agreed to discuss and conclude bilateral and/or multilateral APAs, in accordance with Article 25(3) of the OECD Convention Model.

An IS Ruling may be applied to resident enterprises carrying out international activities and to foreign enterprises with permanent establishments in Italy. To this end, a resident enterprise is deemed to carry out international activities if: (i) it falls within the scope of Italian transfer pricing rules7; (ii) its capital is (even partially) held by foreign entities or it holds interests in entities resident abroad; and (iii) it pays to or receives from foreign entities any dividends, interest or royalties.

The IS Ruling procedure includes a pre-examination process (lasting no longer than 30 days) in which the Italian Tax Administration ascertains whether or not the application can be entertained. If it can, the procedure must be completed within 180 days. The 180-day term may, however, be extended if further information is needed by the Italian Tax Administration. From a practical standpoint, the time required to obtain an IS Ruling may vary significantly from case to case: the average period for reaching an agreement is generally about 16 months. Indeed, the length of time required represents the most critical aspect of this procedure.

The Italian Tax Administration is also prepared to discuss specific transactions on an informal basis (the so-called pre-filing procedure), which may or may not result in an IS Ruling.

An IS Ruling is binding on both taxpayers and the Italian Tax Administration to the extent that the taxpayer’s business operations reflect the facts contained in the agreement.

An IS Ruling is valid for three fiscal years, i.e. for the year of its approval and the following two years. Upon request, the agreement may be extended for a further fiscal period.

Once the agreement is in force, the taxpayer must periodically prepare documentation and may be subject to inspection by the Italian Tax Administration in order to verify whether the agreement has been complied with. If the factual circumstances and provisions of law on which the IS Ruling has been based change, even in part, the agreement must be amended accordingly.

OUTCOME OF THE PrOCEDurES SO FAr

The report on IS Rulings for the 2004-2012 period, published earlier last year by the Italian Tax Administration, shows encouraging results: 135 applications for an IS Ruling were filed with the Italian Tax Administration in this period, with a notable increase in applications during the 2010-2012 period. Furthermore, a significant number of applications for bilateral or multilateral APAs were filed from 2010 onwards (21 applications of the 83 applications filed in total in the same period).

To date, 56 IS Rulings have been issued (i.e. APAs concluded accordingly), while 25 applications had a negative outcome for taxpayers (i.e. they turned out not to be permissible or no agreement was otherwise reached). The remaining applications (about 40%) are still under consideration. Notably, about 40% of the applications filed during the last three years resulted in an IS Ruling, as against 14% of those filed in the 2004-2006 period, thus showing an increasing degree of awareness by both parties of the effectiveness of the system.

04_ According to Law No. 231 of 2001 or having adopted a Tax Control Framework to manage tax risks.

05_ See: http://www.agenziaentrate.gov.it.

06_ More precisely, the so-called normal value (valore normale) according to Article 9 of Presidential Decree No. 917 of 22 December 1986 (the Italian Tax Code).

07_ Article 110(7) of the Italian Tax Code.



The matters dealt with in those IS Rulings mainly related to transfer pricing (19 cases involved bilateral APAs); the attribution of profits and losses to permanent establishments was also addressed in the IS Rulings examined so far, while issues concerning withholding taxes on dividends, interest and royalties seemed to be marginal (one case only).

Finally, increasing numbers of pre-filings have been registered in the last few years (about 110 cases from 2009), which address wider issues than those found in IS Rulings (e.g. in relation to business restructurings); this seems to reflect a growing trust on the part of taxpayers in cooperative procedures and voluntary disclosures.

CONCLUSIONS

The BEPS measures described in this article show how the Italian Tax Administration has followed the path indicated by the OECD in terms of proactive collaboration with taxpayers. The proposal to involve taxpayers in designing the compliance procedure for an ex-ante tax control mechanism, in particular, is welcome and should hopefully lead to effective and efficient solutions for both parties.

Indeed, the positive feedback from taxpayers on the CC Programme and the increasing recourse to IS Rulings to manage tax risks effectively suggests that the traditional distrust of the Italian Tax Administration can be overcome and replaced by a new spirit of cooperation. Notably, voluntary disclosure no longer seems to be a taboo subject in Italy.

Also welcome is the increasing number of bilateral APAs reached so far, which is encouraging in terms of possible cooperation between Italy and other countries, on the one hand, and global risk management by multinational enterprises on the other hand.

There is still some work to do. The CC Programme represents a first step: the effectiveness of the measures that are expected to arise from this programme and the timing of their implementation are unpredictable. Needless to say, the success of the CC Programme will also hinge on the actions of local policymakers.

The time required to obtain an IS Ruling is still a significant problem and should be further speeded up. The updating of the economic and legal framework could also be further examined so as to reduce administrative burdens and uncertainties in implementing IS Rulings.



Francesco BonichiPartner Italy - RomeTel +39 06 6842 [email protected]

Giuseppe FranchSenior Associate Italy - MilanTel +39 02 2904 [email protected]

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Hot Topics in Italy

The report of the Italian military tax police (guardia di finanza) in relation to the tax inspections performed during the 2012 tax period is clear: more than EUR17 billion were challenged in relation to cross-border transactions, which equates to about three times the amount challenged in 2008. These figures foreshadow the increasing focus of the Italian Tax Administration on multinational enterprises and the potential base erosion deriving from cross-border transactions.

The main objective of these inspections relates to the permanent establishment of foreign entities in Italy (about EUR13.5bn was challenged in 2012).

Global integration of multinational enterprises, division of the distribution process between a number of entities located in different countries and diffusion of the digital economy have made permanent establishment exposure an increasingly critical issue, as highlighted by the OECD in its recent Action plan on Base Erosion and Profit Shifting. Recent inspections made by the Italian military tax police resulted in claims of huge amounts based on the permanent establishment issue, while important claims derived from the inspection of enterprises that adopt “traditional” distribution schemes (e.g. agency schemes) on a global basis. Further, it is worth noting that foreign investment funds that operate in private equity in Italy have claimed to have permanent establishments in Italy based on the fact that the management of their target companies was effectively carried on in Italy (about EUR900m was challenged in 2012).

Transfer pricing and deductibility of expenses from transactions with entities located in blacklisted companies represents another area under the aegis of the Italian Tax Administration (about EUR1.7bn was challenged in 2012). As for the second issue, it is worth noting that according to the Italian tax rules, the Tax Administration can disregard deductibility of costs deriving from transactions with blacklisted companies, if they are not supported by sound economic reasons, regardless of whether the pricing of the transaction is at arm’s length and the companies are independent or not. The means of proof

available to the taxpayers and the provision of appropriate and exhaustive feedback to the tax inspectors is often decisive in this kind of claim.

A further critical area is the question of the tax residence in Italy of foreign companies, namely foreign holding companies and SPvs. The economic substance of these foreign entities and the place of their effective management are keywords in these claims.

The concept of the abuse of law, which has been developed in recent years by the Italian tax courts, has often played a central role in these claims and is increasingly being used by the tax authorities to challenge aggressive tax planning, beyond the traditional measures (e.g. presumptions of law and the exchange of information). According to this approach, the military tax police challenged the restructuring of a fashion group, which entailed the drop-down of brand and trademarks from Italy into a Luxembourg entity.

The development of tax claims arising from such tax inspections is often unpredictable and may take several years to conclude. This is the reason why taxpayers often prefer to try to reach a settlement on their claim with the Tax Administration through one of the several instruments set out in tax laws.

In any event, the consequences for taxpayers may be very severe in terms of the financial burden, relationships with financial institutions and reputational drawbacks. Further, criminal consequences for individuals are highly likely where tax claims involve significant amounts.



Risk management is therefore an increasingly critical issue for multinational groups and relate to restructuring and mergers and acquisitions, as well as the business model actually adopted and ongoing transactions. Monitoring relevant tax issues and implementing proper risk evaluation – which should be updated periodically in the light of possible modifications to the factual background and the amendment of tax provisions and the development of their interpretations – is becoming essential to conducting business on a multinational basis.

Tax ruling procedures, in particular International Standard Ruling and Advanced Pricing Agreements, represent routes that an increasing number of multinational groups are going to follow in order to get certainty regarding the legal and tax treatment of their activities in Italy and to avoid double taxation globally. These procedures however trigger a significant administrative burden for taxpayers and entail full advanced disclosure of business, financial and tax matters, elements which could change once an application has been filed, thus jeopardising the outcome of the ruling procedure: a pros and cons analysis is therefore necessary on a case-by-case basis.

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Netherlands

“The government has also made clear that it is inclined to safeguard the current attractive Dutch tax climate for international business and that further steps cannot be taken unilaterally by the Netherlands, but must be taken internationally.”



BEPS measures in the Netherlands

INFORMATION REqUIREMENTS – FINANCE COMPANIES

As of 1 January 2014, companies which receive or pay out interest, royalties, rental and lease instalments to or from entities not resident in the Netherlands which are part of the same business group must make an annual statement as to whether they comply with the substance requirements which previously only applied to companies with an ATR/APA. This statement must be made in the Dutch corporate income tax return.

SUBSTANCE REqUIREMENTS

In short, these substance requirements entail that:

a) at least half of the board members are resident in the Netherlands;

b) the Dutch-resident board members have sufficient knowledge and capability to perform their tasks, which include at least making decisions on transactions and managing the completion of transactions;

c) the company has staff qualified to manage and register the transactions;

d) board decisions are made in the Netherlands;

e) the principal bank accounts are held in the Netherlands;

f) the company’s books and records are kept in the Netherlands;

g) the place of residence of the company is in the Netherlands;

h) as far as the company is aware, it is not deemed to be resident in another country;

i) the company runs a real risk regarding the loans or legal relations underlying the paid out and received interest, royalties, rental and lease instalments, meaning that the equity must be at least the lower of 1% of the outstanding loans or EUR2m; and

j) the company has a sufficient amount of equity to match its functions.

The debate on base erosion and profit shifting has been quite intense in the Netherlands in the past two years. NGOs initiated a strong lobby which was followed involvement by the media and several left-wing politicians. The Second Chamber of Parliament organised an official hearing on the topic of BEPS and several politicians urged the government for action.

In reaction to this impetus, the Dutch Government sent a letter to Parliament on 30 August 2013 in which it stressed that international tax avoidance issues can only be resolved on an international scale and not by the Netherlands on its own.

The Netherlands will maintain its attractive tax climate for international investment. It will not change the main features of its tax system such as the participation exemption, the extensive tax treaty network and the potential to obtain rulings in advance. However, the Dutch Government has

tightened the rules on the exchange of information in relation to Dutch finance companies and has made changes to the rules for Advance Tax Rulings (ATRs) and Advance Pricing Agreements (APAs), changes which should not harm the attractiveness of the Netherlands for real investments. These changes are specifically aimed at situations in which the risk of abuse exists and fit expected international resolutions. In addition, the Netherlands will propose that tax treaties with several developing countries are renegotiated, for example by adding a general anti-abuse rule.

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ADDITIONAL INFORMATION REqUIREMENTS

If a finance company does not meet the substance requirements, it must state which requirements it does not meet and give an overview of the interest, royalties, rental and lease instalments received for which it has requested the application of a tax treaty, and any relevant European interest and royalty directive or a national implementation of this directive, including the names of the countries in which this request has been filed. Furthermore, it must provide the name and address of each of the entities from which it has received interest, royalties, rental and lease instalments.

AUTOMATIC ExCHANGE OF INFORMATION AND FINE

The Netherlands will automatically send information on finance companies not meeting the substance requirements to the relevant other country, which can then decide whether the company is eligible for tax treaty benefits. If the company does not fully meet the information requirements, the tax authorities can impose a maximum fine on the company of EUR19,500.

AMENDED APA/ATR POLICY

Revised ATR/APA policy decrees were issued in early June 2014. Although the overall policy has not changed, there are some amendments which can be attributed to the on-going debate on base erosion and profit shifting. For instance, the Netherlands will automatically exchange information on Advance Pricing Agreements with tax authorities of other states if the multinational group does not have more activities in the Netherlands than a Dutch company receiving and paying interest and/or royalties. Furthermore, ruling requests regarding holding activities, receiving and paying out dividends will only be considered if the multinational enterprise has sufficient nexus with the Netherlands, for example because of real presence in the Netherlands or the serious intention to create such presence. This is all rather vague. An example of a case in which the nexus criterion is met is when the ATR/APA substance requirements are met, which requirements are practically in line with the requirements for finance companies as outlined above.

CONCLUSION

These measures make clear that the Dutch Government is meeting on-going demands to prevent abuse of the tax legislation of other countries by interposing the Netherlands. However, it has also made clear that it is inclined to safeguard the current attractive Dutch tax climate for international business and that further steps cannot be taken unilaterally by the Netherlands, but must be taken internationally.




Godfried KinnegimPartner – Tax AmsterdamTel +31 20 674 1120 [email protected]

Rens BondragerSenior Associate – Tax AmsterdamTel +31 20 674 [email protected]

Jochem KinCounsel – Tax AmsterdamTel +31 20 674 [email protected]

Sigrid HemelsSenior PSL – Tax AmsterdamTel +31 20 674 1572 [email protected]

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Spain“The Spanish Tax Administration shares the principles and goals of international organisations aimed at combating base erosion and profit shifting. At the same time, it is aware of the real need to cooperate with taxing authorities of other jurisdictions in order to successfully tackle harmful tax practices and aggressive tax planning mechanisms.”



BEPS measures in Spain

The Spanish Tax Administration is in the process of enhancing the existing mechanisms to challenge aggressive tax planning practices and harmful tax competition in its long-standing battle against tax fraud and tax evasion. All these initiatives are in line with those taken or recommended by international organisations, focusing on the effective exchange of tax information at international level and cooperation amongst the relevant jurisdictions. The current on-going tax reform and the current Plan for Tax Affairs clearly show these goals.

SPANISH TAx SYSTEM UNDER REFORM

The Spanish Government is currently working on substantial reform of the whole tax system, mainly affecting Personal Income Tax, Corporate Income Tax and Non-Resident Income tax. while some of the changes aim at boosting the economy and internationalisation of Spanish companies (following the trend of such continuing changes during the last five years) and softening the increase of taxes introduced two years ago to compensate the financial budget deficit, other potential changes focus on aggressive tax planning techniques, tax avoidance and international tax cooperation.

According to the recently published bill for a law (which is still subject to corresponding parliamentary discussion before enactment), the main changes relate, amongst others, to the following areas: CFC rules; hybrid instrument mismatches; limitation of tax deductibility of financial expenses; and transactions with counterparties established or resident in a tax haven jurisdiction.

Spanish tax regulations already challenge certain abusive structures by denying the tax deductibility of certain financing costs. In particular, it regards as non-tax deductible financial costs accrued on a group financing obtained for either the purpose of acquiring equities from a group company or contributing equity to another company, unless a valid business reason exists. This tax provision clearly attacks abusive internal restructurings implemented in the past by foreign multinationals interposing a Spanish holding company (Entidad de Tenencia de Valores Extranjeros – ETvE), combined with the tax grouping regime: under these

structures, ETvE acquired, through an interest-bearing vendor loan (e.g. deferred consideration sale and purchase agreement), non-Spanish subsidiaries from group companies and opted for the tax grouping regime at domestic level. Through this scheme they achieved tax deductibility within the tax group for their financial costs accrued on intra-group financings used for internal reorganisations.

Similarly, Spanish tax legislation already denies tax deduction for costs corresponding to transactions, directly or indirectly, entered into with persons resident in tax haven jurisdictions, unless the effectiveness of the transaction is properly evidenced.

Lastly, new reporting obligations in respect of offshore assets and investments were recently introduced in Spain with severe penalties for non-compliance. As a heavily criticised measure, this means in practical terms the extension of the statute of limitations period in respect of unreported income, which also needs to be subsequently reported as offshore assets/investments.

we summarise below some of the amendments included in the bills for the law referred to above which are in line with the initiatives taken at international level:

– CFC rules. These rules would not apply in respect of an investment in subsidiaries located in an EU jurisdiction unless such subsidiaries performed a genuine economic activity abroad;

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– Limitation of the tax deductibility for financing costs (following the recommendations made by international organisations). Interest-capping rules were introduced in Spain back in 2012, which permit the computation of the relevant parameters (financing costs and EBITDA) at group level for companies under the tax grouping regime. The introduction of a second tier of limitation is now proposed which is especially designed to attack the financial structure typically used on leveraged buy-out transactions when the debt exceeds 70% of the acquisition price: in essence, financing for a share deal would generate limited tax-deductible costs as the purchaser/borrower would only compute its own EBITDA (and not the group’s) to apply the interest-capping rules;

– Non-tax deductibility for any interest payable under a profit participating loan granted by a group company, irrespective of the lender’s tax residence, as this interest is characterised as equity remuneration;

– Non-tax deductibility for expenses arising from transactions entered into with related persons which, as a result of a different tax characterisation do not generate taxable income or generate a tax exempt income or income taxable at a rate lower than 10%;

– Interest obtained by lenders on profit participating loans granted to group companies (irrespective of their tax residence) shall be initially regarded as tax-exempt dividends in Spain, unless it constitutes a tax-deductible expense for the borrower; and

– The concept of low-tax jurisdiction or tax haven territory is amended in line with international principles.

THE SPANISH ANNUAL PLAN ON CONTROL OF TAx AFFAIRS

The Spanish Plan on Control of Tax Affairs for 2014 contains a number of initiatives that relate to, on the one hand, international tax affairs and, on the other hand, aggressive tax planning, showing that it is totally aligned with the actions and initiatives taken at international level. The areas under analysis within this Plan are intricately connected with the initiatives taken by international organisations at EU level, OECD, G20 countries etc, which will be fully supported by the Spanish Tax Administration in its long-standing battle against tax fraud.

The BEPS Action Plan is expressly highlighted by this Annual Plan, as well as the recently introduced change in Parent-Subsidiary EU Directive 2011/96/EU regarding the potential lack of double taxation through hybrid structures or instruments.

The Plan also focuses interest on the implementation of international standards for the effective exchange of international tax information as proposed by the Global Forum on Transparency and Exchange of Tax Information. Spain, as one of the G5 countries, actively participated in the meeting on tax fraud and tax evasion held in Paris on 28 April 2014 to promote transparency and cooperation in the tax area, to tackle tax fraud and tax evasion, to counter harmful tax practices and to challenge aggressive tax planning practices.

The Annual Plan makes particular reference not only to the recently implemented intergovernmental agreement for the automatic exchange of financial information with the United States (FATCA) and implementing regulations introduced in Spain, but also to the additional number of Treaties for the avoidance of Double Taxation ratified with other jurisdictions contemplating the exchange of tax information (in particular tax havens or low-tax jurisdictions).

To this extent, the Plan supports the full development of the National Agency for International Tax Matters (Oficina Nacional de Fiscalidad Internacional), established in 2013, which primarily focuses on international related-party transactions, transfer pricing issues between companies belonging to multinational groups and the correct taxation for Spanish sourced-income obtained by non-Spanish residents. One of its main goals is to secure a harmonised criteria for relevant and complex transactions.



In particular, the main areas covered by the Annual Plan are as follows:

– Abusive application of domestic and international regulations. In particular, topics like hybrid entities and hybrid financial instruments which are currently benefiting from their different characterisation in relevant jurisdictions and the application of Double Tax Treaties; and potential application of abuse of law doctrine to payments abroad of a special relevance and to complex transactions;

– Transactions with tax haven territories or entities, for the purposes of verifying the effective application of the limitations and special rules set out in our domestic regulations and of controlling artificial domiciliation of entities in these territories to avoid Spanish taxes;

– Transfer pricing, in particular, in respect of complex group restructurings, intra-group transactions, cost-sharing arrangements and intangible transactions. Incentivising advanced pricing agreements with the tax authorities to prevent tax fraud is a goal identified in the Plan;

– Identification of permanent establishments situated within Spanish territory through which taxpayers who are treated as non-Spanish tax residents develop their business activity, in particular within multinational groups with a presence in Spain; and

– Aggressive tax planning techniques, with a particular focus on double dip structures, generation of tax losses as a result of intragroup equity transfers, group restructurings benefiting from a special tax-neutral regime and tax deductibility of financing expenses.

CONCLUSION

Undoubtedly the Spanish Tax Administration shares the principles and goals of international organisations aimed at combating base erosion and profit shifting. At the same time, it is aware of the real need to cooperate with taxing authorities of other jurisdictions in order to successfully tackle harmful tax practices and aggressive tax planning mechanisms. Otherwise, any measure is doomed to failure. It remains to be seen how potentially conflicting interests between different jurisdictions evolve, as cooperation would involve not only low-tax jurisdictions, emerging countries with the need to attract foreign capital and investment (and tax incentives are the natural tool for this), but also well-established jurisdictions with a traditional tax status in this globalised world.


Carlos AlbinanaPartner – Tax MadridTel +34 91 782 99 [email protected]

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