European Commission proposals for common corporate tax base

Mon 07 Nov 2016

On 25 October 2016, the European Commission issued a Press Release outlining proposals for major reforms of corporate tax in the EU, notably relaunching of the idea of a common corporate tax base (CCTB) for large corporates.  However, this time the purpose of the CCTB specifically includes being a ‘powerful tool against tax avoidance’ which will ‘create a level-playing field for multinationals in Europe by closing off avenues used for tax avoidance’.  A previous attempt to have a common consolidated corporate tax base (CCCTB) ground to a halt as Member States were unable to reach agreement, but the focus then was about commonality of approach within the single market.  The focus on anti-avoidance may gain more traction in the current climate.  Furthermore, the process will be a two-step process: first to agree a common tax base, and only then to move onto consolidation.  That does not mean that the process of agreeing the CCTB will be simple: having a common tax base removes the ability of individual Member States to create their own special incentives and reliefs, leaving only the headline rate of tax as the means of competing for international investment (as far as corporate tax matters are concerned).  The UK government has never been in favour of the CCCTB.  Whilst Brexit means that once the UK is no longer a Member State, UK resident companies would not be affected, but foreign branches of UK companies resident in EU Member States would be, as would EU resident members of UK groups.  More detail of the areas covered by the Press Release are given below.

Common Consolidated Corporate Tax Base (CCCTB)

The proposal is that there will be a uniform system for companies to calculate their taxable profits throughout the EU. This means that groups would no longer be able to exploit differences in the tax base between different Member States to gain a tax advantage, thus reducing the fiscal motivation behind profit shifting.  However, tax rates would still be controlled by the individual Member States, which begs the question of whether there would be a race to the bottom.  Key points are as follows:

• The CCTB will be mandatory for large multinational groups ( i.e. those with global revenues exceeding EUR 750 million, measured by reference to the preceding year);
• The tax base will include all revenues unless specifically exempted.  Importantly the proposal includes a participation exemption on the disposal of shares where at least a 10% shareholding has been held for at least 12 months (the limits are in line with the UK’s substantial shareholdings exemption, but the latter only applies to trading groups).  Distributions received would also be exempt, as would the profits of permanent establishments in the state of the head office.
• Encourage companies to finance their activities through equity rather than debt.  Increases in equity would be tax deductible through an ‘allowance for growth and investment’ or ‘AGI’ (subject to certain conditions and anti-avoidance measures). The press release states:

‘The CCCTB will take steps to address the bias in the tax system towards debt over equity, by providing an allowance for equity issuance. A set rate, composed of a risk-free interest rate and a risk premium, of new company equity will become tax deductible each year. Under current market conditions, the rate would be 2.7%. This will encourage companies to seek more stable sources of financing and to tap capital markets, in line with the goals of the Capital Market Union.’

• In contrast, tax deductions for interest may be limited through the rules being introduced via the anti-tax avoidance directive, so interest expense could only be fully tax relieved where there is sufficient interest income, whereas tax relief for surplus interest expenditure would be capped at a set proportion of EBITDA (the current UK proposals set this limit at 30% for groups with net interest expense over £2 million – we will hear the outcome of the consultation process at the Autumn Statement).
• Support innovation through tax incentives for Research and Development (R&D) activities which are linked to real economic activity through a super-deduction of 50% for R&D spend up to EUR 20 million, with a more generous regime for small start-ups (where a 100% super-deduction would apply provided R&D expenditure does not exceed EUR 20 million and the company has no associated enterprises).
• There would be specified tax deprecation rules.
• Interestingly, the proposal is for tax losses to be carried forward indefinitely and without restriction on their relief in subsequent years (this is in marked contrast to proposals put forward in the UK at this year’s Budget which would see a cap on losses over an annual allowance of £5 million being relieved against only 50% of profits).  Also, the CCCTB would mean companies would be able to offset profits in one Member State against losses in another – so the relief of losses has flexibility here too which will benefit multinationals operating in several EU Member States.

Resolving Double Taxation Disputes

It is important that areas of double taxation are addressed.  To this end the EC believes that the current dispute resolution mechanisms should be adjusted to better meet the needs of businesses. In particular, a wider range of cases will be covered and Member States will have clear deadlines to agree on a binding solution to double taxation.  The EC states that there are currently 900 double taxation disputes in the EU estimated to be worth an eye watering €10.5 billion.

Addressing Hybrid Mismatches with non-EU Countries

The third proposal covers new measures to stop companies from exploiting hybrid mismatches between Member States’ and non-EU countries’ tax systems to escape taxation. Hybrid mismatches occur when countries have different rules for taxing certain income or entities. Companies can abuse this to avoid being taxed in either country. The Anti-Tax Avoidance Directive, agreed in July, already addresses mismatches within the EU. This proposal takes it one step further by tackling mismatches with non-EU countries.

The above proposals will be submitted to the European Parliament for consultation and to the European Council for adoption.