A good friend of mine, Roustam Vakhitov, is a renowned
lawyer and fiscal expert with respect to tax payments and tax regulation in the
European Union.
A few days ago, he
sent me a paper, that contained his research with respect to the new
corporate tax regulations, deployed by the European Union. These regulations will
come into effect on 1 January 2016.
What these tax regulations should achieve, is the
following:
- Genuine,
financial
cross-border traffic between holdings, international head offices and executive subsidiaries in different countries, with the purpose of
normal business execution and cash management, should remain possible at fair
tax rates within the European Union, as such that companies will not get taxed twice or will get taxed with higher than necessary rates;
- International fiscal constructions, however, which are solely deployed with the purpose of tax avoidance/evasion, should be made impossible.
The following snippets come from the article of Roustam
and his partner Dmitriy Mikhailenko. Some will be accompanied by my comments:
30
January 2015 Anti- offshore changes to the EU Directive on Parent and
Subsidiary companies: what will change as of 2016
The
important changes to the Council
Directive of the European Community "On the common system of taxation
applicable in the case of parent companies and subsidiaries of different Member
States" (Council Directive 2011/96 / EU, hereinafter - the Directive).
In
accordance with the Directive the subsidiaries are effectively exempt from
withholding taxes on dividends and taxes on profit distributions in case of
making payments to the parent companies. This option was misused sometimes to
minimize taxation.
For example, a Russian or Ukrainian beneficiary may own an operating
company in his jurisdiction through the Dutch, Latvian or Luxembourg holding
company and an offshore company on top of it. In case of payment of dividends
from Luxembourg / Latvia / the Netherlands directly to offshore, such dividends
shall be subject to a withholding tax at the rate of 15%.
To reduce the tax burden, some consultants recommended to interpose
over the Luxembourg, Dutch or Latvian company a Cyprus, Malta or another
holding company in the country, in which the dividends are tax exempt if paid
to the offshore.
In this case, dividends from Latvia, the Netherlands and Luxembourg
to Cyprus would be tax exempt according to the rules of the Directive on parent
and subsidiary companies, and from Cyprus such payments would be tax-exempt in
accordance with the local legislation.
One could call these blatant fiscal constructs ‘tax
porn’: the creation of artificial companies and holdings – mainly on paper –
with the sole purpose of reducing tax payments, for executive companies and
subsidiaries, virtually to nought.
Such fiscal constructs are very disruptive for all
tax-receiving countries involved, as these constructs rob the countries from
their desperately needed tax yields.
Besides that, such fiscal constructs are also devastating for the unity and trust between countries in large multinational entities, like the European Union. The Netherlands, Ireland and Luxembourg are examples of such countries with "antisocial" tax laws, which could be used for tax avoidance (or evasion).
(Corporate) taxes by themselves are a drag, but they
are used by governments to pay for unemployed people, healthcare and elderly
care, roads, infrastructure and development, as well as many, many more purposes.
When large companies make use of such infrastructures
and facilities in countries, but refuse to pay even the tiniest amount of money
for it, it means that all tax payments in such countries should be coughed up
by private citizens and small and medium enterprises.
Besides having to pay more than their fair share of taxes,
these SME companies see their competitive powers dramatically decrease, in
favour of the already powerful large companies with their tax advantages.
These tax advantages for large
companies make a level playing field in such countries impossible, as they act
as EPO-dopage in the ‘Tour de France’ or steroids in baseball.
In
order to prevent such practice, on January 27, 2015 the following changes to
the Directive were adopted:
- The
above-mentioned tax benefits under the Directive shall not apply if the
arrangement is recognized as not genuine;
- The
arrangement is presumed not to be genuine if its only purpose is to obtain tax
benefits (i.e., there is no other economic feasibility of operations than
obtaining tax benefits);
- Unreality of the arrangement is identified
through a complex study of all the facts and circumstances of its functioning;
- Not the whole arrangement may be admitted as not genuine, but only some of its elements (along with application of the negative effects exactly to such elements);
In plain English, this means that companies may use
foreign subsidiaries or holding companies to achieve a reduction of their corporate
and withholding taxes, when these companies do a genuine share of the labour, services
or production activities in their respective production or value chains.
However, when these holdings or subsidiaries are only created
as an ‘administrative entity’, without a real function in the production or
value chain, they might not be used anymore for tax avoidance (evasion).
- The
Member States may introduce more tough conditions related to payments between
subsidiaries and parent companies in their national legislation compared to the
Directive.
- The EU Member States are obliged to implement the above changes in the Directive not later than 31.12.2015.
This
means that starting from 2016 the tax exemptions on dividends paid to
Cyprus/Malta in the example above, or to any other similar jurisdiction shall
not be granted if the Cyprus company does not perform the real activity and
there is no economic justification of its presence in the arrangement.
The
Directive did not forbid the countries to set their own measures to combat tax
evasion. In the Netherlands such measures have started to be effectively
applied since 2012, and an example of the arrangement 'the Netherlands-Cyprus'
is a bit outdated, but now the European Commission obliged all the EU countries
to amend their legislation providing for such measures of prevention of the tax
evasion.
Several
tendencies may be presumed as a result of the above changes.
Firstly,
it is unlikely that the taxpayers will massively create genuine activities at
every level of the multi-level holdings. Most likely, the structures will be
simplified.
Secondly,
the taxpayers will be more likely to choose as the main jurisdictions the
countries in which there is no withholding tax on payments to non-residents
(Cyprus, UK, Malta, Latvia etc.).
Considering
the Russian law on CFCs, many Russian taxpayers will put up with the obligation
to pay 15% tax, especially since it will be offset against the Russian personal
income tax of 13%, and will remove the superstructures over Dutch and
Luxembourg holding companies.
For
the Ukrainian beneficiaries such dividends shall be subject to personal income
tax at the rate of 20%, which also shall not exceed the rate of withholding tax
under the payment from the Netherlands, and taking into account the tax paid in
the course of the payment will not cause additional taxation in Ukraine.
Thirdly,
some countries may abolish the withholding tax on dividends - Luxembourg
already does not tax the dividends paid to residents of countries with which
there is a tax treaty. It is possible that this tax will be eliminated
entirely.
It can also be assumed that if after the
implementation of changes to the Directive the tax authorities of the EU
determine that the European arrangements of the Ukrainian or Russian
beneficiaries are artificial, the additional taxation is possible. In addition,
the practice of obtaining preliminary tax rulings may tighten, and the risk of
performing transactions without receiving them shall increase.
Summarized, it might be expected that the
aforementioned measures will lead – one way or the other – to both a declining
number of artificial fiscal constructs, higher tax yields for individual countries, as well as to a declining amount of money,
withheld by companies, through tax avoidance or evasion. That is very good news in my humble
opinion.
Unfortunately, such measures cannot be introduced
overnight. This means alas that these measures will only come in effect at
January 1st of next year. Of course, that is much too late in the eyes of many
people, including myself.