Corporates play off EU rules to pay minimal tax
03 March 2013
Posted by: SAIT Technical
By Tom Bergin (Reuters)
Finance Minister said that Ireland is a friendly country for investors
and that the 12.5% tax rate is not negotiable. This rate is one of the
lowest in the developed world. Fellow EU countries have attempted to
pursuade Ireland to increase this rate. The OECD recently called for an
overhaul of the entire international tax system.
In November last year, members of
the American Chamber of Commerce gathered at the Four Seasons hotel in Dublin
for a Thanksgiving lunch of roast turkey and pumpkin pie and a declaration of
hospitality from Ireland’s finance minister.
"We’re a friendly country for
investors and one of the key elements of the friendliness of the package is the
12.5 percent tax rate,” Michael Noonan said. "I want to tell you once more,
that’s not negotiable.”
Noonan’s comment alluded to attempts
by some fellow EU countries to persuade Ireland to increase its official corporation
tax rate, one of the lowest in the developed world. The 12.5 percent rate,
Irish politicians often say, is core to Ireland’s brand as an investment
But low headline taxes are just one
reason companies like to be based in Ireland, and not the most important. Many
of the multinationals gathered at the Four Seasons pay far less than 12.5
percent tax, their accounts show. Ireland helps them do this by generously
defining what profit it will tax, and what it will leave untouched.
And it’s not just Ireland. The
amount of profit a country taxes has been shrinking for multinationals in many
European countries over the past decade or so, experts say – a fact easily lost
in talk about headline rates. Countries have found that reducing the base –
agreeing to not tax some profits that a company makes – helps attract firms
and, they hope, jobs.
But as recent protests against
corporate tax avoidance in Britain highlight, voters are beginning to question
that tactic. If taxpayers see governments helping companies to avoid taxes, it
could hurt their ability to tax everyone else.
That is a point made by the
Organisation for Economic Co-operation and Development (OECD), a Paris-based
club of rich economies, which a week ago called for an overhaul of the entire
international corporate tax system.
Most national tax rules predated the
widespread rise of multinationals, it said, and desperately needed to be
updated. Perhaps the most pressing concern was the tax base.
"The problem of the tax base is
clearly more important than the tax rate,” says Sven Giegold, a German member
of the European Parliament for the Green Party and a member of the EU
parliament’s committee on economic and monetary affairs. "And that is,
interestingly, exactly the opposite of the public debate.”
The situation is particularly severe
in Europe, a single market of more than 500 million people. While tax
competition is a global phenomenon, European countries are especially
vulnerable, because EU rules bar members from hindering capital flows.
Multinationals that set themselves
up in smaller countries such as Ireland, Luxembourg or the Netherlands can pay
low taxes, not just on profit earned in those places, but also on that earned
in bigger markets such as the UK or Germany. And sometimes, they may not have
to pay any tax at all on profits earned in those bigger markets. Their host
countries allow them to send it offshore to tax havens.
"This is a huge problem in the EU
because you have a common market but you have 27 different corporate tax
systems,” says Kimberly Clausing, a professor of economics at Oregon’s Reed
College, specialising in corporate tax avoidance.
If you look at headline tax rates
alone, you might think tax competition in Europe had ended. Between 1980 and
2007, average EU corporate income tax rates fell from more than 45 percent to
almost 25 percent, according to data from the OECD and the EU. Since then,
though, they have shed just 1 percentage point.
But the more stable headline rates
say nothing about how countries define a company’s tax base. Take, for example,
the Netherlands, which has a history of tax leniency dating back 120 years.
Today, its headline corporation tax rate of 25 percent is above the EU average.
But by being selective about how it defines taxable profit, it offers firms a
much lower effective tax rate, tax advisers and executives say.
The country allows foreign companies
to reduce their taxable profit by making payments to affiliates for loans, the
use of brands and other services, says Kees van Raad, a professor of
international tax law at the University of Leiden. And while many other
countries charge withholding taxes on such payments, the Dutch usually do not.
Tax deals are often agreed in
advance with companies that are considering basing themselves in the
Netherlands, so they know where they stand.
That was the experience of coffee
chain Starbucks, which established its European headquarters in Amsterdam in
2002. The company received a ruling that gave it a "very low” tax rate, Troy
Alstead, the company’s chief financial officer, told a UK parliamentary
committee in November last year, although the firm declined to provide further
details. In 2011, Starbucks’ European headquarters declared a pretax profit of
just e500 000 (R6 million) on sales of e73m. Starbucks says it follows the tax
rules of all the countries where it operates. The Dutch tax authority declined
Some tech firms shift bigger
amounts. Amazon.com’s main operating unit, based in Luxembourg, faced a
headline tax rate of 30 percent. But for 2011 it managed to report a taxable
profit of just e29m on e9.1 billion of sales at its EU headquarters by paying
hundreds of millions to a tax-exempt affiliate, also based in Luxembourg.
Such policies mean firms like Amazon
– which employs thousands of people in France, Germany and the UK, and has
billions of dollars of sales in these countries – don’t have to declare any
profits there. Instead, it can apportion almost all its European profits to an
office of 200 people in Luxembourg City.
The Luxembourg tax office declined
to comment. Amazon said it abided by the tax rules in every country where it
Similarly, Google’s global
headquarters in Dublin makes tax-deductible payments to a Bermudan subsidiary
via a Dutch affiliate. The arrangement is known as a "Double Irish Dutch
sandwich”: the Irish-registered entity cuts its taxable profit by paying a
Dutch affiliate, which pays a subsidiary in a tax haven. Using a Dutch
affiliate means withholding taxes don’t have to be paid.
In 2011, Google Ireland reported
taxable profit of e24m on turnover of e12.5bn. Its Bermudan unit was
responsible for "substantially all” of the group’s $8bn (R71bn) in overseas
pretax profit, according to regulatory filings.
Google said it abided by the tax
rules in every country where it operated. The Irish tax authority and
Department of Finance declined to comment on Google or other companies,
although Irish officials said the approach was to simply agree a level of
profit that could be reasonably attributed to the number of employees in the
country. In Google’s case, this was 2 000 people at the end of 2011, most of
those in telesales. One senior tax official said: "We charge tax on the profits
that arise from the activities carried out here.”
There is no evidence that countries
like Ireland or the Netherlands are breaking international tax rules, says
Michael Devereux, the director for Oxford University’s Centre for Business
Taxation, adding that countries are free to design their tax systems as they
Larger countries have joined the
competition. One way to compete is by introducing a "patent box”, also known as
an "innovation box”. In recent years, France and Spain, as well as the
Netherlands and Belgium, have all adopted such a system, offering tax rates as
low as 5 percent. Britain is due to introduce its version in April.
Patent boxes allow companies to pay
a lower tax rate on profits linked to patented innovations. Governments say it
is a way to encourage innovation and high-value jobs in research and
development. However, critics see it as tax avoidance, albeit
government-sanctioned and in a palatable form.
Typically, a patent box tax system
will ignore a large chunk of earnings made on a product that contains a
"Even if the patented element of a
product is minor, 100 percent of income arising from the product falls into the
regime,” accountants KPMG wrote of the UK patent box in a brochure.
The mechanism rewards
commercialisation of existing patents, rather than the development of new ones,
says Helen Miller, a senior research economist at the Institute for Fiscal
Studies, an independent think tank. The European Commission estimated in
December that around e1 trillion was lost to tax evasion and avoidance every
year, and called on member states to co-operate better.
One radical solution – approved in a
vote last September in the European parliament – is for the EU to adopt a
totally new approach to taxing companies, known as the Common Consolidated
Corporate Tax Base (CCCTB).
This would see countries apportioned
a share of a company’s profits based on sales and staffing; each could then tax
that profit how they saw fit.
Such a move would make it much
harder, if not impossible, for companies to shift profits. However, the
European Parliament only has advisory powers in relation to tax.
A European Commission spokeswoman
said the commission backed the idea, but every member state had to agree before
a directive became binding. Ireland, the Netherlands and the UK have either
opposed the CCCTB or withheld support.
"This is a race to the bottom,” says
Giegold, the Green politician. "Each country which applies these low rates, and
the more countries there are that use these special regimes, the harder it is
to get rid of them.”