Tax Competition in Europe

1
Tax Competition in Europe

• Leo Neve
• NEVE Tax Consultants
• Rotterdam-Barendrecht
• The Netherlands

2
Elements of a harmful tax regime

• No or low effective tax rates
• Ring-fencing of incentives or transactions
• Lack of transparency
• Lack of effective exchange of information
• Artificial definition of tax base
• Failure to adhere to generally accepted transfer
  pricing principles

3
Elements of a harmful tax regime(2)

• Exemption of foreign source income
• Negotiable tax rate or tax base
• Secrecy provisions
• Treaty network
• Active promotion of tax schemes AND
• NO REAL ECONOMIC ACTIVITY

4
European tax Paradox

• Not willing to give up fiscal sovereignty in
  favour of more harmonisation, with the result of
  more competition and lowering of rates and loss
  of revenue.

5
European union

• The taxation package

6
The tax package

• The tax package of 1 December 1997 consists of
• A code of conduct to eliminate harmful business
  tax regimes
• A measure to ensure an effective minimum level of
  taxation of savings income
• A measure to eliminate source taxes on
  cross-border payments of interest and royalties
  between associated companies.

7
Code of Conduct for business taxation

• By adopting the code, members have undertaken to
  roll back existing tax measures that constitute
  harmful tax competition and refrain from
  introducing any such new measures.
• The report (Primarolo report) assessing the
  measures falling within the scope of the Code,
  was published on 29 Feb 2000.

8
Code of Conduct (2)

• Criteria for measurement of a specific
  potentially harmful tax measure
• Are the provisions applicable to transactions
  with non-residents only or is the privileged
  regime applicable to residents?
• Are the privileges unrelated to the domestic
  economy, i.e. do the provisions affect the
  taxable basis of that country?

9
Code of Conduct (3)

1. Is the privilege granted if there is no real
   economic activity or substance in that country?
2. Do the provisions deviate from the international
   accepted standards (OECD principles) regarding
   the determination of profits in connection with
   domestic activities?

10
Code of Conduct (4)

• 5 Are the provisions transparent enough and can
  they be judged by outsiders?

11
Code of Conduct (5)

• All harmful measures coming within the scope of
  the Code must be dismantled by Jan 1, 2003 and
  benefits must run out by end 2005. Council can
  decide to extend the effects beyond 31 Dec 2005.
• In Ecofin decided that NL, Bel and Irl can
  continue till end 2010

12
Code of Conduct (6)

• Classification into 5 categories
• Financial services
• Insurance vehicles
• Intra-group services
• Holding companies, esp.tax haven dividends
• Exempt and off-shore companies

13
The proposal on taxation of savings income

• The proposal of the Commission aimed at
  guaranteeing a minimum of effective taxation of
  savings income in the form of interest payments
  within the Community. A dual approach was
  suggested. Member states can choose between
  either
• Providing information
• Applying a withholding tax, at a minimum rate of
  20

14
The proposal on taxation of savings income (2)

• All member states will immediately introduce
  system of information exchange, except Austria,
  Belgium and Luxembourg. These countries will
  apply withholding tax.
• 25 of withholding tax can be retained by source
  country.
• Grandfather clause for bonds issued before march
  1, 2001.
• Talks with key non-member countries (United
  States, Switzerland, Liechtenstein, Monaco, San
  Marino and Andorra) to ensure adoption of
  equivalent measures.

15
Proposal on taxation of savings income (3)

• At meeting of ecofin of Jan 21, 2003 the deadlock
  was broken with a political agreement. All member
  states will exchange information, except Austria,
  Belgium and Luxembourg.
• A, B and L will introduce withholding tax
• 15 from 2004 to 2006
• 20 from 2007 to 2010
• 35 from 2010 onwards
• Only on interest on bonds and bank accounts. Not
  on many other financial products.(mutual funds
  etc.)

16
The proposal on taxation of interest and royalties

• Proposal to eliminate taxes at source on interest
  payments and royalties between companies of the
  same group, but based in different Member states.
  Source taxes target the gross amount and does not
  consider deductions to be set against those
  payments.Directive includes anti-abuse provision
  in case recipient is taxed at low rates. Greece
  and Portugal can continue to levy source tax for
  a transitional period.

17
Fiscal State Aids

• The guidelines were adopted by the Commission on
  11 November 1998.

18
Liturature

• http//europe.eu.int/comm/taxation_customs/taxatio
  n/information_notes/
• http//www.tax-news.com/
• Liebman, moving towards tax coordination,
  European taxation, march 1998, IBFD.
• http//www.internationallawoffice.com/

19
Netherlands(1)

• Worldwide taxation.
• Tax rate not very low, but effective 30.
  Non-residents not taxed for interest and
  royalties, dividends 25 (15) withholding tax
• Participation exemption for foreign earned
  income.Fiscal unity or consolidation.Risk reserve
  and double tax relief.

20
Netherlands (2)

• Measures against unfair tax competition in
  domestic system

21
Netherlands (3)

• Measures against unfair competition at the
  international level. Restrictions for companies
  not subject to regular tax regime,passive income
  and tax credit, remittance based income not
  relieved.

22
Taxation of worldwide income

• Q How do we tax income that resident of country
  A receives from sources in country B?
• Residence principle which permits Capital Export
  Neutrality credit for foreign taxes
• Source principle which permits Capital Import
  Neutrality exemption for foreign income.

23
Netherlands

• Worldwide taxation with tax credit for foreign
  taxes on passive savings income and exemption for
  active business income (either incorporated or
  non-incorporated).
• Problems in definition. Subject to tax. Minimum
  tax rate ? Minimum holding period? Active
  business?

24
EU treaty of Rome

• Four freedoms
• Freedom of establishment
• Freedom of movement (labour, employment)
• Freedom of providing services
• Freedom of capital investment

25
Netherlands

• Bosal-decision of EU Court. In Netherlands
  Participation exemption is netto. No further
  costs deductible. Court decides that this is not
  compliant with free movement of capital, because
  an investment outside the Netherlands does not
  receive equal treatment with an investment inside
  the Netherlands.

26
NL Participation exemption (1)

• Conditions
• At least 5 of issued share capital or 5 of
  profit participating rights in fund for joint
  account or in form of membership co-operative
  society.
• Not held as inventory ( current asset)
• Entity subject to tax by foreign sovereignty on
  the basis of profit.

27
NL Participation exemption (2)

• Fine tuning
• Includes profit participating rights and deemed
  capital liability
• Conversion of debt into equity exemption
  postponed.
• Special deduction for value adjustments during
  first five years and for liquidation losses

28
NLParticipation exemptionafter Bosal

• Bosal lifted the prohibition of deduction of
  interest expenses. The response of the government
  has been to introduce a debt-equity ratio and to
  limit the loss carry forward of holding
  companies. Limited to the profits of the current
  year. No carry over of holding company losses.
  Solution fiscal unity with foreign entity

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Conclusion Holding companies

• By having a competitive holding company regime, a
  country can attract business that would otherwise
  choose a different location. Conditions to
  exemption are of importance.