As reported in Issue 2/2018 of our International Tax Newsletter, Austria introduced CFC legislation in line with the EU's Anti Tax Avoidance Directive, with effect for business years starting as of 1 January 2019. Recently, an ordinance by the Austrian Minister of Finance has been issued in this context.
As reported, non-distributed passive income of a low taxed controlled foreign company ("CFC") shall be included in the tax base of the controlling corporation if the following prerequisites are fulfilled:
- the passive income of the CFC exceeds a third of its total income;
- the direct participations held in the CFC by the controlling corporation and its associated enterprises result in an entitlement to more than 50% of the voting rights or the capital or the profits of the CFC; and the CFC does not carry out a substantive economic activity supported by staff, equipment, assets and premises.
A CFC qualifies as low-taxed if its effective foreign tax rate is not more than 12.5%. In order to determine the effective foreign tax rate, the CFC's income is to be calculated in line with Austrian tax provisions and contrasted to the foreign taxes actually paid. Pursuant to the Ordinance on the Application of Controlled Foreign Company Rules and the Switch-Over Provision in Case of Passive Income Earning Low Taxed Companies ("Ordinance"), the following applies:
- Whether a CFC qualifies as low taxed has to be determined for each single business year.
- For determining the CFC's income, Austrian source income for which Austria has the taxation right is disregarded. Correspondingly, the respective Austrian tax is disregarded for calculation of the effective foreign tax rate.
- Only the income actually earned by the CFC is taken into account, but not any income attributed to the CFC under CFC rules. However, for calculation purposes, Austrian tax exemptions and the switch-over provision regarding dividends and capital gains that would apply if the CFC were tax resident in Austria apply mutatis mutandis to dividends and capital gains received by a CFC from its low-taxed passive income earning subsidiaries.
- The amount of foreign taxes payable by a CFC in a business year shall be demonstrated by the taxpayer; should the actual amount of tax paid eventually change to such an extent that the (non-)applicability of the CFC rules changes, this qualifies as a retroactive event which can lead to the re-calculation of Austrian corporate income tax of the controlling corporation for the relevant business year.
- When calculating the effective foreign tax rate, only those foreign taxes are relevant which are comparable to Austrian corporate income tax in respect of their tax basis and which directly affect the CFC's income. However, in connection with foreign income of a CFC which is subject to deemed application of the Austrian switch-over rules in connection with a participation held, also the respective foreign taxes paid by the CFC's subsidiary are relevant.
- If a CFC is only subject to taxation on its income upon distribution of dividends to its shareholders, then the nominal tax rate is relevant for determining whether low taxation is given.
- Taxes that are refundable to the CFC or its shareholders are deemed not to be effectively paid. Should such a refund factually not occur within nine business years, and should consequently the foreign effective tax rate exceed the 12.5% threshold, then a retroactive correction of Austrian corporate income tax is possible.
- A CFC shall not qualify as low taxed if its effective tax rate does not exceed the 12.5% threshold only due to the fact that foreign tax rules differ from Austrian tax provisions as regards depreciation, accruals and the offsetting of losses.
- If the CFC's income is negative, then its nominal tax rate is to be taken into account.
Pursuant to the Ordinance, the one-third threshold applying to a CFC's passive income is to be calculated separately for each business year. However, if in a business year (i) the passive income exceeds the threshold by not more than 25% (i.e. the passive income amounts to at most 41.66%) or (ii) the CFC's active income is negative, the following applies: The CFC provision does not kick in if the one-third threshold is not exceeded when cumulatively looking at the current and the two preceding business years.
Regarding substance of the CFC, the Ordinance outlines the following: Whether a CFC carries out a substantive economic activity has to be determined by taking into account all facts and circumstances. A prerequisite for a substantive economic activity is that the CFC has a level of personnel, equipment, assets and premises which is economically appropriate given the CFC's claimed economic activity. Particularly in connection with the following activities there exists the (rebuttable) assumption that they are not substantive economic activities:
- the mere holding and sale of participations;
- the passing through of assets; and
- the pooling of intangible assets regarding which the corporation has not substantially borne the production costs itself.
In case a CFC carries out several activities, there is the (rebuttable) assumption that an activity is substantive if:
- at least one third of the personnel, equipment, assets and premises are used for such economic activity; and
- at least one third of the total income is obtained from such economic activity.
When determining a CFC's income, positive and negative passive income have to be offset. Active income must not be taken into account. If the negative passive income exceeds the positive passive income in a given business year, then the exceeding amount can be offset against positive passive income in succeeding business years.
Finally, the Ordinance clarifies under which circumstances an Austrian tax resident corporation is subject to a switch-over (from tax exemption to tax credit) regarding dividends and capital gains received from low-taxed subsidiaries that have a predominant focus on earning passive income.
A subsidiary has a predominant focus on earning passive income if its passive income amounts to more than 50% of its total income in a business year. However, the following exceptions apply:
- In case the passive income in a given year exceeds the threshold by not more than 25% (i.e., the passive income amounts to at most 62.5%), the switch-over provision does not kick in if the 50% threshold is not exceeded when cumulatively looking at the current and the two preceding business years.
- In case the active income amounts to less than 50% in a given year due to special circumstances (such as start-up losses or economic slump), the following applies: In order to determine whether there is a predominant passive focus, also capital and personnel employed can be taken into account. In that case the subsidiary is deemed not to have a predominant focus on earning passive income if the Austrian corporation proves that capital and personnel of the low taxed subsidiary have been employed almost exclusively for earning active income.
When determining whether the switch-over provision applies to dividends received by an Austrian corporation, the circumstances in the year in which the underlying profits were generated by the foreign subsidiary are decisive. If distributed dividends stem from several years, separate assessments have to be effected for each year. As a consequence, the switch-over provision might only partly apply.
In case of capital gains from the disposal of a qualifying international participation, the following applies: A predominant focus on earning passive income exists if the total passive income exceeds 50% of the total income of the last seven full business years. However, no switch-over applies if the shareholder demonstrates that the capital gains primarily stem from the active part of the business. In case the switch-over provision applies, it applies to the entire capital gains.
Finally, the Ordinance states that passive income that has already been taken into account for CFC purposes is to be deducted from the calculation basis for purposes of the switch-over provision.