EU State Aid The Potential Impact of the Santander Case on Apple ........................................................................................................1 EU PANA Committee Findings.....................................................................................................................................................................2 Australia Tax Updates .................................................................................................................................................................................2 Germany Loss Carry Forward Rules to be Relaxed Retrospectively ..........................................................................................................3 Poland Tax Updates .....................................................................................................................................................................................3 United Kingdom HMRC Addresses Tax Avoidance "Enablers" ..................................................................................................................4 United States New "Earnings Stripping" Rules Rewrite History with Respect to Debt-Equity Determinations .....................................5
EU State Aid The Potential Impact of the Santander Case on Apple
In European Commission v. Autogrill Espana (C-20/15P), Banco Santander (C-21/15P) (Santander), the European Commission (EC) addressed State Aid issues in the use of a Spanish holding company structure. This ruling is interesting to consider as we continue to wait for the release of the EC's full report in the State Aid case against Apple.
European Union (EU) member states have competed with each other in many ways to make their respective jurisdictions the most attractive location for an international group. From a tax perspective, the respective arguments in favour of (or against) a particular jurisdiction have traditionally centred on the availability (or otherwise) of its participation exemption and access to double tax treaty networks.
For example, to make Spain an attractive location in comparison to certain other EU member states (such as the Netherlands, Luxembourg, Ireland and the EU), Spanish holding companies were allowed a tax deduction for the amortisation of the consolidated goodwill arising on the acquisition of a non-Spanish subsidiary, as well as a more traditional participation exemption and tax treaty benefits. This Spanish tax deduction for goodwill was designed to make Spain an attractive jurisdiction from which a Spanish holding company could acquire a non-Spanish target companies. (It should be noted that no tax relief was given for the amortisation of the consolidated goodwill generated on the acquisition of a Spanish subsidiary.)
Advocate General's Position1
In Santander, the Advocate General had to analyse whether the Spanish holding company rules contravened Article 107(1) TFEU2, which prohibits aid "favouring certain undertakings or the production of certain goods". In determining whether certain undertakings had been "favoured," the Advocate General applied the Court of Justice of the EU's (CJEU's) established jurisprudence on State Aid, which centres around the concept of "selectivity". At issue was whether a Spanish holding company that had acquired non-Spanish subsidiaries enjoyed a "selective advantage" over a Spanish holding company that had made no such acquisitions. When the question is framed this way, the answer is clear cut. Selfevidently, the Spanish tax system gave a Spanish holding company which had acquired non-Spanish subsidiaries a tax advantage (i.e. relief for the amortisation of the consolidated goodwill) which was not open to a purely domestic Spanish group. As a result, the Advocate General found that this aspect of the Spanish holding company regime constituted State Aid.
The Apple Dispute
The Republic of Ireland has a low nominal corporation tax rate (12.5%) and it has historically had "light touch" transfer pricing rules. In particular, the Irish transfer pricing rules have not fully applied the "arm's length" standard.
The matters at issue in this dispute covered the Irish taxation of two Irish incorporated companies, ASI and AOE. ASI and AOE were the European sales hubs for the Apple group. In particular, ASI and AOE sold Apple products using a sales force that was based in Ireland.
1 Traditionally, but not always, the Court of Justice of the EU follows the opinion of its Advocate General. 2 Treaty on the Functioning of the European Union.
Although ASI and AOE were Irish incorporated companies, their places of "central management and control" were located outside Ireland. This produced differing tax effects in Ireland and in the US:
Ireland only applies a "central management and control" test to establish tax residency and, in consequence, the Irish Revenue Commissioners treated ASI and AOE as non-Irish tax resident companies with Irish permanent establishments.
The US generally only looks at the place of incorporation in determining the tax residency of a company, and not its place of central management and control. This meant that ASI and AOE were treated, from a US perspective, as Irish tax resident companies.
There was, therefore, a mismatch between the US and the Irish tax treatments of ASI and AOE. The two jurisdictions treated the companies as tax resident in different jurisdictions, and, therefore, arguably ASI and AOE were "stateless" for tax purposes.
From an Irish tax perspective, ASI and AOE were treated as Irish permanent establishments of non-Irish tax resident companies. ASI and AOE generated substantial revenues from their Irish based sales operations. At issue was how ASI and AOE should calculate the profits of their Irish permanent establishments for Irish tax purposes. Of particular relevance was how to calculate the quantum of the deduction which the Irish permanent establishments should be given for the use of the Apple IP and the associated goodwill. The Irish permanent establishments obtained a ruling from Ireland's Revenue Commissioners that the profits of the Irish permanent establishments were to be calculated on a "cost plus" basis with the consequence that the bulk of the profits escaped tax in Ireland. In addition, as the US treated ASI and AOE as Irish tax resident companies, there was no immediate US tax bill to pay on those profits.
Intersection of Santander and Apple
The CJEU will have to determine whether the Irish permanent establishments of ASI and AOE enjoyed a "selective advantage" which is not open to Irish tax resident companies.
In Santander, the Advocate General considered whether Spanish tax law gave a legislative advantage to certain classes of taxpayer. An analysis of the Irish tax system will need to be carried out by the CJEU and it may have a different result than Santander. Irish tax law has not historically applied the arm's length standard in full on transfer pricing matters, and it may be the case that ASI's and AOE's taxable profits were not calculated differently than the way in which such profits would have been calculated on a purely domestic Irish transaction. In Santander, the Advocate General applied a de jure test to determine whether the Spanish holding company in question enjoyed a "selective" advantage and, on those facts, the relevant Spanish holding company enjoyed such an advantage. Depending on how Irish transfer pricing law is applied, it may, therefore, be the case that ASI and AOE pass the de jure test.
However, the question of whether or not an undertaking enjoys a "selective advantage" may not just be a de jure test and the CJEU may apply a de facto standard in the Apple litigation. For example, applying a de facto test the CJEU may look at the effective tax rates of a domestically owned Irish group and compare those rates to the rates enjoyed by an Irish permanent establishment or subsidiary of a non-Irish owned group. If there is a substantial mismatch between the different outcomes, it may be the case that the CJEU can conclude that ASI and AOE enjoy a "selective advantage".
Therefore, although Santander is a useful starting point to the arguments which will be heard before the CJEU in the Apple litigation, it does not exclusively delineate all of the arguments which will be heard before the court.
EU PANA Committee Findings
The European Parliament's (EP's) Inquiry Committee on Money Laundering, Tax Avoidance and Tax Evasion (PANA) recently held a public hearing on the Panama Papers. Their key findings were as follows:
1. Thirteen of the 20 largest global banks were involved in the Panama Leaks scandal; therefore banks and accounting firms should be the starting point for further investigation.
2. Banking supervision has to be further strengthened as some banks circumvented existing rules; including those regarding "suspicious transaction" reporting.
3. EP shall ask member states if there has been an investigation in cases where the law firm Mossack Fonseca was involved.
4. There is still lack of transparency when lawyers are listed as beneficial owners, especially in the Swiss market; more generally, the role of lawyers and "middlemen" should be investigated further.
5. Legality of establishing a shell company is a fundamental problem and needs to be tackled.
6. There was a clear call for stronger collaboration among EU tax authorities.
Australia Tax Updates
Netflix Tax and GST Cross-border Amendments
The Australian government has passed amendments to the Goods and Services Tax (GST) law that extends GST to digital products and services supplied by non-residents. Last year, there was significant media scrutiny on the inequitable GST treatment of Australian digital streaming services supplied to Australian consumers (which attract GST) compared to Netflix and other digital products supplied by non-residents (which do not). In response, the government enacted these amendments.
While non-resident digital suppliers are the main targets, the amendments also catch any non-resident supplier that provides services to Australian consumers, such as consulting and professional services. Under the amendments, non-residents that provide digital and other services must register for GST in Australia and remit GST on such supplies where they exceed the AU$75,000 GST registration threshold.
There are some significant problems with the new rules, including the difficulties non-residents face in registering for GST in Australia and the Australian Taxation Office's (ATO's) compliance difficulties in enforcing the rules (given the jurisdictional concerns).
Any non-resident that provides digital products or other services to consumers in Australia will be affected by these proposed amendments and will need to understand the impact of the new rules on their businesses. This measure will commence on 1 July 2017.
The government has also enacted GST amendments to business to business cross-border transactions. These amendments, which commenced on 1 October 2016, make major changes to the crossborder rules and are likely to impact on almost every business to business cross-border transaction. Every such arrangement should be reviewed in the light of the new rules and many cross-border contracts will likely need to be updated.
The government has also announced that GST will be extended to low value goods (i.e. those worth less than AU$1,000) imported by consumers from 1 July 2017. The intention is that the same nonresident registration model for the Netflix tax will apply to low value imported goods. No draft legislation has been released for this measure, however, it is expected in the near future.
New Stamp Duty/Land Tax Surcharges for Foreign Buyers in NSW, Victoria and Queensland
A number of states in Australia have recently introduced a stamp duty surcharge on foreign purchasers of residential property. A foreign purchaser includes an individual who is not ordinarily resident in Australia (unless they are an Australian citizen or certain NZ individuals). It also includes foreign controlled companies and trusts. The concept of residential premises is also very wide, and can include development sites for premises to be used for residential purposes, including mixed commercial/residential premises. These stamp duty surcharge measures came into force between June to October 2016 in three states, including New South Wales (NSW), Victoria and Queensland.
Land tax surcharges have also been introduced, which in some states impact on all landholdings (not just residential). A summary of rates is provided below:
4% surcharge on the purchase of residential property by foreign purchasers
0.75% annual land tax surcharge on residential property owned by foreign owners with no land tax threshold
7% surcharge on the purchase of residential property by foreign purchasers
1.5% annual land tax surcharge for foreign property owners for all types of land
3% surcharge on the purchase of residential property by foreign purchasers
Germany Loss Carry Forward Rules to be Relaxed Retrospectively
Under current German tax law, an acquired German corporation generally cannot utilise its losses carried forward (LCF) after a change of control where more than 50% of its shares, voting rights or the like have been transferred, subject to certain exceptions. Under proposed legislation the exceptions shall be significantly extended to the effect that relevant LCF may be utilised despite a respective transfer of shares. The main conditions for continued use of the losses are as follows: (i) no change of business in the loss making corporation, determined by considering its products, services, markets, supply chain, qualifications of staff, etc. and (ii) no discontinuation or suspension of business, no addition of business or changes to the company objectives. Both conditions need to be met for the three fiscal years of the company prior to setting off LCF as well as going forward. A respective application for continued use of the losses needs to be filed. The new regulations are expected to be passed before the end of 2016 and shall become effective retrospectively for any share transfers as from 31 December 2015.
These new rules will benefit all types of industries, not just start-up situations with several rounds of funding and potential shareholder changes albeit most start-ups are likely to applaud the new regulations. For acquisitions of German loss making entities within 2016, the regulations may present an unexpected but quite attractive windfall for any purchaser.
Poland Tax Updates
Poland has enacted several new tax laws, which may or may not actually come into effect. A summary of the highlights is below.
Retail Sales Tax
As of 1 September 2016, a new tax on retail sales was introduced in Poland. The tax is payable by larger retailers (e.g. all vendors selling goods to consumers who meet the minimum monthly revenue level of PLN17 million or approximately 4 million).
The tax covers retail sales of goods to consumers sales to persons (including individuals) engaged in economic activity are not taxed. Internet sales will generally be excluded, as will be sales of utilities, certain drugs and nutritional foods.
The taxable basis is the monthly revenue (excluding VAT) of the retailer from sales of goods to consumers. Generally, the tax is determined based on the revenue recorded as cash sales, but it also includes advance payments, instalments, prepayments and down payments.
The sales tax has two rates, one for sales between PLN17 million and PLN170 million (0.8%) and one for sales above PLN170 million per month (1.4%). It is settled on a monthly basis by the 25th day of the following month. Thus the first payment of the tax is due on 25 October 2016.
On 19 September 2016, the EC announced it had opened an indepth investigation into a Polish tax on the retail sector. The EC has concerns that the progressive rates based on turnover give companies with a low turnover a selective advantage over their competitors in breach of EU state aid rules. On the same day, the EC issued an injunction, which required Poland to suspend the application of the tax until the EC had concluded its assessment.
A similar situation occurred in July 2016, when the EC made a decision on a progressive turnover-based tax on the retail sector in Hungary. The EC found the Hungarian tax to be in breach of EU State Aid rules because it granted a selective advantage to companies with lower turnover.
As a response to the injunction, the Polish Ministry of Finance announced on 30 September 2016 a draft regulation suspending collection of the retail tax until the end of the year. At the same time, the government announced it is working on the draft amendment act, which introduced the retail tax in a different form. Thus, it is not certain if taxpayers will ever pay the retail tax. Some say the tax on retail chains will be reintroduced, but in the form of a real estate tax imposed on shops exceeding a certain size.
The Polish government's program of increased spending on social expenditures creates an environment where tax increases can be expected. For example, there is a proposal to combine the nowseparate payments for Personal Income Tax (PIT), Social Insurance Payments (ZUS) and National Health Insurance (NFZ) into one "supertax", and a significant expansion of the VAT Act is pending. As of July 2016, a General Anti-Avoidance Rule (GAAR) was implemented into Polish Tax Ordinance together with numerous Targeted AntiAvoidance Rules (TAAR) in the Corporate Income Tax Act.
On the positive side, a new decreased 15% corporate income tax rate will be implemented from January 2017. It will apply to small taxpayers (revenues including VAT less than 1.2 million) and to entities just beginning their business activity. Further, the government has announced that it intends to implement Real Estate Investment Trusts to bring more real estate investment onshore.
United Kingdom HMRC Addresses Tax Avoidance "Enablers"
Bernhard Gilbey, Elizabeth Wilson
On 17 August 2016, HMRC issued a consultation document on proposals to introduce "tough new penalties for accountants, tax planners and advisers who provide advice on how to avoid tax". This latest salvo, whilst aimed at so called "enablers" of inappropriate tax avoidance, is of direct relevance and concern to the wider business community. Can clients still be confident that their advisers will notify them of legitimate tax mitigation opportunities?
The consultation document says that its aim is to "make sure that tax avoidance is rooted out at source" and that "this action will target
all those in the supply chain of tax avoidance arrangements". The intention is for penalties to be applied to every step of the supply chain that led to that avoidance.
The consultation envisages that each "enabler" will be subject to a penalty in relation to each end-user who was the beneficiary of the arrangements they enabled with the penalty calculated by reference to the tax ultimately avoided. HMRC say that they do not intend to link the penalty to the amount charged by the "enabler" or its resulting profits but want it to be tax-geared, nothwithstanding that the tax that has been avoided is not that enabler's tax.
The proposal is not to link the enabler's penalty to whether the arrangements are unsuccessful in "avoiding" tax. The proposed triggers are where arrangements:
Have been counteracted by the UK GAAR;
Have been given a follower notice (broadly speaking, a notice HMRC can issue a taxpayer with if they consider that the point at issue in their case has been decided in another person's case);
Are notifiable under the Disclosure of Tax Avoidance Schemes (or the VAT equivalent); or
Have been the subject of a targeted anti-avoidance-related rule or unallowable purpose test in a specific piece of legislation or regime.
Unhelpfully, three of these triggers are decided ex-post facto, which could often result in a no-win situation for the adviser. If the adviser decides to not advise a client of a tax planning opportunity, the adviser may be liable for breach of contract or tort (the boundaries of which were most recently tested in the UK in 2014) (or, under US concepts, in violation of the adviser's duties to clients). At the same time, if the adviser does advise a client of a tax planning opportunity, the adviser may later be liable under these proposals to a penalty from HMRC.
The intended targets include those who earn fees and commissions in connection with marketing arrangements and company formation agents, banks, trustees, accountants, lawyers and others who are intrinsic to and necessary to the machinery or implementation of the avoidance. In other words, to target "the supply chain of advice and intermediation between those who develop tax avoidance arrangements or schemes and those who ultimately use them in an attempt to pay less tax than parliament intended".
HMRC say that they will "provide safeguards for those who...were unaware that the services they provided were connected to wider tax avoidance arrangements", but it is unclear how that awareness will be tested and whether the often used concept of "ought reasonably to have known" will be included. Nor is it clear whether the enabler will need to know or have the ability to find out details on the entirety of the arrangements even though factors like the number of ultimate end-users and their tax saving will have a direct impact on that enabler's penalty.
Once more we see the UK tax authorities moving away from trying to plug the ever present individual holes in the dam and trying to divert the water further upstream by changing attitudes and behaviours to tax planning generally. If, as is likely in the current political climate, the proposals are taken forwards, the next step will be for a revised paper to be issued with more detail on the policy and draft legislation. It is hoped that the revisions will take into account the practical impact of these proposals and be a more measured response to HMRC's concerns.
United States New "Earnings Stripping" Rules Rewrite History with Respect to Debt-Equity Determinations
Mitch Thompson, George Schutzer
On 13 October 2016, the US Treasury Department (Treasury) and the Internal Revenue Service (IRS) issued long awaited final and temporary regulations under Internal Revenue Code Section 385 addressing the tax treatment of related party debt. After these rules were first proposed in April 2016, individual corporations, tax practitioners and trade groups alike expressed strong and nearly unanimous concern that the new rules would affect routine intercompany lending and cash management arrangements, impose unprecedented administrative burdens on groups of companies doing business in the US and result in material compliance costs. While the final and temporary regulations largely retain the framework of the proposed regulations, Treasury and the IRS did significantly narrow the focus of the rules by expanding exceptions for short-term and ordinary course debt and exempting foreign and other borrowers. The final regulations also postpone and relax some of the onerous compliance rules compared to the proposed regulations. All of the changes made to the final and temporary regulations are generally taxpayer-friendly.
The final and temporary regulations modify the proposed regulations in three main areas:
The regulations no longer include a "bifurcation rule" by which debt instruments issued between members of a 50% related group can be treated in part as shares and in part as debt for tax purposes.
The regulations now apply only to certain US entities.
The regulations further limit their scope by exempting debt issued by S corporations and non-controlled US REITs and RICs.
The new rules remain largely unchanged otherwise. For example, both the main "recast rule" and the "funding rule" (which are the two main ways that debt instruments are recharacterized as equity for tax
purposes under the rules) continue to apply to the same categories of transactions as they did in the proposed regulations. For example, a debt instrument distributed to a parent company or that is issued to a related party in connection with an intercompany share or asset acquisition can be treated as equity under the main "recast rule." In addition, a related party debt instrument not otherwise subject to that general rule might still be treated as equity under the "funding rule" if the entity that is "funded" by related party debt makes an internal distribution or acquires shares or assets of a related party within three years before or after such a transaction. These rules are primarily intended to prevent "no consideration" transactions that result in, for example, "debt pushdowns" and internal leveraging restructurings. There are numerous new or expanded exceptions and exclusions that are intended to protect typical, ordinary course transactions from resulting in recharacterization of debt as equity for tax purposes. Cash-pooling and other short-term intercompany loans, as well as ordinary course trade debt are generally not subject to the new rules. Similarly, related party debt of certain regulated financial and insurance groups is exempted from the new regulations.
The regulations will eventually require corporate groups to prepare and maintain detailed information to support the treatment of intercompany debt. Failure to meet the documentation requirements can result in a rebuttable presumption of equity treatment for tax purposes in the case of a highly compliant expanded group and automatic equity treatment in other cases. These new documentation requirements will now only apply to debt instruments issued on or after 1 January 2018, and companies will have until the filing of their relevant tax return for the taxable year in which a debt instrument is issued to prepare the documentation.
Both the general "recast rule" and the "funding rule" will apply to debt issued after 4 April 2016, subject to an elaborate set of transition rules that generally permit otherwise affected debt to be eliminated by 19 January 2017 in order to avoid application of the new rules (i.e., within 90 days of the publication of the final and temporary regulations 21 October 2016).
Timothy H. Jarvis Partner, Leeds Tax Strategy & Benefits T +44 113 284 7214 E [email protected]
Wolfgang Maschek Partner, Brussels Public Policy Strategic Advocacy T +322 627 11 04 E [email protected]
Louise A. Boyce Of Counsel, Sydney Tax Strategy & Benefits T +61 2 8248 7802 E [email protected]
Thomas Busching Partner, Frankfurt Tax Strategy & Benefits T +49 69 1739 2445 E [email protected]
Dominika Kupisz Associate, Warsaw Tax Strategy & Benefits T +48 22 395 5563 E [email protected]
Bernhard D. Gilbey Partner, London Tax Strategy & Benefits T +44 207 655 1318 E [email protected]
Liz Wilson Senior Associate, London Tax Strategy & Benefits T +44 207 655 1252 E [email protected]
Mitch Thompson Partner, Cleveland Tax Strategy & Benefits T +1 216 479 8794 E [email protected]
George J. Schutzer Partner, Washington DC Tax Strategy & Benefits T +1 202 457 5273 E [email protected]
Linda E.S. Pfatteicher Partner, San Francisco Tax Strategy & Benefits T +1 415 954 0347 E [email protected]
The contents of this update are not intended to serve as legal advice related to individual situations or as legal opinions concerning such situations nor should they be considered a substitute for taking legal advice. Squire Patton Boggs. All Rights Reserved 2016