What impact has BEPS had on the EU tax environment?

Since the beginning of the OECD BEPS project, there has been unrelenting media and tax administration focus on the ways in which multinational companies (MNCs) arrange their tax affairs. Such tax issues are no longer just a talking point for the finance team but have become a major C-suite issue, as they can have a significant impact on the way in which companies are viewed by their customers and consequently on shareholder value.

In this Insight, we focus on key EU tax developments in the areas of disclosure of information and the hardening attitude of EU tax administrations to perceived cross-border anti-avoidance.

What has changed?

Following the completion of the OECD BEPS project, MNCs need to have a heightened sensitivity in relation to their cross-border structures, both as regards to the impact of the EU anti-tax avoidance directives ("ATAD I and II"), and the adoption of the OECD's Multilateral Convention to Implement Tax Treaty-Related Measures to Prevent Base Erosion and Profit Shifting (the "MLI"). The ratification by Luxembourg of the MLI on 9 April 2019 took the number of parties to the convention to 87.

ATAD I and II

Many EU Member States have implemented ATAD I into their national law with effect (for the most part) from 1 January 2019. The ATAD I provisions implement key anti-avoidance measures to counter-act some of the most common types of aggressive tax planning, as identified in the OECD BEPS project and include:

• an interest restriction under which the deductibility of borrowing costs is restricted to 30% of a taxpayer's EBITDA – subject to a de minimis exemption of EUR 3 million (per tax year) net interest expense;
• a general anti-abuse rule to counter-act aggressive tax planning when other rules do not apply;
• a tightening of the Controlled Foreign Company rules to deter profit-shifting to no or low tax countries; and
• changes to exit taxation rules to prevent companies from avoiding tax when relocating assets (from 1 January 2020).

ATAD II, which aims to prevent hybrid mismatches between EU Member States and between EU Member States and third country situations, will come into force from 1 January 2020.

Member States have significant flexibility as to how they implement ATAD into national law and MNCs will need to review how ATAD I (and in due course ATAD II) will affect operations in the countries in which they operate. Some EU Member States have opted for a broad ATAD - for example in the Netherlands, where the interest limitation provision limits the deduction of net interest expenses (whether on related party or external debt) to a maximum of the higher of (i) EUR 1 million or (ii) 30% of EBITDA. Excess interest expense can indefinitely be carried forward. The Netherlands has opted not to make use of the option to increase the threshold to EUR 3 million, not to apply the grandfathering rules and not applying group exceptions. In the UK, the de minimis threshold is GBP 2 million. In jurisdictions such as the UK, the de minimis exemption is applied across the consolidated group.

Tax treaties and the MLI

As part of the adoption by countries of the MLI, a principal purpose test has effectively been included in many tax treaties to deny treaty benefits (such as reduced withholding tax rate on interest) if it is reasonable to conclude that obtaining the relevant benefit was one of the principal purposes of the arrangements.

MNCs will need to assess the impact of any treaty changes resulting from the MLI and ask themselves questions such as: what was the business or commercial driver of the transactions? and what were the decisions behind the choice of location of the parties?

Those MNCs with financing structures that lack substance may find themselves at particular risk of attack under the principal purpose test. However, all MNCs that have local subsidiaries which seek to take advantage of tax treaties to pay interest or dividends need to consider the impact of the principal purpose test on their structures.