News & Views

EU’s Anti-Tax Avoidance Directive: Will the Tax Competition between the Member States Gradually Shift from Competition over Financial Capital to Competition over Human Capital?

27 June 2016

Authors: Christian Carneborn and Heikki Vesikansa

In 1929, a British court decided:

No man in this country is under the smallest obligation, moral or other, so as to arrange his legal relations to his business or to his property as to enable the Inland Revenue to put the largest possible shovel into his stores. The Inland Revenue is not slow – and quite rightly – to take every advantage which is open to it under the taxing statutes for the purpose of depleting the taxpayer’s pocket.  And the taxpayer is, in like manner, entitled to be astute to prevent, so far as he honestly can, the depletion of his means by the Inland Revenue.


Judge James Avon Clyde, Ayrshire Pullman Motor Services v Inland Revenue [1929]

For several decades, this doctrine, applied in the UK, actually meant that taxpayers were free to protect their property and to use their ingenuity to reduce their tax bills by any lawful means, however contrived those means might be and however far the tax consequences might diverge from the real economic position. However, in 2013, the UK Government implemented the island nation’s first general anti-avoidance rules (the “GAAR”) after coming to the conclusion that taxation is not to be treated as a game where taxpayers can indulge in any ingenious scheme in order to eliminate or reduce their tax liability. According to the new GAAR, there is a limit for permissible tax minimisation and it is reached when the arrangements put in place by the taxpayer go beyond anything that could “reasonably be regarded as a reasonable course of action”.

For us Swedes and Finns, the GAAR is nothing new. In Finland, the GAAR has been in place for several decades. In Sweden, the GAAR has existed since 1981. In many ways, however, it is argued that the interpretation of the GAAR in both countries has recently become stricter. A recent example from Finland is the Supreme Administrative Court Ruling KHO 2016:72, in which the court, by applying the GAAR, denied interest deductions by a Finnish branch of a foreign company in a situation in which analogous interest deductions by a Finnish company have in the past been allowed. In Sweden, recent examples concern the circumvention of the rules assuring that income generated in closely held companies is partially taxed as salary as opposed to lower taxed capital income. Taking together the fact that for example the UK introduces the GAAR for the first time and the courts in Sweden and Finland appear to be interpreting their respective GAARs more strictly, it can be asked if we are sliding towards a more general era where tax laws and interpretations thereof will in fact be to enable the Revenue to put the largest possible shovel in the taxpayers’ stores?

In January 2016, the EU Commission proposed six measures to be undertaken to fight tax avoidance under the Anti-Tax Avoidance Directive (the “ATAD”). On 21 June 2016, the EU Member States agreed to move forward with the Commission’s proposal for the ATAD.

The ATAD will require that all Member States implement the following five anti-avoidance measures out of the originally proposed six as a minimum standard in the EU:

    • interest deduction limitation rules (30% x EBITDA or MEUR 3);


    • exit taxation rules for e.g. intellectual property and patents;


    • a general anti-avoidance rule;


    • controlled foreign corporation (CFC) rules; and


    • prevention of the hybrid mismatches between the Member States.

The Commission has estimated that the Member States lose 50 to 70 billion euros annually due to corporate tax avoidance, and this is the reason why the minimum standards of the ATAD need to be implemented in order to secure a stronger Single Market. By enabling the free movement of capital, persons, goods, and services, the Single Market has also brought new possibilities for corporations to minimise their overall tax burden as demonstrated in recent cases concerning state aid:

    • In January 2016, the Commission concluded that Belgian “excess profit” tax scheme, applicable since 2005, was illegal under the EU state aid rules. The scheme had benefitted at least 35 multinationals mainly from the EU, who must now return the unpaid taxes in the amount of approximately 700 million euros.


    • In December 2015, the Commission opened a formal probe into the advance rulings issued by Luxembourg to McDonald’s in 2009. The rulings confirmed that the income of McDonald's Europe Franchising was not subject to tax in Luxembourg nor in the US, on the basis of the double tax treaty.


    • In October 2015, the Commission's investigation concluded that a transfer pricing related tax ruling issued by the Luxembourg authorities in 2012 gave a selective tax advantage of 20 - 30 million euros to Fiat Finance and Trade.


    • Also, the Commission's investigation concluded that a tax ruling issued by the Dutch authorities in 2008 gave a selective advantage of 20 - 30 million euros to Starbucks Manufacturing

Against this background, the ATAD, which was approved during the Presidency of the Netherlands and under the lead of Mr. Jean-Claude Juncker (Prime Minister of Luxembourg 1995-2013 and Minister of Finances in Luxembourg 1989-2009), can also be described as a kind of a “peace pact” between rivals in what at least used to be a very fierce competition over the tax euros of multinational corporations. With the approval of the ATAD, the Member States conform to a certain minimum standard that is intended to cut out the most outrageous “sweetheart deals” given to multinational corporations. Also, from the corporations’ perspective, it is probably better to comply with the ATAD in the future than to get swallowed into complex state aid probes including a risk of liability to pay millions of unpaid “state aid” taxes retroactively. The risk of challenge is of course not limited to the state aid rules, but also the local tax authorities would, following the implementation of the ATAD, have an increased set of rules to challenge certain transactions. A well-advised taxpayer should consider this risk even in transactions that, on the face of them, are economically sound, but that contain an element of tax considerations. To all of this should be added the global focus on tax planning not only from a tax technical perspective, but also from the perspective of the taxpayer’s corporate social responsibility.

Coming back to the original question: are we moving towards a more general era of stricter tax laws? We think that the answer is no. The basic law of economics is that when the resources (tax euros) are scarce, there will be competition and the prices (effective level of taxation) will adjust. The ATAD will implement five out of the original six measures and the original proposal also did not exhaustively block all tax competition schemes used by the Member States. Also, in the finally agreed form, the minimum standard in the ATAD is somewhat more lenient to the taxpayers than in the Commission’s original proposal. However, the Member States are of course free to apply or continue to apply stricter rules in domestic tax laws – if this is deemed wise even from the perspective of tax competition. Countries like Finland and Sweden are often referred to as the model pupils of the EU. For us, the proposition “to end all tax avoidance once and for all” sounds appealing by its nature. But we should not be too naïve. The basic laws of the economics do not change. In fact, tax competition between the Member States is likely to take new forms. Traditionally tax competition has focused on movements of capital and this is one focal point of the ATAD measures (interest deductions, CFCs earning easily movable types of income, etc.). In the future, tax competition may also shift over from financial capital to human capital. Patent box rules are already required to be adapted to the modified nexus approach, i.e. corporations need to relocate some of their operations in order to get these deals. Are the Swedes and Finns ready for the next stage of international tax competition? According to the Statistics Finland, emigration out of Finland has increased every year since 2010 hitting a high in 2015. In Sweden also, 2015 was the record year for the emigration. If human capital will be the competed tax base of the future, what is our Governments’ response to that?

Regardless of the high taxes, Finland and Sweden both offer many good qualities for us who live here. Safety and clean nature are at the top of the list. The writers of this blog will now enjoy the Nordic nature for the summer holiday season and wish all of our readers a nice and relaxing summer holiday!