On 25 November 2013 the European Commission adopted a proposal to amend the Parent Subsidiary Directive (2011/96/EU), its foremost purpose being to contribute in reducing tax avoidance in Europe by filling existing lacunas that EU companies have been casually exploiting in order to avoid paying their tax bill or escaping taxes altogether.
Member States are expected to implement the amended Directive at a date not later than 31 December 2014.
According to the 2003 Parent-Subsidiary Directive, companies belonging to the same group and which are residents of different member states are not taxed twice on the same income by their respective tax authorities.
While the purpose of the Parent-Subsidiary Directive is to relieve companies from double taxation, there have been several cases where the Directive has being manipulated by companies so as to evade taxes in both Member States.
In line with the above, the EC’s proposal focuses on (a) introducing a general anti-abuse rule, (b) identifying artificiality in agreements, (c) a denial of tax benefits to companies making use of hybrid loans
(a) Introduction of anti-abuse rule
The EC’s amendment proposal does not have the required power without the valuable backing of all European Union member states.
Therefore, in accordance with the EC’s recommendations, all Member States will have to bring into law a common anti-abuse rule. This, the EU said, “will stop cross-border companies from planning their intra-group payments to enjoy double non-taxation”.
(b) Artificial Arrangements
The proposal further encourages Member States to draw out the benefits of the Directive in cases of artificial arrangements which have been essentially employed for the sole purpose of gaining an improper tax advantage pursuant to the Directive and which greatly defeat the ultimate objective of the existence of the tax provision. Under the Proposal, a transaction is considered “artificial” if it does not reflect “economic reality”. Thus, the document identifies the specific elements that Member States should analyse when defining artificiality.
(c) Hybrid Loans
The proposed amendments moreover intend to close the door to a widely-used tax avoidance instrument, known as hybrid loans.
In particular, hybrid loans enable companies to take advantage of the Parent-Subsidiary Directive in order to reduce or escape taxes. Hybrid loans may be characterized as either debt or equity. Due to this dual character, each Member State may qualify hybrid loans differently; therefore one Member State may treat them as simple loan, whereas another Member State may qualify them as equity. Consequently, they may be treated as a tax deductible expense (interest) in the first Member State and as a tax exempt dividend in the second Member State. This effectively results to double non-taxation.
To combat the above said complexity, the EC supports that if a hybrid loan payment is tax deductible in the subsidiary’s Member State, then it will have to be taxed by parent company’s Member State.
The EC stressed that the ultimate result of the amended Directive is to ensure more equitable incomes for the public purses, fairer competition for enterprises and proper taxation in the Member States.
Having said the above, what has to be kept in mind is that the said Proposal will become effective only upon the approval of the Council of the European Union.
Efficient action on the aforesaid issue will undoubtedly avert any future sanctions on the groups’ arrangements. It is not to be perceived though, that the said Proposal attempts to deprive EU companies from the significant benefits granted by the Parent-Subsidiary Directive. It is once again underlined, that the sole purpose of the proposed amendments is to ensure that the provisions of the Directive are rightly and legitimately implemented in inter-community financial transactions.
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