European Commission proposes BEFIT as new EU-wide Corporate Tax Base

On 12 September 2023, the European Commission (“the Commission”) published its long-awaited proposal for a directive introducing a common framework for corporate income taxation in the EU. The “Proposal for a council directive on Business in Europe: Framework for Income Taxation (BEFIT)“ is the replacement of previous proposals foreseeing a common (consolidated) corporate tax base (CCTB and CCCTB), which are now withdrawn. If adopted in their proposed form, the new rules would be implemented by 1 January 2028 and would apply as from 1 July 2028.

According to the Commission, the BEFIT proposal would reduce compliance costs for large businesses operating in more than one EU member state and would facilitate national tax authorities in determining the taxes that are due. The Commission estimates that the BEFIT proposal could reduce tax compliance costs by up to 65% for in-scope businesses.

BEFIT proposal

Scope

The scope of BEFIT is a hybrid one, with both mandatory and optional application.

Groups within the scope of the OECD Pillar Two initiative (groups with annual combined revenues of at least EUR 750 million) mandatorily are within the scope of BEFIT, limited to the subset of entities in the EU that meet a 75% ownership threshold (“the BEFIT group”). If the ultimate parent of the group is outside the EU, BEFIT would only apply if the revenues of the BEFIT group within the EU exceed 5% of the total group revenues or account for at least EUR 50 million in combined revenue in two or more of the last four years. Specific rules would apply for the calculation of revenues in the case of intragroup reorganisations. To qualify as a member of a BEFIT group, the ultimate parent company should hold, directly or indirectly, at least 75% of the ownership rights in the qualifying group company or in the head office of a qualifying permanent establishment. The shares must be held continuously throughout the fiscal year.

Besides the mandatory application of BEFIT, the proposed directive allows opting in for BEFIT by multinational enterprise groups or domestic groups that prepare consolidated financial statements but do not meet the EUR 750 million threshold.

Substantive rules determining the tax base

In line with Council Directive (EU) 2022/2523 (“the Pillar Two directive”) the starting point for determining the tax base is the financial accounts of a BEFIT group member, prepared under an accepted accounting standard of an EU member state (i.e., a national GAAP) or IFRS. Each BEFIT group member should determine its tax base on an individual basis. Subsequently, adjustments to the tax base would be required, by both including and excluding certain items. Fewer adjustments would be needed than under the Pillar Two directive.

Items that would be required to be added back because they were either previously deducted or not recorded when preparing the financial accounting statements are:

• Financial assets held for trading;
• Borrowing costs paid to parties outside the BEFIT group in excess of the interest limitation rule of the EU Anti-Tax Avoidance Directive;
• Fair value adjustments and capital gains received by life insurance undertakings in the context of unit-linked/index-linked contracts;
• Fines, penalties, and illegal payments such as bribes; and
• Corporate taxes that have already been paid or qualified domestic top-up taxes imposed in applying Pillar Two.

Items that would need to be subtracted from the financial net income or loss if included in the financial accounts include:

• Dividends and capital gains or losses on significant share or ownership interests, other than interests held for trading purposes or by a life insurance undertaking;
• The profits or losses of permanent establishments;
• Shipping income subject to a national tonnage tax regime approved for state aid purposes;
• Rollover relief for gains on assets that are replaced;
• The costs of acquisition, construction, and improvement of depreciable assets (including directly related subsidies); and
• Unrealised gains or losses from currency exchange fluctuations on fixed assets.

Other relevant rules influencing the tax base relate to depreciation and timing. Essentially, fixed tangible assets with a value under EUR 5,000 would be depreciated immediately in the year of acquisition. Other fixed assets would be depreciated individually over their useful life on a straight-line basis by the economic owner, other than immovable property, which would be deemed to have a useful life of 28 years and fixed intangible assets, including acquired goodwill, for which the useful life would be determined by the period for which the asset enjoys legal protection or for which the right has been granted, or, if that period cannot be determined, five years. The proposed directive also contains rules for determining the depreciation base and requires the maintenance of a fixed asset register. Improvement costs would be depreciated in accordance with the rules applicable to the fixed asset which has been improved as if they related to a newly acquired fixed asset. Financial assets would not be depreciated.

A further adjustment relates to the value of stock and work-in-progress, which would be based on the first-in-first-out method. Furthermore, the financial accounting net income or loss of a BEFIT group member would be adjusted to disallow the amount of any provision. Exceptions to this rule are provided if specific requirements are met. The proposed BEFIT directive includes specific rules for adjustments in relation to bad debts, long-term projects, and hedging.

As the starting point of BEFIT is that it only applies to BEFIT group members that are part of the group throughout the financial year, the proposed directive also contains provisions to determine the treatment of group members joining or leaving the BEFIT group during the fiscal year. These relate both to the timing and the tax treatment of pre-existing long-term projects and pre-entry losses.
 

Aggregation and allocation

The individually determined tax bases of the BEFIT group members (“preliminary tax results”) would be aggregated at the level of the filing entity, being either the EU ultimate parent company or an appointed EU BEFIT group member. The effect of the aggregation is that the cross-border offset of profits and losses would be allowed.

The aggregated tax base (”BEFIT tax base”) could either be positive or negative. In the latter case, the loss could be carried forward to be offset against a future positive BEFIT tax base. In the absence of specific rules, it may be assumed that the carryforward would be for an indefinite period.

A positive BEFIT tax base would need to be allocated between each of the BEFIT group members. The previous CCCTB proposals used an allocation formula, referring to labor, turnover, and assets to determine which part of the tax base could be taxed by each member state. Under the current BEFIT proposal, a transitional period would apply for the first seven years, during which the BEFIT tax base would be allocated to the BEFIT group members in accordance with a “baseline allocation percentage.” This percentage would be determined by the following formula: (taxable result of BEFIT group member/total taxable result of BEFIT group) x 100. In determining the taxable results, the average of the taxable results in the three previous fiscal years would be considered. In the first three years, the results of BEFIT group companies in the non-BEFIT period would not need to be recalculated according to BEFIT standards, but the taxable results determined in accordance with the national corporate tax rules could be used. For allocation purposes, a negative preliminary tax result would be deemed to be zero. Specific allocative rules would apply for EU member states applying a distribution-based tax system, such as Estonia. The Commission is to prepare a study on the possible composition and weight of selected formula factors to apply after the transition period and report to the Council of the European Union by the end of 2031. If the Commission deems it appropriate, it would issue a proposal to amend the allocation formula in the current BEFIT directive.

Certain revenues, expenses, and other deductible items relating to BEFIT group members are excluded from the BEFIT tax base. This applies to:

• Group members conducting their principal business in the field of the exploration or production of oil or gas; and
• Revenues, expenses, and other deductible items in relation to (i) the operation of ships in international transport to which a state aid approved tonnage regime applies, (ii) the operation of aircraft in international transport, and (iii) the operation of boats engaged in inland waterways transport.

After the allocated part is determined, the BEFIT group member can deduct certain items from the allocated part including expenses and losses from the period before entering the BEFIT group or deductible items under domestic law, such as gifts and donations to charitable bodies or pension provisions.

No withholding taxes or other source taxation can be imposed on intraBEFIT group transactions, unless the beneficial owner is not a BEFIT group member.
 

Relation with non-BEFIT entities

As BEFIT group members also may perform activities and transactions with associated enterprises outside the BEFIT group, the BEFIT proposal includes transfer pricing rules, introducing a simplified approach to transfer pricing compliance. This relates particularly to distribution activities through a low-risk distributor and manufacturing activities through a contract manufacturer.

The transfer pricing rules included in the BEFIT proposal are not to be confused with the Proposal for a council directive on transfer pricing (“the transfer pricing directive”) also issued on 12 September 2023—the same date as the BEFIT proposal. The BEFIT transfer pricing rules only relate to compliance, whereas the transfer pricing directive relates to the substantive rules and has a broader scope, potentially covering the entire range of transfer pricing topics.
 

Tax administration and procedural rules

The BEFIT rules would apply for a minimum of five years. In principle, the filing entity may not change, but exceptions would be possible under specific circumstances. The so-called BEFIT information return would be filed with the tax authorities of the EU member state where the filing entity is a resident and no later than four months after the end of the fiscal year. The BEFIT information return would:

• Identify all group members;
• Provide information on the overall corporate structure;
• Determine the applicable fiscal year; and
• Contain information and calculations of:
  • The preliminary tax results of each individual BEFIT group member;
  • The BEFIT tax base;
  • The allocated part of each BEFIT group member; and
  • The information about the baseline allocation percentage.

Where a BEFIT group exists, the tax authorities would form a BEFIT team, comprised of representatives of each EU member state’s tax authority where the BEFIT group has group members. The BEFIT group would be chaired by a representative from the filing authority. The task of the BEFIT team would be to examine the completeness and accuracy of the details provided in the BEFIT information return. The BEFIT team would have to reach consensus on the content of the BEFIT information return within four months. If no consensus were reached within that time, consensus would be deemed to be achieved if a simple majority of votes give consent. In case of an equal split, the filing authority would have the casting vote. Specific rules would apply for the BEFIT team.

Within three months after having received the notification from the BEFIT team members that the information return has been approved, each individual BEFIT group member would have to file its individual tax return with its national tax authority. Members of the same BEFIT group which are resident for tax purposes in the same member state may choose to file a single combined tax return in that state.

Further procedural aspects, such as those relating to the income tax returns and audits, would be governed by national law. The BEFIT information return would be classified within the competence of the member state of the filing authority.
 

What’s next?

The proposal for a BEFIT directive will be sent to the European Parliament and the European Council. The European Parliament has only a consultative role; it may suggest amendments to the proposal, but the European Council is not bound to apply these suggestions. The Council of the European Union and its working parties would engage in technical work on the proposal to potentially achieve a political agreement on the text of the BEFIT proposal that would have been revised and amended by the member states within the Economic and Financial Affairs Council (ECOFIN) configuration of the Council of the European Union.

As the BEFIT directive relates to direct taxation, unanimity within the European Council is required since taxation remains an element of the sovereignty of the member states, i.e., each and every EU member state has the power of veto and may block the agreement of the proposal. The experience from previous proposals in the field of direct taxation, especially those aimed at harmonising corporate income taxation rules, is that proposals could stall at the level of the European Council for many years in the absence of unanimous agreement and lack of political momentum, given taxation is a sensitive political matter influenced by a myriad of factors. It should be noted in this respect that various political and economic factors could influence the possible adoption of the BEFIT proposal, such as upcoming European elections, the fiscal revenue needs of individual member states, current risks and uncertainty influencing the EU economy as a whole, and the EU’s growth momentum.

The Commission believes however that an agreement on the BEFIT proposal could be achievable given that the proposal builds on the achievements of the OECD/G20 Inclusive Framework on BEPS in developing a two-pillar solution, which was agreed by 138 countries and jurisdictions on 11 July 2023, taking into account that the global minimum taxation is established within the EU through a directive.