It will be tax Jim but not as we know it 

Last year we brought about a Controlled Foreign Companies (CFC) rule into our tax law and the Revenue Commissioners have recently issued detailed guidance on the whole area. In the 2016 movie “Sully” Tom Hanks in the lead role said that “everything is unprecedented until it happens for the first time”. We’ve done unprecedented with CFC and there’s more to come.

Firstly, and here’s the science bit, a CFC rule taxes a foreign company’s profits in Ireland i.e. we can tax other countries’ money. I call this the “reach out and pull” effect. Those profits can be taxed in that foreign country under its own rules but then under the Irish CFC rule they can be taxed again here but relief is given for the foreign tax so we don’t create double tax.

That foreign company must be at least a 50% owned subsidiary of an Irish entity and can comprise certain foreign branches. Where the relevant conditions are met then the Irish Exchequer can reach out and pull that foreign company’s profits and tax them back home. Critically that foreign company’s cash doesn’t have to make its way here but the Exchequer just wants the tax on it. This affects all Irish companies with operations abroad unless certain exceptions apply.

The Department of Finance consulted on this last year before it was made law. Regular readers know my mantra: “consultation with us decreases consternation amongst us”. And so it was here. Okay, we didn’t get everything asked for but the guidance is useful. One can only imagine the time spent putting this 117 page guidance document on a law that comprises say 15 pages of the Taxes Consolidation Act 1997. Guidance takes up almost 8 times more paper than the law; let that sink in for a second. Its complex and comes from the EU’s Anti-Tax Avoidance directive (ATAD).

The reach out and pull effect operates where the controlling company (or certain connected companies), carry out relevant Irish activities called significant people functions (“SPFs”) or key entrepreneurial risk-taking functions (“KERTs”) in Ireland (hereinafter SPFs). A key step in the analysis is to identify the Irish activities in question. Revenue note that the relevant SPFs will differ depending on the nature of the assets held by the CFC. For example, different SPFs are associated with holding and managing loans advanced to group members in comparison with those related to holding intangible assets i.e. one size does not fit all. 

The law provides certain exemptions for CFCs with low accounting profits or a low profit margin or where the CFC pays a comparatively higher amount of tax in its territory than it would have paid back home. A one-year grace period is also allowed in respect of newly acquired CFCs where certain conditions apply. Relief is also available on certain distributions and on certain disposals of shares or securities in a CFC.

The CFC rules will not apply where the arrangements under which SPFs are performed have been entered into on an arm’s length basis or are subject to our Transfer Pricing rules. The CFC charge is dis-applied where income arises from arrangements where it is “reasonable to consider” that their essential purpose is not to secure a tax advantage. The Revenue guidance provides that where a mix of arrangements are in place where some elements have a tax advantage as the essential purpose, then the income must be segmented with the CFC charge arising only on the undistributed income attributable to the tax essential purpose element.

Revenue provides a number of practical examples of how the CFC law operates and will be useful for taxpayers when assessing whether they may be subject to a CFC charge. However, it’s vital to note that the CFC rules as they apply from 1 January 2019 are very much new law. It might not always stay this way, that’s what Finance Acts are for.

This amount of law and guidance shouldn’t create a cash cow for the Irish government. In fact it may generate little tax because it seeks to deter companies from having certain operations abroad; if one euro of tax is not raised under this rule then the law can be seen as a success i.e. an Irish company should tax its CFC’s undistributed income where it arises from “non-genuine arrangements” put in place for the “essential” purpose of obtaining a tax advantage.

I mentioned Sully’s dictum earlier and we will have to start getting used to hearing that. Right now we are in the middle of a public consultation on the science fiction sounding “hybrids” legislation. This deals with the position where one country sees an instrument or an entity differently to the way we see it here such that a tax advantage arises as a result e.g. a tax deduction in one country which isn’t taxed in another. We’ll see more of that in this year’s Finance Act, I know, the excitement!

The European Commission said recently that it had decided to send a “letter of formal notice” to Ireland requesting it to implement the interest limitation measure in the EU’s Anti-Tax Avoidance Directive (ATAD). Bottom line, restrictions may apply to interest paid by companies whether the related borrowing funded day to day operations, corporate acquisitions or intragroup lending and more.

The Commission continued that if Ireland didn’t “act within the next two months, the Commission may send a reasoned opinion” to our government. Austria got a similar letter. This limitation rule was supposed to be in law by 31 December 2018 and take effect from 1 January 2019. So why didn’t we just do that? Simple: The ATAD allows countries to put off the inevitable until whichever came first: the start of 2024 or the point when the OECD made these rules a “minimum standard”.

This legal delay applied to countries that had “targeted” rules for preventing Base Erosion and Profit Shifting (BEPS), which, and here’s the kicker, were “equally effective to the interest limitation rule” set out in Directive. The OECD hasn’t yet shifted its “nice to have” to “minimum standard” stance so we were going with a 2024 kick off arguing our rules were “equally effective” to those in the directive. So more to come on that one and likely sooner rather than later.

If you were to go back in time say five years and compare the law then with the way it will be, then it’s not just a change, a metamorphosis has occurred and we’re just getting going!