Financial Services

Perspectives

Financial Services

Pre-Budget 2019

While the immediate focus is on Budget 2019 and what it might hold for Financial Services (FS) companies, it is impossible to ignore the recent publication of Ireland’s Corporation Tax Roadmap issued by the Irish Government/ Department of Finance. 

Visit our pre-Budget 2019 page for more predictions

Key roadmap messages

Before commenting on some of the specific aspects of the roadmap, what is important is that it reiterates some key messages that I believe are important in the international environment in which FS companies operate-

1. Continued commitment to the 12.5% tax rate.

2. Ireland is not a tax haven.

3. Ireland is committed to international tax reform and has taken significant actions on corporate tax over the last five years.

Some of the changes in Ireland’s tax framework include changes in corporate tax residence rules, enhanced tax transparency and exchange of information, early adoption of the Multilateral Instrument (MLI) and agreement of the various EU and OECD initiatives on Base Erosion Profit Shifting (BEPS) and Anti-Tax Avoidance Directives (“ATADs”). For a number of the BEPS and ATAD initiatives, Ireland has been an early adopter and in other cases our existing rules were already best practice.

Impact on financial services

You might well ask, why is the Roadmap relevant to Budget 2019? It is relevant for three main reasons;

1. It confirms that the introduction of new rules on Controlled Foreign Company “CFC” and the MLI will be in Finance Bill 2018, as anticipated.

2. It is the first sign that amendments to our interest deduction rules are likely to occur prior to the anticipated 2024 date. The earliest the rules will be introduced will be in Finance Bill 2019, but the effective date is uncertain.

3. It illustrates the significant challenge to draft the volume of detailed and complex legislation in a short space of time. Given that challenge, the authorities will not be looking to make other tax changes while they have this burden ahead of them- put frankly, they have enough on their plate already.

The CFC and MLI rules will apply to the FS sector but their impact will vary on a case by case basis. As mentioned above, these changes have been flagged for some months now and all FS companies should be assessing what these rules mean to them given the 1 January 2019 effective date (and the current consultation) on CFC. The MLI is likely to have a 2020 effective date.

Of more significance to the FS sector are the rules around hybrid mismatches and reverse hybrid mismatches (“hybrids”) and the interest limitation rules outlined under the EU ATADs.

The legislation governing hybrid mismatches will be introduced into law in Finance Bill 2019 for a 1 January 2020 start date, with the anti-reverse hybrid rules coming into effect on 1 January 2022. There has always been clarity around the hybrid dates but the Roadmap has indicated a possible acceleration of the interest deductibility rules which is a new development. Although Ireland is of the view that our interest deductibility rules are robust and there are case studies which support the position that Ireland should not have to adopt the ATAD rules until 2024, it is unclear whether the EU concur given the stringent ratio based approach being taken to determine if the rules are “equally effective” to the ATAD Article 4 provision. As a result, it makes sense to have a consultation process on the impact of both the anti-hybrid and interest deductibility rules at the same time. The reality is that Ireland may be forced into introducing the interest rules in advance of the intended 2024 deadline if following engagement with the EU they don’t agree to the 2024 extension or if the interest limitation rule is adopted as a minimum standard.

Interest limitation rules

If we assume that some regulated financial institutions such as licensed banks and insurance companies will benefit from a carve out from the rules, it will still mean that any change in interest deductibility is likely to have an impact on a variety of FS operations, particularly securitisation, leasing and treasury companies. Of particular concern will be the timing of such rules coming into effect and whether there is sufficient time for companies to review their financing arrangements, model the impact of the rules and restructure where needed. How the rules will be interpreted will be critical to their operation as one of the concerns is how wide (or narrow) the definition of borrowing costs will be. For example, will it include fair value movements on the debt from which interest income arises? If not, many securitisation structures would be severely impacted where the interest on loan notes matches income and gains, but where those income and gains includes such fair value movements. There is a concern that securitisation structures which have non-interest income (e.g. dividends and leasing income), will suffer increased taxation of any interest costs currently sheltering such income and gains will be considered excess interest and subject to the interest limitation rules (resulting in non-deductibility of interest and tax payable in Ireland at 25%).

Anti-hybrid rules

The rules on hybrids are wide ranging. It means looking at all arrangements to consider if you have a hybrid entity or instrument in your structure to see whether they could fall within scope. The impact of being in scope can include non-deductibility of payments on a hybrid instrument as well as changing the current treatment of a hybrid entity in the future. For something like a profit participating note in a securitisation vehicle, it has the potential to be a hybrid instrument if Ireland treats the payment on the note as interest, but the recipient treats it as a dividend.

Other examples include examining whether a hybrid entity would include an Irish Common Contractual Fund that is tax transparent in Ireland but not transparent in Japan? Is stock lending over dividend dates now a “structured arrangement”? This is just to give you a flavour of the challenges that lie ahead.

Our view

There are lots of tax changes that I would like to see in the Budget from an FS perspective and I have mentioned them many times before such as SARP enhancements, carried interest rules and modern deferred compensation tax frameworks. However with the volume and complexity of legislation that the authorities need to draft they won’t want to be distracted with anything else. If there are any changes, it will be small technical amendments to existing legislation.

Our prediction

You don’t need that crystal ball to tell you that a raft of legislation will be coming down the tracks in the next couple of years. What is important is that you get involved in shaping those rules as it is vital that any change in the tax infrastructure is appropriate but not over engineered.

Consultation on the CFC rules is ongoing at the moment, closing on 28 September 2018 (having been announced on 5 September 2018). Further consultation on the interest and anti-hybrid rules will be in Q3 2018. Make your voice heard– the changes will have long lasting implications for the FS sector and for the Irish economy as a whole.

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