European Commission proposes two new directives in the field of direct taxation | Deloitte Nederland


European Commission proposes two new directives in the field of direct taxation

Member States need to implement rules to prevent the misuse of shell companies for tax purposes (ATAD3). Besides that, the EU wants to introduce a minimum level of taxation, closely following the OECD Pillar 2 rules.

22 December 2021

Today, the European Commission published two proposals for directives in the field of direct taxation:

  1. A directive to implement the OECD Pillar 2 model rules in a coherent and consistent way across Member States; and,
  2. ATAD3 to prevent the misuse of shell entities for tax purposes.

Below, you will find a short summary of the EU’s proposals. A more detailed version for the proposals will be shared via tomorrow.

EU Pillar 2 Directive

The EU Pillar 2 Directive closely follows the OECD Pillar 2 model rules, with some adjustments to guarantee conformity with EU law. Below, we mainly focus on differences between the OECD model rules and the Directive (i.e., please refer to our Alert on the OECD model rules).

The proposed Directive would extend the scope of the GloBE rules to large-scale purely domestic groups, i.e. groups of which all entities are located in the same Member State, in order to ensure compliance with the fundamental freedoms to avoid any risk of discrimination between cross-border and domestic situations. All entities, which are located in a Member State that is low-taxed, including the parent entity that applies the Income Inclusion Rule, would be subject to the top-up tax.

This proposed Directive should only apply to entities located in the EU that are members of MNE groups or large-scale domestic groups that meet the annual threshold of at least EUR 750 000 000 of consolidated revenue in at least two of the four preceding years. This threshold would be consistent with the threshold of existing international tax rules such as the country-by-country reporting rules. According to the proposal various entities are excluded from the scope of the Directive (i.e.: governmental entities, international organisations, non-profit organisations, pension funds and, provided that they are at the top of the group structure, investment entities and real estate investment vehicles. Entities that are owned at least 95% by excluded entities are also excluded from the scope of the Directive).

Other rules the Directive foresees in are:

  • A conditional five year transitional phase for MNE groups in the initial phase of their international activity;
  • A de minimis exclusion for MNE groups or large-scale domestic groups;
  • An optional Domestic Top-up Tax, allowing that the top-up tax is charged and collected in a jurisdiction in which a low-level of taxation occurred;
  • Provisions to determine the equivalence of laws of certain non-EU countries to the income inclusion rule and to set out conditions which need to be fulfilled for granting equivalence. The Inclusive Framework is expected to verify in 2022 whether US GILTI meets the equivalence conditions after the US tax reform is completed.

The European Commission indicates that the Pillar 2 Directive and ATAD CFC rules will apply in parallel. Consequently, the ATAD CFC rules will not be amended at this moment in time.

The proposal for the Pillar 2 Directive aims at implementation and application of the rules as of 1 January 2023. This would mean that the Directive needs be accepted by the European Council quickly to give EU Member States some time to implement the rules before the end of 2022. The aim is to adopt the Pillar 2 Directive by the end of February 2022.

ATAD3 on shell entities

The second directive proposed today relates to shell entities. Even though it is framed as ATAD3, it does not actually amend the existing Anti-Tax Avoidance Directive. ATAD3 takes a three step approach:

  1. It needs to be determined which undertakings qualify as so-called ‘reporting undertakings’;
  2. The tax consequences in the Member State of the reporting undertaking, as well as in other Member States for the use of a foreign ‘reporting undertaking’ are determined;
  3. The reporting of information in relation to the fulfillment of the substance indicators is set (a new update of the DAC as a tax transparency obligation).

For the determination whether an undertaking is considered to be a ‘reporting undertaking’, four steps need to be distinguished:

  1. The starting point is that all entities engaged in an economic activity, regardless of their legal form, that are tax resident in a Member State, are in scope of the directive.
  2. Five categories of undertakings are explicitly excluded:

    a. companies which have a transferable security admitted to trading or listed on a regulated market or multilateral trading facility;
    b. regulated financial undertakings (this category is specified by referencing to 19 EU regulated institutions, like certain credit institutions, investment funds, UCITS, insurance undertakings and certain pension institutions);
    c. undertakings that have the main activity of holding shares in operational businesses in the same Member State while their beneficial owners are also resident for tax purposes in the same Member State;
    d. undertakings with holding activities that are resident for tax purposes in the same Member State as the undertaking’s shareholder(s) or the ultimate parent entity; and,
    e. undertakings with at least five own full-time equivalent employees or members of staff exclusively carrying out the activities generating the relevant income (e.g. interest, royalties, dividends, income from immovable property, etc).

  3. Non-excluded undertakings qualify as reporting undertaking if they meet the following gateway criteria:

    a. more than 75% of the revenues accruing to the undertaking in the preceding two tax years is relevant income (as defined in the directive);
    b. the undertaking is engaged in cross-border activity; and,
    c. in the preceding two tax years, the undertaking outsourced the administration of day-to-day operations and the decision-making on significant functions.

Reporting undertakings need to declare in their annual tax return, each year, whether they meet the minimum substance requirements as set out in the directive, being:

a. the undertaking has own premises in the Member State, or premises for its exclusive use;
b. the undertaking has at least one own and active bank account in the EU; and,
c. one of the other indicators in relation to the undertaking’s directors or employees.

If all substance requirements are met, the reporting undertaking is presumed to have sufficient substance for the relevant year. If not, the reporting undertaking is presumed not to have sufficient substance. However, this presumption can be rebutted by providing certain specified additional supporting evidence of the business activities which they perform to generate relevant income.

In case an undertaking would still qualify as having insufficient substance, this qualification has consequences both for the Member State of the undertaking itself as well as for other Member States involved:

  • Consequences for the Member State of the reporting undertaking with insufficient substance: certificates of residence for the use outside that member state should be refused and a certificate of residence prescribing that the undertaking is not entitled to the benefits of tax treaties should be granted.
  • Consequences for other Member States in relation to the reporting undertaking with insufficient substance: Disregarding tax treaties in relation to the reporting undertaking and disregarding the application of the Parent-Subsidiary Directive and Interest & Royalties Directive, taxation of the reporting undertaking’s relevant income and property at the level of the shareholder of the reporting undertaking (which in essence is a form of CFC) , all subject to specific conditions.

Besides the tax consequences, the information in relation to the indicators on minimum substance needs to be exchanged automatically. To this end, the EU Directive on Administrative Cooperation will be amended.

Not fulfilling the requirements under ATAD3 should result in penalties. As always, the directive indicates that these penalties need to be effective, proportionate and dissuasive. ATAD3, however, adds a specification to the penalty paragraph, by determining the following: Member States shall ensure that those penalties include an administrative pecuniary sanction of at least 5% of the undertaking’s turnover in the relevant tax year, if the undertaking that is required to report […] does not comply with such requirement for a tax year within the prescribed deadline or makes a false declaration in the tax return […].

The proposal for ATAD3 aims at implementation of the rules before 1 July 2023. The rules should be applicable as of 1 January 2024. Depending on the actual implementation of ATAD3 into domestic law, it should carefully be taken into account that as of its application in 2024, the reference period in gateway-criteria 1 and 3 (mentioned above) relate to the two tax years before, i.e. in many cases starting 1 January 2022. As ATAD3 only relates to intra-EU situations, the European Commission already announced a new proposal to be published in 2022 to respond to the challenges linked to non-EU shell entities.

Other developments yet to come

Besides the two directives proposed today, two other directives are expected in relation to the OECD Pillars 1 and 2:

  1. A directive implementing Pillar 1 (but much is unclear about this); and,
  2. A directive on the publication of certain companies’ effective tax rate.

The proposal for a directive on the publication of the effective tax rate of certain companies was announced in the European Commission’s Tax Package for the 21st Century. The companies in scope of this directive would be the same companies that are in scope of Pillar 2. For the calculation of the ETR to be published, the methodology of Pillar 2 will be applied. This directive probably follows as a separate proposal as it is not included in the OECD Pillar 2 plans. Consequently, in order to avoid discussions during the legal process on the acceptance of the actual Pillar 2 Directive, the ETR Directive is separated from the Pillar 2 Directive. We would expect that proposal after adoption of the Pillar 2 Directive.

By 2023, the European Commission wants to propose a new framework for Business Taxation in the EU (BEFIT) as a successor of CC(C)TB.

Besides these tax measures, the European Commission proposed today to amend its Own Resources Decision. Three new categories of own resources will be introduced at a later stage: a carbon border adjustment mechanism, a revised EU Emissions Trading System, and a share of the residual profits of the largest and most profitable multinational enterprises that are allocated to EU Member States following the OECD Pillar 1 agreement. The own resource in relation to Pillar 1 will enter into force once this Directive should be transposed into national law.

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