Following a few days of entertaining political ballyhoo, the initial excitement following the British vote to leave the EU wore off rather quickly. Europeans have realized that it will take some time for the divorce to get finalized, and for now, seem content to watch the negotiations unfold. While the actual outcome is far from a foregone conclusion, it seems reasonable to assume that the parties will eventually come to a more or less amicable agreement, as it indeed is in the “interest of us [Europeans] to ensure that a future relationship will be constructive and mutually beneficial.”.
Considering the current political limbo, writing about consequences of the Brexit will necessarily involve a healthy dose of speculation. Nevertheless, it is worthwhile to carefully consider the potential impact of the Brexit on the future direction of the EU as an institution and to anticipate related consequences for EU taxpayers. Indeed, the latest resolution of the European Parliament on tax rulings should be a wake-up call indeed – not so much for the British, but rather for those left behind.
EU response to Brexit: A genuine European government
When anticipating changes to the (corporate) tax climate in Europe, a sensible first question to address is: Will the Brexit rather contribute to the ever more centralistic institutional set-up of the EU, or could it possibly turn the scale toward a strengthening of the principle of subsidiarity – i.e., by facilitating a more flexible institutional framework?
In respect to the future institutional set-up of the EU, the reaction by the European political figureheads was rather predictable – i.e., they screamed for more centralization. Respective motions were spearheaded by Martin Schulz (president of the European Parliament) proclaiming the need for establishing a “genuine European government.” For Europeans clinging to the European ideal of being “united in diversity,” it was actually one of the most saddening aspects of the immediate aftermath of the Brexit to hear the Eurocrats pushing for even more centralization. Thus far, the process of European integration has been solely unidirectional, with prerogatives in more and more policy areas being shifted toward Brussels.
The mindset of the advocates of an ever closer union is dominated by the so-called bicycle metaphor, according to which the EU constantly needs to move forward in order not to jeopardize the process of widening and deepening. Since the mid-1990s economists have warned (to no avail) that pushing ahead with integration without sufficient consensus on the structure and extent of political union could result in overstretching the prerogative of the EU and possibly result in disintegration .
Various alternative concepts to increasing centralization have been put forth by economists and political scientists. Among the more well-known concepts are a “Multi-Speed Europe,” a “Europe a la carte” and a “variable geometry Europe.” The common element of these concepts is a flexible approach to integration that is suited to cope with the heterogeneity of preferences among EU member states and which are compatible with inter-governmental competition. While some of these concepts have resurfaced, none of the alternatives seems to gain much traction and general interest remains lukewarm. The fact that insiders proclaim the supposed need for a genuine European government within one week of the Brexit, instead of taking a deep breath, is rather revealing. It is also sadly revealing that no legitimate political force is promoting alternative concepts.
The above, admittedly disillusioned, breakdown of European politics illustrates that further centralization is rather more likely than not. This prevalent tendency could gain further momentum with the departure of an influential member state that was not sold on the concept of an ever closer union.
Effect of a more centralized EU on taxation: CCCTB endgame
The follow-up question to be addressed here is: What would an increasing degree of centralization imply for (corporate) taxation within the EU?
The eagerness of the European Commission to move beyond BEPS and establish the EU as a poster child for fighting tax avoidance was already reflected in the Anti-Tax Avoidance Directive from January 2016 (see CFR, Issue 43, p.54). One of the most intriguing questions in this context continues to be whether the relaunch of the CCCTB will generate sufficient political momentum to eventually achieve approval and implementation.
The U.K. was known to be one of the most vocal opponents to the centralization of corporate income tax embodied by the CCCTB. The Brexit presumably will have an effect on the balance of power and could well translate into sufficient political momentum for CCCTB.
The latest proposal for adopting formulary apportionment made by the European Parliament (July 6, 2016) shows that the supporters of centralization are preparing for the endgame. The European Parliament is urging the Commission to adopt the CCCTB before the end of 2016, highlighting that consolidation is the essential element of the CCCTB and that “any intermediate system including only tax base harmonization with a loss offset mechanism can only be temporary.” Openly stating that consolidation is the ultimate aim in this context signifies a change of step insofar as previously the supporters (at least publicly) felt the need to sugarcoat their proposal by referring to a two-step approach with the consolidation being merely optional.
One of the most intriguing aspects of the proposal is that the European Parliament highlights that additional efforts to curb BEPS may be needed, including “that global alternatives to the current ‘arm’s length’ principle should actively be investigated and tested for their potential to ensure a fairer and more effective global tax system.” For a transfer pricing professional, the nonchalance of this statement is mindboggling and it is not clear whether the global ambition of the EU Parliament should be taken seriously at all. In this context it is also most revealing that the EU Parliament feels the need when citing the OECD estimates of tax revenue lost at global level – between 4 percent and 10 percent of all corporate income tax revenue – to claim these would only be conservative estimates. Considering that the OECD repeatedly emphasized the preliminary nature of these figures and cautioned against misinterpretations, the claim of the EU Parliament is irritating indeed – never mind that it further stresses that the negative impacts of tax avoidance are much bigger than what is shown in these figures.
Some other noteworthy aspects of the proposal include:
- A call for a concrete Union regulatory framework for sanctions against blacklisted uncooperative jurisdictions, including the possibility of reviewing and suspending free trade agreements and prohibiting access to Union funds (paragraph 23).
- A call for sanctions also to apply to companies, banks, and accountancy and law firms and to tax advisers proven to have facilitated harmful or wrongful corporate tax arrangements involving legal vehicles in those (uncooperative) jurisdictions (paragraph 23).
- A call to member states to integrate a Minimum Effective Taxation (MET) clause in the Interest and Royalties Directive (paragraph 32).
- Asking the Commission to undertake an investigation into the interconnectedness of academia and the tax advisory world, addressing as a minimum the issue of conflicts of interest (paragraph 38).
- [My favorite] A call for the creation of a new Union Tax Policy Coherence and Coordination Centre within the structure of the Commission. The new Centre should be in charge of assessing and monitoring member states’ tax policies at Union level (including the compliance with the common Union list of uncooperative jurisdictions). The Centre could also serve as a point of contact for whistleblowers, in case member states and national tax authorities do not act upon the revelation of tax evasion and avoidance. The Centre could also initiate academic programmes in the field (paragraph 57). It is not clear whether the Parliament sees any issues of conflicts of interest here.
- A call on the OECD to start working on an ambitious BEPS II project. (paragraph 65).
- Asks for a feasibility study of a global register with full access for tax authorities of all financial assets held by individuals, companies and all entities such as trusts and foundations (paragraph 71).
The recommendations contained in the proposal were approved by 514 votes to 68, with 125 abstentions.
The increasing degree of centralization reflected by the proposal of the EU parliament promises to translate into a hostile environment for (corporate) taxpayers. Member states could find it increasingly difficult to provide an investment-friendly (competitive) corporate tax structure, with the EU building up the resources to challenge, and ultimately micromanage, national tax policies. It also does not require too much imagination to anticipate uniform corporate tax rates as well as an additional EU-tax to be imposed once the CCCTB is implemented. On the taxpayer’s side, especially European MNEs with a pronounced focus on non-EU markets will face increased compliance burdens and water’s-edge related tax risks. The curtailment of tax competition within the EU threatens to have detrimental economic costs, as non-EU jurisdictions (soon including the U.K.) will remain comparatively free to establish a competitive tax environment.
It must be kept in mind that the above thoughts contain a healthy dose of speculation. Still, it’s worth remembering the MO of EU figureheads:
“We decide on something, leave it lying around, and wait and see what happens. If no one kicks up a fuss, because most people don’t understand what has been decided, we continue step by step until there is no turning back.”
No one should be surprised in case the CCCTB is implemented by 2030 – with the Union Tax Policy Coherence and Coordination Centre determining the uniform tax rate for all (remaining) EU member states.