Amazon Probed by EU, Following Charges Over Apple’s “Double Irish” Tax Evasion

Amazon is believed to have exploited a slightly different tax loophole in Luxemborg to wash away most local taxes

The European Union (EU) made waves late last month when its antitrust regulators — a part of the trade-regulating body known as the European Commission (EC) — issued a preliminary finding of guilt against America’s largest and most profitable tech company, Apple, Inc. (AAPL).

The filing highlighted tax loopholes in Ireland and the Netherlands that allowed foreign companies like Apple to pay nearly no taxes (a 2 to 3 percent effective rate) on their profits in the EU.  While several companies, including Google Inc. (GOOG) had used/abused similar tactics, Apple was targeted as its gains far exceeded the others, with the EU estimating it dodged $9B USD in taxes per year with the tactics (Google, likely the next worst offender only pocketed about a sixth that amount — roughly $1.5B USD per year — using similar strategies).

In the wake of that incendiary ruling, the European Commission added more fuel to the fire this week.  EC Vice President Joaquín Almunia, the EU’s head of competition, has opened a new investigation into Amazon.com, Inc. (AMZN) over a slightly different scheme.  His office reports:

The European Commission has opened an in-depth investigation to examine whether the decision by Luxembourg’s tax authorities with regard to the corporate income tax to be paid by Amazon in Luxembourg comply with the EU rules on state aid.

Where the “Double Irish” with a “Dutch Sandwich” exploited money transfer and ownership tax loopholes in Ireland and the Netherlands, the new case involves Luxemborg’s so-called “tax ruling” letters.  The EU reports:

Tax rulings are comfort letters by tax authorities giving a specific company clarity on how its corporate tax will be calculated. In particular, they are used to confirm transfer pricing arrangements, i.e. the prices for goods sold or services provided by one subsidiary of a corporate group to another subsidiary of the same group. This influences the allocation of the group’s taxable profit between its subsidiaries located in different countries. As such, tax rulings are not problematic.

However, tax rulings on transfer pricing arrangements may involve state aid within the meaning of EU rules if they are used to provide selective advantages to a specific company or group of companies. Indeed, prices for intra-group transactions have to be correctly estimated based on market prices. If this is not the case groups of companies could have the possibility to underestimate their taxable profit, whereas other companies which buy and sell goods or services from the market rather than within the group would be disadvantaged. This may constitute state aid within the meaning of EU rules.

The tax ruling in favour of Amazon under investigation dates back to 2003 and is still in force. It applies to Amazon’s subsidiary Amazon EU Sàrl, which is based in Luxembourg and records most of Amazon’s European profits. Based on a methodology set by the tax ruling, Amazon EU Sàrl pays a tax deductible royalty to a limited liability partnership established in Luxembourg but which is not subject to corporate taxation in Luxembourg. As a result, most European profits of Amazon are recorded in Luxembourg but are not taxed in Luxembourg.

At this stage the Commission considers that the amount of this royalty, which lowers the taxable profits of Amazon EU Sàrl each year, might not be in line with market conditions. The Commission has concerns that the ruling could underestimate the taxable profits of Amazon EU Sàrl, and thereby grant an economic advantage to Amazon by allowing the group to pay less tax than other companies whose profits are allocated in line with market terms. The Commission will now continue investigating to determine whether its concerns are confirmed.

In other words, Luxemborg is accused of making special arrangements with select corporations, whic then transferred their EU profits into the tiny state.  According to the claim, Luxemborg would then forgive the majority of their taxes, in exchange for a royalty payment.  EU officials suspect this may effectively have resulted in a tax rate similar to the Ireland/Netherlands evasion strategy — a rate in the low single digits.

Commission VP Almunia comments:

National authorities must not allow selected companies to understate their taxable profits by using favourable calculation methods. It is only fair that subsidiaries of multinational companies pay their share of taxes and do not receive preferential treatment which could amount to hidden subsidies. This investigation concerning tax arrangements for Amazon in Luxembourg adds to our other in-depth investigations launched in June. I welcome that cooperation with Luxembourg has improved significantly.

Many have questioned the EU’s motives and resovle in the Apple case, noting recent punishments for findings of alleged “anticompetitive” tactics.  In total the EU levied fines of $2.2B USD against Microsoft Corp. (MSFT) and fines of $1.4B USD against Intel Corp. (INTC) in the last decade.  It’s also probing Google in an ongoing antitrust investigation.

But the fresh investigation does weaken one prior criticism — that the EU’s targeting of the Irish/Dutch tax collusion was useless given other tax loopholes. The probe of Amazon seems to indicate a new frontier in the EU’s competition enforcement —  aggressively seeking to close the tax evasions schemes of smaller member states.