EU anti-tax avoidance directive: Measures to be introduced aimed at curbing abuse

The European Union’s Anti-Avoidance Directive, which has to be put into national legislation by 2019,is aimed at plugging loop-holes in tax systems which allow large corporations to legally avoid paying tax.

While Malta has been criticised for offering competitive tax rates, despite the openness and uniformity of such competitive rates, sources within the Ministry for Finance say that the directive in question would not diminish the competitiveness of Malta’s taxation system but would allow for the curbing of abuse.

Despite fears that Malta’s full imputation tax system was being targeted as a result of global pressures to curb large corporation’s aggressive tax planning strategies, Finance Minister Edward Scicluna said that this would not be the case:

“We have succeeded in averting any negative impact on the competitiveness of the Maltese tax regime. Through our negotiations with the Commission and in the Presidency we have reached an agreement whereby we re-affirmed our commitment to combating aggressive tax avoidance, yet maintained our right to determine the tax regime which suits our economy best.

“The same stance has been taken by the OECD in our regards when it made a similar commitment tied to its invitation to Malta to participate together with the OECD members in the follow up discussions to the Base Erosion and Profit Shifting (BEPS) recommendations.

“This shows once again that Malta is a respected member of the international community which participates fully in international fora and enjoys a sound international reputation.”

The underlying principle behind the directive is to facilitate cross border corporations being taxed in the areas where they are operational/earning profits. Some of the main issues being specifically mentioned in the directive include: interest limitation rules, Control Foreign Companies (CFCs) rules and hybrid mismatches.

Interest limitation rules refer to a situation where multinationals transfer debt to a jurisdiction with high tax rates, and then has that debt transferred back with inflated interest rates. The directive seeks to limit the amount of interest the taxpayer is entitled to deduct in a tax year.

Controlled Foreign Company rules is when cross-border companies shifts shift profits internally in a way that allows for them to legally avoid paying taxes. The directive seeks to reattribute the income of a low-taxed controlled foreign subsidiary to its parent company. Tax credits may then be given on the level of tax already paid in the jurisdiction of the subsidiary company.

Hybrid mismatches allow tax deductions in two countries where a corporation is operating or a deduction of the income in one country without its inclusion in the other.

Other issues being tackled by the directive are exit taxation rules and general anti-abuse rules .

Malta’s imputation tax system is set to be safeguarded, however one issue which it tackles and Malta has been criticised heavily in the past for in that of ‘letterbox companies.’

Such companies are set up to avoid paying higher tax rates in countries they are presumably earning the bulk of their profits from. One example of this would be UK energy giant Npower, who in the past avoided paying up to £100 million in corporate tax by posting a loss in the UK, and instead shifted its profits to a subsidiary company in Malta.

In cases such as this, the onus is now on the home country in order to ascertain whether companies operating within its borders are shifting profits to lower-tax jurisdiction.

From the measures tackled in the directive, it is understood that the aim is not to dismantle Malta’s taxation system, but rather plug up loop holes which provide for such a situation. Through such rules being made into EU law, applicable to all member states, this could mean that letterbox companies would be unlikely to leave Malta to go to another member states.

Therefore, while Malta has kept its ability to offer preferential tax agreements – however on condition that it does this openly, transparently and uniformly, as has been long-standing practice.

Pressure was turned up internationally following the ‘Luxleaks’ revelations when a journalist exposed Luxembourg’s controversial practice of offering separate multi-national corporations specific taxation agreements.

This was further intensified following the ‘PanamaPapers,’ when a trove of leaked documents regarding corporate services offered by Mossack Fonseca, the very same company which assisted Energy and Health Minister Konrad Mizzi and the Prime Minister’s Chief of Staff Keith Schembri to open up secretive financial structures, exposed the aggressive tax planning of the world’s elite.

The directive is reflective of the current global political and economic strategy towards corporate taxation. In 2015, the Organisation for Economic Co-operation Development produced a comprehensive report on aggressive tax planning, where it came up with 15 recommendations.