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Thursday, June 12, 2014

Apple, Starbucks, Others Under EU Tax Investigation

No sooner do I comment on the difference between tax planning and tax avoidance than Richard Murphy points out that several multinational corporations are having their tax deals looked at for potential violations of the European Union's state aid rules. As The Guardian and The Wall Street Journal report, there are three cases currently under investigation by the European Commission, but more investigations may be opened in the near future.

First is Apple in Ireland. What a surprise! It has a subsidiary it claims is taxable nowhere, incorporated in Ireland but managed from California, which under Irish law makes the subsidiary not subject to Irish tax. Of course, since it is incorporated in Ireland, Apple can defer its U.S. taxation on the unit's profits until it repatriates them, if it ever does so. Two issues are relevant here: Did Ireland's creation of this class of entity provide firms with state fiscal aid? Second, did Ireland negotiate a special deal with Apple giving the company a tax rate far below Ireland's already low 12.5% corporate income tax rate, as Apple CEO Tim Cook testified last year before the U.S. Senate, under oath. In fact, according to the New York Times, the company paid " as little as one-twentieth of 1 percent in taxes on billions of dollars in income." One source quoted by the Times said the company saved $7.7 billion in taxes in 2011.

If the tax saving in Ireland is deemed to be state aid, the Commission would have to determine two things: Was it notified to the Commission, as required by the state aid rules? (No, or we wouldn't be having this investigation in the first place.) Is the aid compatible with the common market, and thus allowable? My guess is that the Commission expects to find that fiscal aid to Apple and others (see below) distorts competition, and hence is not compatible with the common market.

It is worth remembering that Ireland has a 12.5% corporate income tax rate, rather than the 10% rate it had for decades, precisely because in 1998 the Commission found that the 10% rate was state aid and was not compatible with the common market (Competing for Capital, p. 95). So the use of the state aid rules to attack arcane tax provisions is nothing new for the Commission.

The second case is Starbucks and possible fiscal aid from the Netherlands. I have already reported on how the company happily tells investors how profitable its British subsidiary is, but books a loss in the United Kingdom and had no tax liability for 14 years. As discussed then, the issue ultimately revolves around transfer pricing between the "loss-making" U.K. affiliate and the Dutch subsidiary which holds Starbucks' intellectual property and collects 6% of revenue as royalties, plus transfer pricing into Switzerland. Theoretically, the case could also expand to the Swiss transfer pricing as Switzerland is also subject to state aid rules as part of its free trade agreement with the European Union.

Finally, the Commission is investigating whether Fiat receive state aid from Luxembourg, again as part of its tax treatment there.

All three of these cases demonstrate what I emphasized in my last post, namely that tax avoidance increases tax risk, whereas tax planning does not. It also underscores a point I made in Competing for Capital that the Commission can be quite creative in finding ways to attack fiscal provisions under the state aid rules. It's good to see that the Commission is actively attacking corporate tax avoidance; it would be great to see equal creativity and perseverance on this side of the Atlantic.

Cross-posted at Angry Bear.

Monday, June 9, 2014

The difference between tax planning and tax avoidance: one simple test

Over at Tax Research UK, Richard Murphy offers a simple test to distinguish between tax planning and tax avoidance. As he told a journalist, "That is easy. It's getting legal opinion."

With tax planning, Murphy says, you decrease your tax risk. "There are obvious examples: paying money into a pension, for example, does not create tax risk, and nor does putting money into an ISA [a UK individual savings account, which is similar to an IRA but more flexible] within allowed limits."

By contrast, "Tax avoidance, on the other hand always, and without exception, increases your tax risk." He gives examples of questionable allowances or use of tax haven structures. "In all such cases, the taxpayer's risk is increased by undertaking the transaction. That is what tax avoidance involves."

Murphy sends us further to David Quentin's tax blog. Here Quentin points out that there can be effective or ineffective tax avoidance, but that there is no such thing as ineffective tax planning. This, he argues, is an embarrassment for tax avoidance defenders, inasmuch as effective tax avoidance and ineffective tax avoidance are the same activity. With tax planning, there is no question that what you're doing is legal. With tax avoidance, there is precisely such a question. So, as Murphy said, tax avoidance involves risk. Therefore, your tax adviser will suggest you get a legal opinion to "validate" the legality of what you are doing. While a putative tax avoider will use this opinion in arguing with tax authorities, it is ultimately the latter (and the courts) that will decide on the legality of the action taken.

What do you think? Is the distinction between tax planning and tax avoidance as easy to make as Murphy claims?

Cross-posted at Angry Bear.