Shell Entity Rules and EU Tax, Compliance Policy Bulletin 82

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Shell Entity Rules and EU Tax, Compliance Policy Bulletin 82

David Marinelli

January 20, 2022

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EU Commission Seeks Feedback On Pillar 2 & Shell Entity Proposals

CFE The European Commission is now formally seeking feedback on the two (Pillar 2 & Shell Entity) proposals adopted prior to Christmas, via the Have Your Say portal. The EU portal states that the feedback period is open until 22 March 2022.

The European Commission adopted a proposal for a directive on the misuse of shell entities, or unshell legislation in the EU-bubble jargon. The directive aims to enable more tools for tax authorities to detect the misuse of shell entities, by requiring reporting (relevant disclosure) in tax returns and consequently denying benefits of tax treaties and EU tax law.

The Directive does not define shell entities, but requires certain criteria to be fulfilled (gateway principle and substance requirements), to allow the tax administrations to designate an entity as a shell. In practice, the gateway principle will look at the following three gateways:

The first gateway will look into the activities of the entities based on the income where 75% of an entity’s overall revenue in the previous two tax years does not come from the entity’s trading activity or if more than 75% of its assets are real estate property or other private property of particularly high value;
The second gateway element looks at the cross-border element and it is satisfied where the relevant income is received through cross-border transactions or it is passed on to other entities abroad;
The final gateway indicator is linked to the corporate management and is aimed to assess whether the administrative operations of the entity are in-house or outsourced.

With some exceptions, a company which ticks the boxes for these three indicators will be required to disclose in its tax return information concerning the premises of the company, bank accounts, tax residency of its directors and its employees. If an entity fails at least one of the substance indicators, it will be presumed to be a shell.

As a consequence, where a company is considered to be a shell entity, it will be denied tax treaty and EU tax law benefits, notably arising from the Parent-Subsidiary and Interest and Royalties Directives. The Member State of residence of such company can either deny to issue a tax residence certificate or the certificate shall state that the entity is a shell company. In addition, payments to third countries will be subject to withholding tax and will not be seen as passing-through the shell for tax purposes, with inbound payments taxed in the state of the shell’s shareholder as a result of this targeted tax treatment.

BRUSSELS | EU Finance Ministers Discuss Pillar 2 Directive, Estonia Maintains Reservations

The EU Finance Ministers held their first discussions in January 2022 concerning the European Commission proposal for an EU directive on global minimum level of taxation for multinational groups, proposed just prior to Christmas. The French Presidency of the Council of the EU has set out as its priority adoption of this directive in first half of 2022. The Directive intends to implement the OECD Pillar 2 (minimum global company tax) agreement into the EU legal order, and will only become EU law with unanimous vote of all Member states.

The majority of the EU finance ministers highlighted the need to transpose the agreed rules of international corporate taxation, and thanked the Commission services and France for prioritising the file. Dissenting, Estonia’s Minister of Finance Keit Pentus-Rosimannus maintained certain reservations, contending the EU proposal goes beyond the OECD agreed rules, to the extent it extends to domestic companies. She also urged caution about the speedy adoption of Pillar 2 without concurrent adoption of Pillar 1 (reallocation of taxing rights between countries) . Estonia’s finance minister has previously expressed certain reservations:

“The Estonian corporate income tax system is simple and efficient. It encourages innovation, growth, and job creation. It is in Estonia’s interest to keep it as such. Any new tax rules would have to be carefully targeted to avoid undue burden on business. The OECD minimum tax agreement has taken the Estonian tax system into consideration. Nevertheless, it is important to ensure that the EU proposal will not extend the tax beyond what’s already agreed.”, Ms Pentus-Rosimannus said in December 2021.

OECD Publishes 2022 Transfer-Pricing Guidelines

The OECD has published the latest iteration of the Transfer-Pricing Guidelines, containing detailed guidance on the application of the international tax rules in a cross-border context, in particular the Arm’s Length Principle and the related transfer-pricing methods. The OECD Transfer Pricing Guidelines are an essential tool for both Multinational Enterprises and Tax Administrations. The document is available in English and French.

ECJ Decision on Spanish Obligation to Provide Tax Information: Commission v Spain – C-788/19

The European Court of Justice has handed down its decision in case C-788/19 Commission v Spain, concerning a taxpayer’s obligation to provide tax information, holding that the elements of the Spanish legislation requiring Spanish tax residents to declare overseas assets or rights are contrary to EU law in that the legislation’s restrictions on the free movement of capital are disproportionate. The case was referred to the ECJ by the European Commission, which had commenced infringement proceedings against Spain in February 2017 after receiving a large number of complaints by taxpayers in relation to the legislation.

The ECJ held that the legislation went beyond what is necessary to achieve its objectives to guarantee the effectiveness of fiscal supervision and to prevent tax evasion and avoidance in three respects:

That failure to comply or partial or late compliance with the legislation resulted in taxation of the undeclared income corresponding to the value of those assets as ‘unjustified capital gains’, with no possibility, in practice, of benefiting from limitation;
That failure to comply or partial or late compliance with the legislation resulted in a fine of 150% of the tax calculated on amounts corresponding to the value of those assets or those rights held overseas, applied concurrently with the flat-rate fines; and
That failure to comply or partial or late compliance with the legislation resulted in flat-rate uncapped fines which were disproportionate to the penalties imposed in respect of similar infringements in a purely national context.

The Court held that those aspects of the legislation were disproportionate in light of its objectives, and that the fines imposed were of a highly punitive nature, constituting a disproportionate interference with the free movement of capital.

Spain was ordered to pay the Commission’s costs in bringing the application, and must now amend its legislation in line with the ECJ decision.

EU – Draft European Parliament Resolution on a European Withholding Tax Framework

On profit shifting, the draft report suggests a resolution “calling on the Commission and the Member States to set up a harmonised withholding tax framework that ensures that all dividend, interest and royalties payments flowing out the EU are taxed at a minimum effective tax rate”, “urges the Council to swiftly resume and conclude the negotiations on the Interest Royalties Directive and encourages the inclusion of such a measure in the announced directive for the implementation of Pillar II”; and “calls for the adoption of an effective minimum tax rate for dividend payments to shareholders in the EU, thereby reducing harmful tax competition in this realm”.

Concerning dividend arbitrage, the proposed resolution will call on the Commission to “enhance cooperation and mutual assistance between tax authorities, financial market supervisory authorities and, where appropriate, law enforcement bodies regarding the detection and prosecution of withholding tax reclaim schemes” and “calls on the Commission to evaluate to what extent rules have contributed to revealing harmful tax arrangements such as cum-cum and cum-ex schemes and to what extent they have had a deterrent effect”.

As to removing barriers to cross-border investments in the single market, the draft resolution will encourage “the development of a harmonised EU procedure for withholding tax refunds for all Member States, thereby addressing the concerns about regulatory discrepancies” and notes that “digitalising these procedures and improving cooperation between national tax administrations could reduce the administrative burden and uncertainty in cross-border investments”.

Source: Malta Institute of Taxation Click here, CFE Tax Advisors Europe Click Here

Please contact David Marinelli should you wish to discuss any matter relating to your Malta registered company.

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