04 May 2011
ATOZ NEWS: Tax, ATOZ and Taxand Intelligence | May 2011
by: The Atoz Team
I am pleased to present you with our latest newsletter, which as usual is designed with a heavy dose of technical news and is balanced by relevant industry and company intelligence.
FATCA, being the talk of the day in International Taxation, is described below at a very high level. There are interesting developments in Luxembourg tax law, triggering a lot of attention abroad. The creation of a VAT free zone in Luxembourg is the logical consequence of developing Luxembourg as a logistics hub. In the same direction (though not entirely chosen by the Luxembourg government) goes the extension of the investment tax credit that is now also available for qualifying goods used abroad. This may attract new investors in Luxembourg. Existing players should also check whether they could claim a tax credit for investment made in the past. Finally, much attention is given to the circulars issued by the Luxembourg tax administration on intra-group financing. As you see, there is a bit for everyone in this issue.
I hope you find the information useful.
Further clarifications from the Luxembourg tax authorities regarding transfer pricing rules for intra-group financing transactions
Tax authorities issued a circular clarifying the investment tax credit regime following the recent ECJ case law
Further clarifications from the Luxembourg tax authorities regarding transfer pricing rules for intra-group financing transactions
On 8 April 2011 the Luxembourg direct tax authorities issued Circular L.I.R. 164/2 bis (Circular Bis), which clarifies the conditions for application of a previous circular of 28 January 2011 (the Initial Circular) relating to the tax treatment of intra-group financing transactions. This development can be seen in the light of the desire of the Luxembourg tax authorities to reiterate the alignment of their Advance Pricing Agreement (APA) practice with OECD transfer pricing principles.
Termination of existing APAs
As you may know, the purpose of the Initial Circular was to confirm the application of the OECD transfer pricing guidelines to intra-group financing, and to formalise the procedure for applying for an APA. Although the Initial Circular gave no date for its entry into force, it was the common understanding of most market players that the rules laid down in the Initial Circular only applied as from January 2011.
Circular Bis now provides some clarification in this respect. It states that from 1 January 2012, the tax authorities will no longer be bound by APAs obtained before 28 January 2011 in relation to intra-group financing transactions which would otherwise fall within the scope of the Initial Circular.
Steps to be taken
For each individual intra-group financing transaction, the practical impact of Circular Bis will depend on the facts.
- First possibility: file going forward in line with the expired APA
In cases where the essential characteristics of a financing transaction have not been modified since the initial APA was issued, the (implicit or explicit) transfer pricing analysis performed at the time when it was implemented, and therefore its arm’s length character, will not be altered by the fact that the transaction is no longer covered by an APA. Consequently, the tax authorities are unlikely to deviate from the remuneration confirmed in the initial APA once it has ended.
Taxpayers benefiting from an APA which under Circular Bis would expire from 1 January 2012 may therefore simply wish to check whether the remuneration confirmed in this initial APA is satisfactorily substantiated. This will generally be the case when a transfer pricing analysis was available with the original APA. If this is not the case, a transfer pricing study could be carried out on the basis of data available on the date of the transaction. With satisfactory transfer pricing documentation, even in the absence of a new APA, taxpayers may expect to continue to be assessed on the same basis after 2011.
- Second possibility: apply for a new APA
Equally, taxpayers who wish to continue benefiting from an APA for an existing structure may prefer to submit a new request and comply with the conditions set forth in the Initial Circular, most notably, having the minimum required equity at risk (the lower of 1% of the financing volume and EUR 2 million), a majority of local directors and a transfer pricing report substantiating the arm’s length remuneration. Ideally, the request for a new APA will have been filed before 31st December 2011.
For additional information and specific intra-group financing questions, please contact Keith O’Donnell at firstname.lastname@example.org
Tax authorities issued a circular clarifying the investment tax credit regime following the recent ECJ case law
Following the recent European Court of Justice (ECJ) case law on the Luxembourg investment tax credit, the Luxembourg tax authorities issued a circular stating that even though the Luxembourg legislation has not yet been amended to comply with European Union law, Luxembourg companies can already claim a tax credit for their assets used outside of Luxembourg for the tax years which have not yet been assessed.
The circular thus confirms our position taken in our Newsletter dated February 2011 “Scope of the Luxembourg investment tax credit has to be enlarged”.
The circular moreover specifies that the assets have to be physically used in the European Economic Area (i.e. European Union as well as Iceland, Liechtenstein and Norway) and that they have to be located in a permanent establishment situated in Luxembourg.
A proposal for the implementation of a common system for calculating the tax base of businesses operating in the EU (Common Consolidated Corporate Tax Base, “CCCTB”) was recently presented by the European Commission. According to the Proposal, the CCCTB: will bring simplification, will allow the automatic offset of profits and losses realised in different EU Member States, will solve transfer pricing issues amongst group companies, and will remove double taxation (and double non-taxation) within consolidated groups as well as legal uncertainty.
Several EU Member States are opposed to the introduction of the CCCTB. Indeed, if on one hand the CCCTB may be good news for the competitivess of the EU taken globally, on the other hand it may be a disadvantage for the competitiveness of many EU Member States. In any event, until (and if) the CCCTB becomes a reality, a long and severe political discussion is predicted. It is worth remembering that the realisation of this policy was already suggested by the Commission in 2001, as a measure to achieve an Internal Market without tax obstacles. Nevertheless, and notwithstanding several initiatives from the Commission throughout the last decade on the topic, only now a draft text was put forward.
Notwithstanding all the uncertainty surrounding this ambitious project, we believe that a prompt clarification on the main mechanisms and concepts included in the proposal should be provided to all interested parties, which is the purpose of the following developments.
The CCCTB in brief
The CCCTB proposal provides for a common set of rules to compute the tax base of EU tax resident companies as well as EU-located branches of third country companies. These rules provide a framework for:
- the computation of each entity’s (individual) tax results,
- the consolidation of these results (in case of group of companies), and
- the apportionment of the consolidated tax base to each related Member State. The apportionment is made via a pre-determined formula which includes 3 equally weighed factors (assets, employment, and sales).
The proposal provides an optional system under which eligible taxpayers of a Member State that has adopted the CCCTB can choose to opt either for or against the new tax base calculation. Nonetheless, if a taxpayer has opted for the system and fulfils the requirements for forming a group, it will be obliged to consolidate its tax results with all of its group members (so-called all in all out principle).
Only the computation of the tax base will be harmonized. The national accounting rules of the Member States will remain applicable and an adjustment to the result of the Profit & Loss Account (P&L) will have to be performed in a further step under the common rules. Moreover, there is no intention to harmonise tax rates within the EU, so that each Member State will apply its own rate on the taxable base apportioned to it.
Practical aspects of the CCCTB
‘Tax base’ of each group member:
- Generally speaking, all revenues are taxable unless expressly listed as exempt. Furthermore, taxable revenues are reduced by deductible (business) expenses and certain other items treated as deductible.
- The list of exempt revenues include items such as dividends received, proceeds from the disposal of shares, income from a branch located in a third country, etc (as defined in article 11 of the proposal).
- Deductible business expenses usually cover all costs relating to sales and expenses linked to the production, maintenance and securing of income, including cost for R&D and for raising equity or debt for business purposes. The Proposal also includes a list of non-deductible expenses (as defined in articles 12 and 14 of the proposal).
- Subject to certain restrictions, fixed assets are depreciable for tax purposes, either individually or in a pool (see article 36 ff of the proposal).
- Losses may be carried forward indefinitely, but no loss carry-back is allowed (see article 43 ff of the proposal).
- A 2-part test has to be passed successfully in order to be eligible to participate in a CCCTB group: 1) control (>50% of voting rights), and 2) either ownership (>75% of capital) or rights to profits (>75% of rights giving entitlement to profit). These thresholds have to be met throughout the year (see article 54 ff of the proposal).
- Intra-group transactions are eliminated, so that no transfer pricing issues will arise (see article 59 of the proposal).
- No withholding tax or other source taxation will apply to transactions between companies of the same group (see article 60 of the proposal).
Business reorganisations (losses & hidden reserves):
- Unrelieved trading losses incurred by the taxpayer before entering a group are ring-fenced and carried forward to offset the taxpayer’s apportioned share of income (see article 64 of the proposal).
- When leaving a group, the group’s trading losses inccurred during the period of consolidation are not attributed to the leaving company, but remain at the group level (see article 69 of the proposal);
(ii) Hidden Reserves:
- Tax neutrality is the overarching principle with regard to hidden reserves. The capital gains are taxable upon realisation and shared across the group;
- The Proposal contains rules to protect the taxing rights of individual Member States in connection with values largely built up under their national tax systems (i.e. before a company opted for consolidation) as well as rules to protect the consolidated tax base in connection with values largely built up during the period of consolidation. Since all group members have borne part of the cost linked to the creation of those values, they should be given a taxing right over the gain, at the time it’s realised.
- The capital gains are taxable upon realisation at the level of the company leaving the group;
Transactions between the group and entities outside the group
- Tax Treaties with third countries will override conflicting rules contained in the Proposal.
- Third-country situated PE income, inbound dividends, and proceeds from the disposal of shares of a company outside the group are exempted (or exempted with progression), unless a switch-over from exemption to credit is made under anti-avoidance provisions (see articles 11, 72 and 73 of the proposal).
- Inbound interest and royalty payments are taxable, with credit for withholding tax paid on such payments. The credit is shared among the group members according to the formula (without being included in the consolidated base) (see article 76 of the proposal).
- Withholding taxes charged on outbound interest and royalty payments will be shared among the group members according to the formula (without being included in the consolidated base). Withholding taxes on dividends will not be shared (see article 77 of the proposal).
- Transactions between associated enterprises will be subject to transfer pricing rules (see articles 78 and 79 of the proposal).
- The anti-abuse provisions of CCCTB include two levels:
(i) General Anti-Abuse Rule (GAAR) (see article 80 of the proposal), and
(ii) Specific rules designed to curb abusive practices of a cross-border nature, such as limitations on interest deductibility, CFC legislation, and switch-over clause (see articles 73 and 81 ff of the proposal).
Formulary Apportionment (FA)
- The FA comprises 3 equally-weighted factors:
(i) Asset-factor consists of all fixed tangible assets (intangibles and financial assets are excluded from the formula because of their mobile nature);
(ii) Labour-factor comprises both payroll and the number of employees (each item counts for half);
(iii) Sales-factor follows the principle of destination and consists of the total sales of a group member (see articles 86 ff of the proposal).
- Special rules apply to financial institutions, insurance undertakings, oil and gas industries, and shipping, inland transport and air transport enterprises (see articles 98 ff of the proposal).
Administration and procedures
- The ’one-stop-shop’ approach will allow groups with a taxable presence in more than one Member State to deal with a single tax authority across the EU (principal tax authority). A single consolidated tax return will be filed with that authority.
- The Proposal contains procedural rules on various matters, such as rules for opting in the CCCTB and submission of tax returns, ruling mechanism, coupled with an interpretation panel and a scheme for the exchange of information, audits, and dispute settlement (see articles 104 ff of the proposal).
The proposal is currently at a very early approval stage. It is a proposal of the European Commission, which will have to be agreed by all 27 EU Member States in EU Council, following the opinion of the European Parliament, before being eventually eligible to become a Directive. Given political issues and the fundamental technical issues of such proposal, if it survives the approval process, it is very likely that it will evolve significantly.
It is our opinion that at this point it is premature to assess the impact the initiative and our recommendation that EU multinationals wait and see how the proposal evolves over time before determining whether they should opt of not for the new system.
We will follow closely the developments of the proposal and will update you on any significant changes. For additional details, questions or comments, please contact Keith O’Donnell at email@example.com and Gonçalo Cardoso Pereira at firstname.lastname@example.org
On 14th March 2011, Paul Chambers of Atoz had the opportunity to chair a Panel alongside Keith Lawson (Senior Counsel for tax matters at the Investment Company Institute, ICI, in Washington) and Frédéric Batardy (Senior Tax Advisor of KBL European Private Bankers SA) at the ALFI Spring conference. The Panel discussed the implications that the new FATCA regulations will have on the European Fund Industry.
FATCA or the Foreign Account Tax Compliance Act aims at identifying dishonest US taxpayers that have accounts at foreign (that is non-US) financial institutions. The rules are designed to force non-US foreign financial institutions (“FFIs”) holding US investments to enter into an agreement with the US tax authorities (IRS) to identify US taxpayers, report to IRS on these taxpayers as well as to withhold 30% on certain payments to “recalcitrant account holders” and FFIs that do not meet FATCA requirements.
Unless an FFI is exempted from these rules or enters into an agreement with the IRS by 31 December 2012, the FFI generally will be subject to a 30% US withholding tax on its US source income (dividends, interest, etc.) as well as on the proceeds from the sale of its US securities (grandfathered obligations are exempt).
The FATCA rules in brief
Keith Lawson shared his insights on the thinking of the IRS and the US Treasury officials in regards to the practicalities of implementing FATCA. Keith made the point that while the officials at the US Treasury were aware of how difficult the implementation of this project may be, they were and are nevertheless bound by a statute that was passed by Congress and that would most likely not be amended.
Frédéric Batardy commented that while the Qualified Intermediaries (QI) regime enabled qualified institutions to access treaty protection without being required to reveal the identities of individual clients, FATCA offers no advantage to those who comply, except for an escape from a penalizing 30% withholding tax on the proceeds of their US assets.
The definition of an FFI is very broad and includes foreign banks, foreign brokerage firms, as well as foreign funds. Once deemed as an FFI, four requirements apply with respect to your US accounts:
- obtain information regarding each account holder, necessary to determine which accounts belong to US persons;
- provide annual reports to the IRS regarding these accounts;
- comply with IRS requests for additional information with respect to these accounts; and
- attempt to obtain a waiver in any cases in which a foreign law, but for a waiver, would prevent information reporting to the IRS and then close the account if a waiver is not received within a reasonable period of time.
In addition, two requirements apply regardless of whether any US accounts are maintained by FFIs:
- comply with IRS’s-determined verification and due diligence requirements for identifying US accounts; and
- withhold 30% from any “pass-through payment” made to: (i) a “recalcitrant account holder” or another FFI that does not enter into an agreement with the IRS or (ii) an FFI that has elected to be withheld upon rather than to withhold with respect to the portion of the payment that is allocable to recalcitrant account holders or to FFIs that do not have an agreement with the IRS.
The FATCA exemptions
While Keith was quick to squash any hope for a blanket exemption for the entire fund industry, he nevertheless felt that individual funds should consider the following three exemptions:
- Publicly-Traded FFIs
Shares of a publicly-traded FFI are not treated as financial accounts for the purpose of the FATCA rules. As a result, a publicly traded FFI must only comply with the last two of the six requirements, i.e. comply with the auditing and due diligence procedures as well as impose a 30% withholding tax in the appropriate cases.
Nevertheless, if the shares of publicly-traded FFIs are held by an FFI, then the latter must comply with all 6 of the requirements mentioned above.
- Deemed Compliant FFIs
An FFI will be deemed compliant if it complies with IRS’s procedures, designed to ensure that the FFI does not maintain any US accounts and meets other IRS requirements with respect to the accounts of other FFIs it maintains. Furthermore, an FFI may also be deemed compliant if it is a member of a class of institutions with respect to which the IRS has determined that the application of the FATCA rules is not required .
A deemed compliant fund is treated as meeting all six requirements of the IRS agreement, which means that information regarding the fund’s investors is never reported to the IRS and payments to, by, or with respect to the fund are never subject to FATCA withholding.
For example: A UCITS prohibits US investors from subscribing shares. It highlights this prohibition in its offering documents and it ensures in its distribution agreements and through effective enforcement that no US investors may join. In such case, the IRS may accept that the fund be considered to be deemed compliant.
- Persons Posing Low Risk of Tax Evasion
This exemption applies to “any (…) class of persons identified by [the IRS] as posing a low risk of tax evasion.” A fund that beneficially owns its income and qualifies as a low risk investor appears to receive treatment that is similar (or perhaps identical) to the deemed compliant funds outlined above.
To date, the IRS have identified only pension funds as ones posing a low risk. In this context, the definition of a pension fund appears very narrow and useless for practical purposes.
Implications and next steps
In the absence of any precise guidance, it is probable that no IT solution provider will start building appropriate programs for the industry. The best that can currently be undertaken is to identify what will need to be done and explore where small changes in the regulation could potentially generate a high level of savings. Highlighting these savings to the US authorities could probably persuade them to make reasonable changes to the FATCA regulations.
Some funds may want to ban any US investors from investing in their fund in order to pursue the coveted deemed compliant exemption. In this case, the fund will need to explore how its distribution channels can convincingly demonstrate the procedures that will stop US citizens from investing. Finally, certain fund providers may wish to avoid investing in US securities. This is obviously a concern for the US Treasury but is a risk that they appear prepared to take.
In all cases, US citizens living abroad may need to live with additional discrimination when attempting to access even basic financial services as most financial institutions are considering whether US customers are simply not worth the trouble.
Since the ALFI conference, a second notice was issued that provides more details regarding the U.S. Government’s views on issues such as examining pre-existing accounts for U.S. persons and the calculation of passthru payment percentages.
The Luxembourg government has recently decided to create VAT free zones. The creation of VAT free zones is a part of the global strategy of developing Luxembourg as a main logistic center. A draft law amending the current Luxembourg VAT law has been published in this respect.
The free zone regime is essentially a suspension regime allowing the storage, sale and work on goods with limited tax obligations in terms of VAT, customs and excise duties. Certain services, performed within the free zone may also benefit from exemptions. Examples of such services are the storage and valuation of goods, located in the free zone. This regime is particularly attractive for transactions on the commodity exchange, where goods may change owners within short periods of time.
This regime is deemed to accompany the suspension regimes already in existence for customs and excise duties. The payment of VAT will have to be made once the goods exit the free zone regime. Regularization of the temporary exemption will need to be performed in specific cases.
For additional details, questions or comments, please contact Christophe Plainchamp at email@example.com or Mireille Rodius at firstname.lastname@example.org
ATOZ, a high end independent advisory services firm announces today that it parts ways with its sister corporate services company, FIDEOS. FIDEOS was purchased by Alter Domus in a strategic transaction, scheduled to close June 30th of this year, subject to regulatory approval. For additional details click here.
Because the Private Equity market is important to us and our clients, we keep a close watch of its development. With that in mind, back in March of this year we attended one of the premier Private Equity events, the 2011 Super Return International. Social media, IPO’s, legal and regulatory changes, the emerging markets and the unstable global political environment were some of the frequently mentioned topics during the conference. Two words: “cautious optimism” is how we could describe the current state of private equity and the general mood of the event. Read on for the supporting points in detail:
The economic shift towards the emerging markets continues. Private equity in the emerging market is expected to reach the level of Europe and the US in the next 5-10 year. This trend calls for a strong local representation of the PE firms and their associates. The attractive opportunities of the Asian markets raise the demand for more than exposure to the Asia Pacific region. If you are not there yet, you might want to reconsider your position.
It is business as usual. LBO markets are functioning. Firms will continue to benefit from the attractive rates, which will lead to upswing in the refinance market in the next couple of years. Large cap deals, albeit random, are back due to the amount of uncalled capital. Players are considering high quality and stable small and midsized companies, which will allow for exposure at a lower but risk adverse multiples. Competitive secondary markets are focusing on proprietary and complex situations. Exit activities are back as clearly evidenced by the last quarter of 2010.
Debt Markets are functioning. Mezzanine market offers compelling returns and is preferred over high yield debt. Be cautious - it’s a niche segment and one that requires specialized knowledge and experience. When it comes to debt, focus on established communities and jurisdictions. The emerging markets have yet to develop in this regard.
Is PERE back? Many investors continue to look for “safety” in developed and established emerging markets. Assets considered “trophy” are pushing the prices up even in the slow recovery environment. Consider second tier locations, which present strong fundamentals as well as investments in RE recapitalizations and secondaries. Expect first signs of recovery in the infrastructure market, especially in the emerging markets via IPO’s.
Investor requirements are on the rise. Investors are looking for increased transparency and asking to bring the CSR, operations, tax and legal functions early in the conversations. The regulatory pressure (Solvency II, CCCTB, etc.) will increase the need for higher and specialized technical skills from private market managers, which in turn will make fundraising and investor maintenance more complex and costly. Investors look, and will continue to do so, for mandates and tailor made solutions with increased control and know-how transfer.
Good News: Visible uplift for transactions. The improved micro-conditions, higher valuations, stronger visibility on exits, unprecedented levels of dry powder, pricing recovery and the return of “portfolio management” flow will lead to overall rebound in transaction volume.
Bad News: What’s with the skepticism? After the rush for instant gratification in obtaining immediate high returns, it is now reasonable to ask the following questions: what’s holding back GP’s from investing today: fear of failure, misalignment of interest between GPs and LPs? Where are the VC firms and why aren’t they taking advantage of the opportunities?
For thoughts or comments on the current state of the PE industry, please contact Mira Ilieva-Leonard at email@example.com
Each year, the Taxand Global Conference brings together multinational clients and Taxand advisors from around the world to discuss global, topical tax issues, share experiences and enhance relationships. This year the Taxand Global Conference 2011, hosted by Taxand France, was held at the InterContinental Paris-Le Grand located in the centre of elegant Paris. The conference featured guest speakers and Taxanders from around the globe. Plenary sessions were focused on the issues facing our multinational clients providing strategic commercial insights and tax advisory pointers. Look for the Conference content in the next issues of our newsletter. In the meantime, for the latest edition of Taxand’s Take, your regular update on the topical tax issues affecting multinationals, please click here.
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