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October 12, 2017

While tax leaders at some technology companies may still be spinning in the aftermath of the BEPS initiative and the European Commission’s state aid crackdown (e.g., the 13 billion Euro tax bill directed at Apple last year), recent events suggest that the real haymaker at U.S. tech companies operating in the EU may be yet to come (and possibly soon).

The first indication of an even stronger EU crackdown on U.S. tech companies came in an interview in mid-August with the newly appointed French Finance Minister Bruno Le Maire indicating that France and Germany would soon announce a set of new, “simpler” tax rules for “real taxation” of U.S. (and other non-EU) tech companies operating within Europe. It almost seemed as if France and Germany had not heard of (or perhaps had no confidence in) the BEPS changes. Their new proposal was recently introduced and discussed, along with other proposals, at a September 16th meeting of the finance ministers from 10 EU countries.  

Although it is currently unclear what the various proposals from this Gang of 10 will produce, the central theme is simple: U.S. tech companies doing business in Europe should pay the same tax that European tech companies pay; and BEPS just doesn’t get that done.  

One thing that the BEPS initiative notably averted was the adoption of some form of formulary apportionment, like that used by the states here in the U.S. There seemed to be a consensus among all of the “experts” involved in the BEPS process (i.e. the tax practitioners, the academic experts and the government tax officials) that formulary taxation was a foolish idea, unworthy of serious consideration by intelligent people. But apparently that sentiment has quickly changed, perhaps out of recognition that the BEPS changes will not significantly affect digital giants like Google, Apple, Amazon and Facebook. Consider the irony of the new U.K. “Diverted Profits Tax,” a product of BEPS that was immediately nicknamed “the Google tax” because of its intended target, but which turned out to NOT apply to Google.    

One of the proposals backed by France and Germany at the September 16th meeting is the amendment of the European Commission’s previously proposed “common consolidated corporate tax base,” which (foolish or not) would involve formulary apportionment of a common EU tax base to those EU countries where multinationals actually have their people, property AND CUSTOMERS (rather than where they legally house their intangibles).     

But there were other proposals for “EU law compatible options,” such as an “equalization tax” based on turnover of digital companies in EU countries. One thing is clear: any of the proposals are likely to be like BEPS on steroids. 

The potentially good news is that the usual EU suspects (e.g., Ireland, Luxembourg), none of whom were included in the Gang of 10, will likely resist this movement as it would seriously threaten their tax bases. Recognizing this notion, officials in the French finance ministry recently noted that any “Commission initiatives” could take years to come to fruition. But don’t take that to the bank. Those same French officials also noted that a plan to tax tech giants could be concluded much more quickly, perhaps by a smaller group of EU countries, if a unanimous EU agreement is not quickly reached.  

Also, there had previously been an expectation that any new proposals would be aimed only at the very large tech companies. But don’t take that to the bank either. A recent European Parliament draft report calls for the threshold for coverage by a revised corporate tax plan to be reduced from the original plan that would have covered companies with €750 million in annual turnover, to instead cover companies with €40 million in annual turnover. So, if you are reading this letter, your company may soon be faced with a fate worse than BEPS.

Changes along the lines of those proposed by the Gang of 10 would undoubtedly add several percentage points to the tax provisions of U.S. tech companies doing business in the EU (at least those who take the position that their EU earnings are “permanently reinvested”). If formulary apportionment becomes a reality in the EU, the only option for tech companies to avoid increased EU taxes may be to move their apportionment factors out of the EU. While it may be virtually impossible to move customers, history has shown us that the other two apportionment factors (i.e. employees and facilities) can be moved. If the Republicans make good on their promises of substantially reduced U.S. tax rates, the best place to move those factors may turn out to be the U.S.  

Author: Kenneth Brewer

We’d love to get your thoughts: Does your firm see momentum building in the European Union to close corporate tax loopholes, perhaps via formulary apportionment? Does your firm use any planning strategies that may be targeted under these “simpler” rules? Please call or email us and let us know!

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