In the past twelve months, Ireland has implemented a number of changes reflecting agreements reached at an EU / International level including:
- The introduction of interest limitation rules (ILR)
- The introduction of reverse hybrid mismatch rules to prevent arrangements that create a tax advantage by exploiting differing tax treatment in different countries
- An agreement to a minimum effective tax rate of 15% for certain large multinational groups
OECD BEPS 2.0
The evolution of the international tax landscape continues with the application of OECD’s Inclusive Framework on BEPS. Commonly referred to as BEPS 2.0, the plan provides for a two-pillar solution to address tax avoidance and consistency and transparency in international tax rules, in the context of globalisation and digitisation.
- Pillar One provides for the reallocation of taxing rights to market jurisdictions for multinational businesses with global annual turnover over €20 billion. Work on this is still on-going at an OECD level.
- Pillar Two will impose a global minimum effective tax rate of 15% on certain large multinational groups with turnover in excess of €750 million. The rules for Pillar two are largely agreed at an international level and a draft Directive has been published which is intended to apply from 31 December 2023.
The Minister for Finance has launched a public consultation on the implementation of Pillar Two. The consultation is seeking the views of stakeholders on the scope and charging provisions. The consultation includes a proposal that affected taxpayers would pay a domestic top up tax to increase the rate of corporation tax from 12.5% to the required 15% minimum effective tax rate (Qualified Domestic Top Up Tax). No further top-up would be required for companies resident in Member States that apply this top-up tax. The consultation will run until July 2022.
The “debt-equity bias reduction allowance”, or “DEBRA”, is a new proposal recently published by the European Commission. If adopted, the proposal would apply to all corporate taxpayers in EU Member States, excluding regulated financial undertakings like credit institutions, AIFs, AIFMs, UCITS, insurance undertakings and certain securitisation vehicles.
The proposal includes two new separate measures. Firstly, a tax deduction / allowance for the cost of new equity financing introduced in a given year. The allowance would be based on a deemed / notional interest rate cost for ten year debt, plus a risk premium of 1% or 1.5% (for SMEs). Claims may be made for each relevant year up to a maximum of ten years and are subject to an upper limit of 30% of EDITDA (earnings before interest, tax, depreciation and amortisation).
The second limb to the proposal introduces a further potential limitation on the amount of interest on debt financing which is deductible for tax purposes to 85% of ‘net borrowing costs’ (ie interest paid minus interest received). It is proposed that this new limitation would apply alongside the new ILR rule introduced last year. It is not clear whether the new rules will be aligned with the new ILR rules, but this should be done to preserve the exemptions provided for in the ILR.
While the introduction of an allowance for the cost of equity financing may be welcome, any further restriction on the deductibility of interest which will serve to increase the cost of debt financing will not be. However, the DEBRA proposal may evolve substantially before agreement is reached on the measures by all 27 Member States.
The Unshell Directive
In late December 2021, the European Commission published a proposal, known as the Unshell Directive or ATAD III, aimed at preventing the misuse of shell companies.
However, the ambit of the proposal is much broader. Companies that are not deemed to be shell companies may find that they are still within the scope of the Unshell Directive. The proposal sets out specific “gateways” for entities (i.e. >75% of income is passive, >60% of income /assets is earned or paid out of cross-border transactions, and the administration and decision-making function is outsourced) and certain substance indicators which determine whether the rules will apply to the entity.
Where an entity is in scope, it will be subject to additional reporting obligations which will be automatically exchanged with other EU Member States. If it is subsequently deemed to be a shell entity, it will face tax consequences which will impact on its ability to benefit from double tax treaties and certain EU directives and could result in additional taxes.
As you might expect, listed companies and regulated financial undertakings are excluded from scope. It is expected that the ambit and provisions of the draft Directive will be further refined by the Commission as part of any approval by all 27 EU Member States.
It’s too early to say precisely what impact these proposals may have for companies. However, the introduction of a minimum 15 % rate of tax and implementation of Pillar Two will increase the tax payable by the largest players including banks and financial undertakings.
Banks and other regulated financial undertakings are excluded from the scope of the DEBRA and Unshell proposals. In the case of DEBRA, this means the status quo regarding equity and debt costs for tax purposes will be retained for regulated financial institutions (ie no tax deduction for equity / generally no limitation on debt financing costs).
However, other entities operating in the financial services sector may be affected by these proposals (alongside other corporate taxpayers). For example, certain unregulated entities could be caught by any new interest limitation rule in DEBRA or by the Unshell Directive where the entity outsources its day-to-day operations. Therefore, it will be important to keep a watching eye on the proposals as they develop, and plan for any potential impact on business models and structures.
For more information on these proposals and how they may impact your organisation, contact a member of our Tax team.
The content of this article is provided for information purposes only and does not constitute legal or other advice.