Enhanced Tax Transparency in the European Union
By Gavin Gafan Senior Manager, Tax, Deloitte Limited
It is evident that EU Member States (and indeed authorities at a global level) are improving how they communicate with each other on taxation, particularly so when it comes to curbing aggressive tax practices. The Directive on Administrative Cooperation (DAC) in the field of taxation, which has been ratified into Gibraltar’s tax legislation, aims to provide the necessary procedures and platform to enable greater cooperation with other Member States, in order to help combat tax fraud and evasion. However, in light of international tax scandals, the EU has embarked on initiatives for the mandatory disclosure of information on potentially aggressive tax planning arrangements along the lines of Action 12 of the OECD’s BEPS project. In this context, the European Parliament called for tougher measures against intermediaries who assist in arrangements that may lead to tax avoidance. The EU has issued new rules (phase 6 of the existing Directive – DAC6) set out within the EU Directive 2018/22, with the aim of obliging intermediaries to inform tax authorities of certain cross-border arrangements that could potentially be used for tax avoidance.
The provisions of DAC6 will need to be ratified into Gibraltar’s Income Tax Act by no later than 31 December 2019. These rules will require intermediaries to report to the Gibraltar Tax Authorities on any cross-border arrangement that shows at least one of the indicators (hallmarks) stipulated in the Directive. It should be noted that the definition for an intermediary is broad and should include lawyers, accountants and tax advisers, but is also expected to apply to banks, trustees, insurance companies and asset managers.
Where no EU intermediary is involved, or where an intermediary can assert legal professional privilege, the reporting obligation will fall on the taxpayer. Applicable penalties for non-compliance should apply, the severity of which should be clarified once Gibraltar’s tax legislation is updated to ratify the rules set out in the Directive.
The hallmarks outlined by the Directive are complex and require careful consideration against all business activities. There are five hallmarks (A to E), of which hallmarks under category A and B as well as points 1.2, 1.4 and 1.5 of Category C may only be taken into account if the main benefit test is fulfilled (i.e. where the main or one of the main benefits of the arrangement is to obtain a tax advantage). For avoidance of doubt, it should be noted that the main benefit test does not apply to hallmarks under category D and E as well as points 1.1 and 1.3 of Category C. That is to say, these would be taken into account irrespective of whether the main (or one of the main) benefits of the arrangement is to obtain a tax advantage.
These hallmarks can be summarised as follows:
A. Generic hallmarks linked to the main benefit test:
A.1. Arrangements where a taxpayer complies with a condition of confidentiality which may require them not to disclose how said arrangement could secure a tax advantage;
A.2. Arrangements where the intermediary is entitled to receive a fee fixed to the amount of tax advantage derived, or whether or not an advantage is derived by a taxpayer;
A.3. Arrangements utilising standardised documentation and/or structure customised for implementation and available to more than one taxpayer.
B. Specific hallmarks linked to the main benefit test:
B.1. Arrangements where contrived steps are taken by the participant to said arrangement for the purpose of acquiring a loss-making company, discontinuing the main activity of said company and then using its losses to reduce its tax liability;
B.2. Arrangements which have the effect of converting income into other categories of revenue (e.g. capital or gifts) which are taxed at a lower rate or exempted from tax;
B.3. Arrangements which include circular transactions resulting in the round-tripping of funds mainly through interposed entities without other primary commercial function.
C. Specific hallmarks related to cross-border transactions:
C.1. Arrangements involving deductible cross-border payments made between two (or more) associated enterprises, where at least one of the following conditions are met:
- The recipient is not tax resident in any jurisdiction;
- The recipient is tax resident in a jurisdiction that taxes at the rate of zero (or almost zero);
- The recipient is tax resident in a jurisdiction listed by the Organisation for Economic Co-operation and Development as non-cooperative;
- The payment is exempted from tax in the jurisdiction where the recipient is tax resident;
- The payment benefits from a preferential tax regime in the jurisdiction where the recipient is tax resident.
C.2. Arrangements where depreciation deductions are claimed in more than one jurisdiction on the same asset;
C.3. Arrangements where relief from double taxation is claimed in more than one jurisdiction on the same item of income or capital;
C.4. An arrangement where there is a material difference in the amount being treated as payable in consideration for the assets in the relevant jurisdictions involved.
D. Specific hallmarks concerning automatic exchange of information and beneficial ownership:
D.1. Arrangements which undermine reporting obligations under EU legislation or agreements on automatic exchange of information, or which takes advantage of the absence of such legislation/agreements;
D.2. Arrangements involving non-transparent legal or beneficial ownerships that have little substance or are established in a jurisdiction other than that of the beneficial owner.
E. Specific hallmarks concerning transfer pricing:
E.1. Arrangements involving the use of safe harbour rules;
E.2. Arrangements involving the transfer of hard-to-value intangibles;
E.3. Arrangements involving intra-group cross-border transfer of functions and/or risks and/or assets if the projected earnings before interest and taxes (EBIT) during the three year period after the transfer, of the transferor(s) are less than 50% of the projected annual EBIT of such transferor(s) if the transfer had not been made.
Whilst the application of the hallmarks is expected to be clarified once domestic legislation is in place, it is evident that significant tax knowledge and judgement is expected to be needed to determine whether a reporting obligation arises.
Intermediaries or taxpayers will be required to disclose reportable cross-border arrangements implemented in the period 25 June 2018 to 1 July 2020 to the Gibraltar Tax Authorities by no later than 31 August 2020, subsequent to which, all future reporting will be within 30 days (whichever occurs first) beginning:
- On the day after the reportable cross-border arrangement is made available for implementation; or
- On the day after the reportable cross-border arrangement is ready for implementation; or
- When the first step in the implementation of the reportable cross-border arrangement has been made.
The provisions of this Directive aim to enhance transparency within the EU by promoting mandatory reporting between intermediaries and/or taxpayers and their local tax authorities. The information will be exchanged between EU tax authorities and may lead to further, targeted anti-avoidance measures being introduced.