The Anti Tax Avoidance Directive
What is it, how has it been implemented in Gibraltar and will it survive Brexit?Francis McGowan, PwC, discovers
The Anti Tax Avoidance Directive (ATAD) is a direct result of the work of the OECD’s Base Erosion and Profit Shifting (BEPS) Action Plan. ATAD aims to eradicate loopholes created by differences between national tax policies in the EU. To do this ATAD seeks to facilitate convergence of the differing national tax policies relating to anti-avoidance measures and abusive tax practices within the EU. The measures covered in ATAD relate to deductions for interest costs, hybrid mismatches, exit taxes, controlled foreign companies (CFCs) and a general anti-abuse rule (GAAR).
ATAD legislates on tax avoidance measures in the field of direct taxation across the Member States of the EU. This is an unprecedented step by the EU because direct taxation is generally a matter of national competence as it relates to the fiscal sovereignty of Member States.Leg
The Anti Tax Avoidance Directive was presented in January 2016 by the European Commission and adopted by the European Council later the same year as the “Council Directive (EU) 2016/1164 of July 2016” (the ATAD Directive).
Article 11 of the ATAD Directive provides that Member States are required to adopt and publish the necessary national laws to comply with the Directive by 31 December 2018 and these national measures must apply from 1 January 2019.
Gibraltar transposed the ATAD Directive into domestic law on 20 December 2018 with the Income Tax 2010 (Amendment No.3) Regulations 2018 (the Gibraltar ATAD Regulations).
In accordance with the ATAD Directive, the Gibraltar ATAD Regulations came into effect on 1 January 2019.
The Anti Abuse Measures
The following sections provide a broad summary of the measures relating to the ATAD Directive and how they have been implemented in Gibraltar law:
1. The Interest Limitation Rule
The Interest Limitation Rule is in place to discourage artificial debt arrangements whose objective is to reduce taxes in Gibraltar.
Generally, under the Gibraltar Tax Act 2010 (the Act), interest expenses are tax deductible when the expense relates to a loan incurred by a company to fund its working capital, or a loan to fund trading assets.
The Interest Limitation Rule provides additional criteria when considering the deductibility of interest in relation to exceeding interest expenses. Exceeding interest expenses are the amount of deductible interest expense which exceeds the taxable interest revenue of an assessable Gibraltar resident company (a Gibco). The Interest Limitation Rule applies to entities in consolidated groups. The rule provides that exceeding interest expenses are deductible up to 30% of the Gibco’s earnings before interest, tax, depreciation and amortization (EBITDA). There is also a safe harbour clause allowing exceeding interest expenses deductions up to €3million (for the group as a whole) irrespective of the EBITDA.
The Gibraltar Government has availed itself of the derogation in the ATAD Directive and therefore does not apply the Interest Limitation Rules in the following circumstances:
- To standalone companies
(i.e. not part of a group);
- To financial undertakings
(e.g. banks, insurance companies etc.);
- On loans that were concluded before 17 June 2016 which have not since been modified; and
- On loans to fund a long-term public infrastructure project.
2. The Controlled Foreign Company Rule (the CFC Rule)
This is the first CFC legislation to be introduced in Gibraltar. The objective of the CFC Rule is to limit the artificial use of entities in low tax jurisdictions owned directly or indirectly by Gibcos whose use has the objective of avoidance of paying Gibraltar tax.
The main characteristics of the CFC Rule is that it will attribute the undistributed profits of an entity held by a Gibco to the Gibco if:
- the Gibco either has: 50% of the voting rights; has 50% of the capital; or is entitled to receive more than 50% of the profits of the CFC; and
- if the actual tax paid on the profits by the CFC is less than 50% of the tax that would have been paid on the same income in Gibraltar; and
- if the undistributed income arose from non-genuine arrangements whose essential purpose is to gain a tax advantage.
The CFC Rule does not apply to CFCs where the annual accounting profits do not exceed €750,000 and the non-trading income does not exceed €75,000; or the accounting profits amount to no more than 10% of its operating costs.
3. Hybrid Mismatch
This rule applies to associated enterprises. There is no requirement to find a tax avoidance purpose but there must be a different legal classification of the financial instrument or the entity by the two jurisdictions in which the entities are resident for tax purposes.
A Hybrid Mismatch arises in two situations:
- When a payment, expense or loss is allowed as a deduction for tax purposes in one EU Member State and the same payment, expense or loss is then allowed as a deduction in a second Member State of the EU (Double Deduction) or
- When a tax deduction is allowed for a payment in one EU Member State but the corresponding income is not recognised for tax purposes when received by an entity in another Member State of the EU (Deduction without Inclusion).
The result of the rule is that if there is a Double Deduction, the deduction of the payment will only be given where Gibraltar is the source of the payment. In cases of a Deduction without Inclusion – the deduction of such a payment will not be allowed by the Gibco.
4. Exit Tax
The Gibraltar ATAD Regulations do not implement Exit Taxation rules as the Gibraltar Government has chosen to adopt rules relating to this at a laterdate (by no later than 31 December 2019 in accordance with the ATAD Directive).
5. General Anti-Abuse Rule (GAAR)
Section 40 and Schedule 4 of the Act is already in line with the GAAR found in the ATAD Directive. Therefore, no further changes will be introduced relating to GAAR in Gibraltar law.
Implications of Brexit on the ATAD Directive
A political agreement was reached on the ATAD Directive by all of the Member States of the EU – including the UK – a matter of days before the UK voted to leave the EU on 23 June 2016. The ATAD Directive was implemented into domestic Gibraltar law just 3 months before the Brexit deadline of 29 March 2019. The Gibraltar ATAD Regulations will therefore remain Gibraltar law after Brexit unless they are repealed or modified by legislation.
It is difficult to predict with certainty what impact Brexit will have on Gibraltar’s continuing application of the ATAD Directive. Gibraltar will have to wait and see what the Withdrawal Agreement between the United Kingdom and the EU will look like. This will dictate Gibraltar’s new relationship with the EU and reveal to what extent Gibraltar can amend legislation derived from EU law. It is our view that due to the Gibraltar Government’s commitment to the OECD’s BEPS Action Plan, it is likely that the Gibraltar ATAD Regulations will survive Brexit.