04/05/17

EU Moves to Clamp Down on Low-Tax Enterprise Zones

Efforts to tighten European Union rules for special economic zones with reduced tax rates moved ahead as EU presidency holder Malta submitted a compromise deal to restrict banking and insurance industry activities and impose special conditions for foreign investors, reports BNA.

Based on confidential documents seen by Bloomberg BNA, the Malta compromise—which EU member states must approve in the Code of Conduct Group for Business Taxation—also targets economic zones that don’t conduct regular tax audits.

The economic zones with special tax breaks, which exist in Portugal, Spain, Latvia, Lithuania and Poland, have become especially controversial as the EU moves to establish a tax haven blacklist by the end of 2017. Critics, especially in the European Parliament, insist that some of the special low-tax economic zones within the EU amount to tax havens.

‘Real’ Economic Activity

The Malta compromise calls for strict conditions that match “real” economic activity with tax breaks, in line with criteria adopted earlier in 2017, being used to gauge whether foreign countries or jurisdictions with low or zero corporate rates should end up on the EU tax haven blacklist.

Based on the Maltese compromise, which follows a European Commission proposal presented in April, specific language has been inserted to ensure the tax breaks are associated with “real” economic activity. As a result, it calls on the Code of Conduct Group to investigate a special low tax economic zone if “the regulations do not require a definite de jure and de facto link between real economic activity carried on within the zone, such as distribution and manufacturing activities and activities that generate employment, assets and investments, and the profits for which the tax privilege is granted.”

Other Conditions

Other specific conditions in the Maltese compromise—as cited in the confidential document—that would trigger a Code of Conduct probe for possible harmful tax competition include the following:

 favorable terms for foreign investors or terms that discriminate against domestic investors;

 tax benefits for companies operating in the zone that specifically favor transactions with non-residents or discriminate against domestic transactions;

 regulations that place restrictions on activities that require a substantial economic presence;

 tax privileges for highly “mobile activities” such as the banking and insurance industry, intra-group services or activities consisting only of the holding of equity participation and earning only dividends and capital gains;

 a lack of regular tax audits verifying that the profits accruing in the zone and allocated to the activities to which tax privileges are available are commensurate with those activities;

 the terms and conditions for establishing a zone, for being allowed to operate in the zone and for the benefits available to companies operating in a zone aren’t clearly defined in public legislation or are not limited in time or permission to establish a zone or to be active in a zone is subject to discretionary powers.

Green Party Critics

The special tax zones are designed to help regions in EU member states that are isolated and have difficulties tracking investment. Earlier in 2017, the European Green Party published a report insisting that the Portuguese low-tax privileges allowed on the island of Madeira, off the coast of West Africa, are abused. The political group said there are very few jobs created by the tax breaks allowed in the Portuguese island.

“The goal was to attract companies that create jobs for Madeira’s citizens and boost the local economy,” the report stated. “But in fact, mainly multinationals and rich individuals have been benefiting from the low taxes while other countries have been losing billions of tax revenues.”

European Green Party member Sven Giegold, a prominent tax expert serving on the institution’s Committee for Economic and Monetary Affairs, said the Malta compromise dealing with the issue of linking “real” economic activity and with the tax breaks was disappointing.

“As long as the substantial test is not specified, the problems revealed on Madeira will continue to exist,” Giegold told Bloomberg BNA in a May 2 email. Because the member states are blocking moves to end the abuse of tax privileges to free zones, “the European Commission has to swiftly adopt strict guidelines based on state aid law.”