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New twist in business tax reforms has sting

Charging multinationals a corporation tax on the basis of sales in each European Union member state is the latest twist to the tax harmonization movement in Brussels.

The new proposal by tax commissioner László Kovács would see large member states such as Germany, France and the UK receiving the lion’s share of the tax paid by multinationals even when a manufacturing base is located in a smaller EU nation like Ireland or Slovakia.

IBEC, Ireland’s business-lobby group estimates that about half of the country’s corporate tax take could be apportioned to other EU countries. “We export 80% of our output and 40% goes to other EU countries. So we could potentially lose half of our tax take from multinational exporters,” IBEC chief economist David Croughan calculates.

The premise for the harmonized rate is simple - a single EU tax - but its implementation could be extremely complex.

The common consolidated corporate tax base (CCCTB) would replace 27 different tax rates with a standard corporate tax base, according to Kovács’ proposals. Instead of worrying about varied tax regimes throughout the EU, multinationals would only have to concern themselves with a single tax base. Each member state would then receive its share of the overall tax take based on sales by that multinational in that state.

Ultimately, this could mean that a Ireland-based multinational employing thousands of people and generating billions of euros in revenue would pay a single EU corporation tax bill. Its largest market (Germany) would be the recipient of a large portion of that tax while the Irish exchequer might end up with less than 3%. “

It is extremely likely that the effective tax rate will rise as the countries with the highest sales in the EU tend to have the highest tax rates,” Croughan said.

Not surprisingly, Germany and France are the two countries most heavily in support of the CCCTB, though the UK but is not a prominent supporter. Critics of the proposal fear that it would drive up the overall tax take and push more multinationals to the Cayman Islands, India or Singapore. Furthermore, the current multi-state tax scheme is quite clear for manufacturers of branded goods.

But what of international financial services companies such as those which populate the IFSC in Dublin? If they are carrying out treasury functions for a pharmaceutical giant such as Pfizer, how is the sales factor calculated?

Another weakness in the sales factor idea, which Kovács has acknowledged, is that consumption is already taxed using VAT, so why penalize sales even further? And what happens if a manufacturer based in an EU member state exports all its output outside the EU?

The core difficulty with the latest attempt at corporate tax harmonization is the complexity of accounting rules and taxation policies across the 27 member states. Most member states have different allowances and relief for capital investment (capital allowances) and research and development spending. Many tax regimes have favorable tax rates for income from patents and intellectual property. To agree on a common tax base, agreement must be reached on which costs are tax deductible, which capital allowances are permitted and which accounting policies are used.

Support for the proposals has come not only from the larger member states, but from accountants and tax advisers who could expect to generate extra activity from assisting in implementing the new corporate tax regime for their multinational clients.

A survey of finance directors, tax directors and tax managers from more than 400 companies throughout the EU found a high proportion of support for the CCCTB proposal as long as it did not result in higher overall tax rates. Only Ireland, Cyprus and Poland registered majorities against single tax rate and a common consolidated corporate tax base (CCCTB). The UK was most skeptical about the CCCTB with 62% of tax professionals in favor and 32% of advisers against.

The KPMG International survey pointed out that the proposal was in the interests of “simplifying procedures, improving efficiency and reducing compliance costs” for businesses operating in the single market. Sue Bonney, head of tax for KPMG in Europe, said that European tax rates are amongst the lowest in the world. “Business is sending a message to policymakers that they are prepared to trade choice for certainty, provided this does not result in higher tax rates and more compliance costs,” Bonney said.

As European Commissioner for the Internal Market and Services, Charlie McCreevy has made no secret of his opposition to his fellow commissioner’s proposals. CCCTB would “undermine competition, undermine small and emerging markets, undermine inward investment and undermine the long-term growth and employment prospects of the union,” he said.

McCreevy, who is responsible for the European Union’s policy on the functioning of the internal market of 480 million people across 27 member states, also rubbished the prospect of a CCCTB being “voluntary or optional.” He believes this proposal would result in companies opting to pay less tax, resulting in member states losing revenues and calling for the optional regime to be abolished.

MEP Eoin Ryan (FF) feels that the “ill-conceived” CCCTB proposals are merely tax harmonization by another name, which will favor larger EU states over their smaller neighbors. “This is a process of introducing tax harmonization through the back door,” he has warned. “It will suck the economic activity of Europe into the larger member states and weaken smaller member states,” he said. (