IFA US-Italy Joint MeetingPanel on EU-US Tax IssuesHow EU Implements BEPS

September 24, 2016, Barcelona

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US Implementation of BEPS (1/4)

Compare Congress’ (legislative) response compared to Treasury/IRS (regulatory)response

Congress

• Legislative proposals to target BEPS have received limited attention

• Certain members have expressed concern about BEPS (and state aid investigations) targeting U.S. multinationals

• Certain members have questioned Treasury/IRS authority to require CbC reporting and to implement proposed debt/equity regulations

Treasury/IRS

• CbC reporting regulations

• Proposed debt/equity regulations

• 2016 U.S. Model Treaty and announced re-negotiation of several treaties

• Other efforts targeting BEPS (outbound transfers, transfer pricing, transfers of intangibles to foreign partnerships, budget proposals)

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US Implementation of BEPS (2/4)

Country-by-Country Reporting Regulations

• In June 2016, Treasury and the IRS issued final regulations (TD 9733) that require annual CbC reporting by certain US persons that are the ultimate parent entity of an MNE group that has annual revenue for the preceding annual accounting period of $850 million or more

• Information collection requirements in the final regulations will be satisfied by submitting a new reporting form (Form 8975) with an income tax return

• IRS will exchange reports with US treaty partners under competent authority agreements entered into pursuant to treaties and tax information exchange agreements

• Effective June 30, 2016, the final regulations apply to tax years beginning on or after July 1, 2016

• Voluntary filings for reporting periods that begin on or after January 1, 2016 and before June 30, 2016 will be addressed in separate guidance

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How will US Implement BEPS? (3/4)

Proposed Debt/Equity (Section 385) Treasury Regulations

• In April 2016, Treasury and the IRS issued proposed regulations under section 385 that would impact certain related-party debt

• The bifurcation rule would permit the IRS to divide a related-party debt instrument into part debt and part equity if, based on the facts and circumstances, the instrument should be bifurcated under “general federal tax principles”

• The documentation rule would recharacterize as equity a related-party debt instrument lacking contemporaneous documentation establishing an unconditional obligation to repay, creditor’s rights to enforce terms, a reasonable expectation of repayment, and actions evidencing a debtor-creditor relationship

• The automatic recharacterization rule would generally treat as equity a related-party instrument otherwise treated as debt for US tax purposes that is issued, or with a principal purpose of funding, (1) a distribution (actual or deemed), (2) an acquisition of expanded group stock, or (3) certain asset reorganizations

• A principal purpose is deemed to exist if an instrument is issued by the funded affiliate 36 months before or after the funded affiliate makes a distribution or covered acquisition.

• The bifurcation and documentation rules are generally proposed to apply to instruments issued (or deemed issued) after the regulations are finalized; the automatic recharacterization rules generally apply to instruments issued on or after April 4, 2016

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How will US Implement BEPS? (4/4)

2016 US Model Treaty

• Contains a number of BEPS-related provisions

• Updated LOB article with restrictions on intermediate ownership and base erosion under certain tests

• Denial of reduction in U.S. withholding tax rates for certain related-party payments in inverted groups

• “Special tax regimes” provision would deny treaty benefits on deductible payments of highly mobile income that are made to related persons that enjoy low or no taxation with respect to that income under a preferential tax regime (i.e., a “special tax regime”).

• Subsequent changes in law provision would require the treaty partners to consult to determine if amendments to the treaty are necessary to restore an appropriate allocation of taxing rights between the two countries

• Provision is triggered if a treaty partner’s general rate of company tax falls below the lesser of either 15 percent, or 60 percent of the other country’s general statutory rate of company tax

• Mandatory binding arbitration

Measure ATAD/ATAP BEPS

Interest Limitation Rule (Art. 4) Action 4Exit Taxation (Art. 5) X

GAAR (Art. 6) Action 6CFC Rules (Artt. 7-8) Action 3

Anti-Hybrid Mismatches (Art. 9) Action 2Digital Economy X Action 1

PE X Action 5Cbcr – TP Documentation Dir. 2016/881/EU Action 13

TP Intangibles (X) State Aid Actions 8-10Dotas Rule (UK) X Action 12

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Table of Measures in the BEPS and ATAD

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Country-by-Country Reporting (1/2)

Who is the Reporting Entity

• Italian 2015 budget law, EU (Directive 2016/881/EU) and BEPS Action 13 Ultimate Parent – Note for Italy: ITA subsidiaries may also qualify as RE but only when the

Parent is resident of a country that does not require Cbcr

Exemption threshold: € 750 million

• US Final Regulations Ultimate Parent US

exemption threshold: $ 850 million

Information to be provided

• Allocation of income: revenue, profit before taxes, stated capital, accumulated

earnings, tangible assets and number of employees on a FTB

• Taxes: income taxes paid and accrued

• Business activity(ies) carried out and Entities part of the MNE group per jurisdiction

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Country-by-country Reporting (2/2)

Stages and timing of Cbcr

• Taxpayers – Filing of the Cbcr by the Reporting Entity within 12 months as of the

last day of the MNE Group’s FY (commencing on or from 1 January 2016). Note for

Italy: Italian law provides for penalties ranging from € 10.000 to € 50.000

• Tax authorities – Automatic exchange of Cbcr between tax authorities under the

CbC MCAA based on existing international agreements (i.e., DTC Art. 26, TIEAs,

Directive 2016/881/EU and EU/OECD Multilateral Convention) within 15 months as

of the last day of the MNE Group’s FY

Benefits of the Cbcr

• Enhancement of transparency with Tax Authorities for the assessment of high-level

TP risks and other BEPS-related risks

• Reduction in compliance and administrative costs thanks to standardized and

comparable documentation

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ATAP & ATAD – CFC Rule and Switch-over Rules

In its final version, the ATA Directive (2016/1164/EU) does not contain the switch over rule proposed by the Commission in Art. 6 (COM (2016) 26 FINAL dated 28.01.2016)

Article 8 of the Commission’s draft proposal identified CFCs based

• on a control test [50% of rights to voting, capital or profits], plus

• a 40% effective TR test [i.e., profits of CFCs < 40% domestic eff. TR] – while the switch over rule provided for a 40% statutory corporate tax rate [i.e., applied whenever the foreign profits were subject to a CITR < 40% domestic CITR]

Profits attributable to PEs which are not subject to tax or exempt in the controlled entity’s jurisdiction are not taken into account for the purpose of the ACT test

Articles 7 of the Council’s ATAD implements a hybrid approach: it is a transactional approach but provides for carve-out clause in case (i) the tainted income (Art. 7(2)(a)) is less than 1/3 or (ii) the diverted income (Art. 7(2)(b)) is that of a small entity (Art. 7(4)) this narrows down the scope of the CFC rule

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ATAP & ATAD – CFC Rule and Minimum Standard (2/2)

However, Member States are free to narrow the carve out clause by decreasing the % of tainted/diverted income – thus re-widening the scope of the CFC rule.

Art 7(2)(a)(2nd sentence) ATAD lays down a substance carve-out clause that kicks out of the CFC rule entities carrying out a substantive economic activity.

However, Member States are left the choice not to apply this carve out to third-country CFCs (Art 7(2)(a)(3rd sentence) ATAD) in order to widen the scope of the CFC rule

The Italian CFC rules :

(a) provide for a statutory (Art. 167(4) ITC) CITR test (not for EU and EEA MS)

(b) provide an effective (Art. 167(8-bis) ITC) CITR test (world wide) for passive incomecompanies.

(c) implement an entity approach where either all or none of CFC’s income is imputed to theresident shareholder if an entity meets the relevant CFC tests.

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ATAP & ATAD – CFC Rule and Third-Countries

Art 7(2)(a) ATAD does not openly discriminate between EU and third States-CFCs as it does not directly provide for a different treatment

However, it leaves Member States the ground to apply their CFC rules to third-country entities even if they exert a substantive economic activity

Is there a tax bias in relation with third-countries? Is there a potential infringement of EU freedom of capital, which – in non EU situations – covers also investments which grant significant influence? Does this provision render less attractive for EU residents investing in non-EU countries?

Italian CFC rule does not per se limit its carve out provision to CFCs located within the EU all CFCs – wherever located - that carry out a substantive economic activity may in principle deactivate the CFC rule

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Exit Taxation

“A taxpayer [1] shall be subject to tax at an amount equal to the market value [2] of the transferred assets [3], at the time ofexit of the assets, less their value for tax purposes, in any of the Relevant Circumstances” (Art. 5 ATAD)

[1] Taxpayer: The Directive applies to all taxpayers that are subject to corporate tax in one or more Member State, including permanent establishments in one or more Member State of entities resident for tax purposes in a third country

[2] Market value is the amount for which an asset can be exchanged or mutual obligations can be settled between willing unrelated buyers and sellers in a direct transaction.

[3] Transfer of assets: means an operation whereby a Member State loses the right to tax the transferred assets, whilst the assets remain under the legal or economic ownership of the same taxpayer

Transfers include those:

• From MS to another MS or third country

• from PE to Head Office and viceversa;

• transfer of assets, residence and business (carried on by a PE).

Taxable basis market value of the transferred assets less their value for tax purposes

Deferral shall be granted but shall be immediately discontinued if assets, PE’s business are disposed of or residence transferred to a third country.

Interest may be charged and provision of a guarantee may be required in case of demonstrable and actual risk of non recovery

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Interest Limitation Rule

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PROVISION Art. 4 - ATAD BEPS

Fixed ratio rule net interest/EBITDA ratio

30% Within a corridor of 10%-30%

De minimis monetary threshold Yes (optional) Yes (optional)

Group ratio rule Yes (optional) Yes (optional)Carry forward and/or carry

back Yes (optional) Yes (optional)

Targeted rules to support general interest limitation rules

and address specific risks

Yes (optional) Yes (optional)

Specific rules/exclusion to address issues raised by the

banking and insurance sectors

Yes (optional) Yes (optional)

Anti-Hybrid Rules in the ATAD ATAD Art. 9 aims to tackle mismatch situations attributable to differences in the

legal characterization of a financial instrument or entity covers hybrid financing and entities while branch mismatches fall out of the scope of the rule [BEPS Action 2 Branch Mismatch Structure, Public Discussion Draft]

“ 1. To the extent that a hybrid mismatch results in a double deduction, the deductionshall be given only in the Member State where such payment has its source.

2. To the extent that a hybrid mismatch results in a deduction without inclusion, theMember State of the payer shall deny the deduction of such payment. ”

Further work is to be undertaken on other kind of hybrid mismatches between Member States and third countries [recital # 13 ATA Directive]

BEPS Action 2 two-steps response v. Art. 9 ATAD single layer response

Anti-Hybrid Rules in the BEPS Action 2 In case of DD outcomes arising out of hybrid financial instruments [BEPS Action 2,

Recommendation 1]:• As a primary response, payor’s jurisdiction denies the deduction [contrary to ATAD Art. 9(1)]• As a defensive rule, the payee’s jurisdiction require income inclusion if the payor’s jurisdiction

allows a deduction

The same applies for D/NI outcomes in hybrid entity payments [BEPS Action 2, Recommendation 3]

• As a primary response, the payer’s (subsidiary) jurisdiction denies the deduction unless the deduction is set off against dual inclusion income [similar to ATAD Art. 9(2)]

• As a defensive rule, the payee (investor) jurisdiction includes as ordinary income any disregarded payments to the extent the payer’s deductions for such payment exceeds the dual inclusion income for that period

In case of DD outcomes arising out of hybrid disregarded payments made by a hybrid payer that results in a hybrid mismatch [BEPS Action 2 on Anti-Hybrid Financing Rule, Recomm. 6]

• The parent jurisdiction denies the duplicate deduction to the extent it gives rise to a DD • If the parent jurisdiction does not neutralize the mismatch, the payer jurisdiction denies the

deduction for such payment to the extent it gives rise to a DD outcome

BEPS Action 6 puts forward a three-pronged approach1. Policy statement in DTT title and preamble

2. Specific anti-abuse rule based on LOB clause of US treaties

3. Treaty GAAR based on the principle purpose of the transaction (“PPT”)

BEPS Action 6 recommends a combination of the above elements, depending on the

preferred policy1. Best policy option: the combined approach of an LOB and PPT rule2. Second-best: the PPT rule alone3. De residuo: the LOB rule supplemented by a mechanism that would deal with conduit financing

arrangements not already dealt with in tax treaties

The ATAD implements a GAAR based on the PPT, supplemented by CFC, interest limitation

and anti-hybrid rules, but leaves out one of the probably most efficient measures, i.e. the

switch over rule

LOB: EU infringement NL-JPN DTT (19 November 2015). Most Favorite Nation

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Treaty Abuse - BEPS Action 6 Policy Approach

Treaty Abuse - BEPS Action 6 GAAR and compatibility with EU BEPS Treaty GAAR

“ Notwithstanding the other provisions of this Convention, a benefit under this Convention shall not be granted in respect of an item of income if it is reasonable to conclude, having regard to all relevant facts and circumstances, that obtaining that benefit was one of the principal purposes of any arrangement or transaction that resulted directly or indirectly in that benefit, unless is established that granting that benefit in these circumstances would be in accordance with the object and purpose of the relevant provisions of this Convention.”

EU Recommendation on Treaties C(2016) 271 final suggests to implement the PPT in a form compliant with the ECJ case law inserting a carve-out clause for genuine economic activities to the treaty GAAR proposed by BEPS Action 6

“ Notwithstanding the other provisions of this Convention, a benefit under this Convention shall not be granted in respect of an item of income if it is reasonable to conclude, having regard to all relevant facts and circumstances, that obtaining that benefit was one of the principal purposes of any arrangement or transaction that resulted directly or indirectly in that benefit, unless it is established that it reflects a genuine economic activity or that granting that benefit in these circumstances would be in accordance with the object and purpose of the relevant provisions of this Convention.” [EU recommendation added in emphasis]

Treaty Abuse – Italian, EU and BEPS GAARs The BEPS Treaty GAAR, the EU GAAR of Art. 6 ATAD and the Italian GAAR (Art.

10bis of L. 212 of 2000 although it is doubtful as to whether it applies to DTT) implement different definitions of abuse of fiscal law, but all build upon the element of the violation of the object and purpose of the relevant provisions

In the version amended by the Commission, the BEPS (amended EU) GAAR also implements the economic substance carve out, which is a requirement of the Italian GAAR as well. In this respect, the Italian GAAR already conforms to the EU GAAR

However, the Italian GAAR departs from the BEPS and EU ATAD GAARs in that it implements an essential purpose test, not a PPT its scope of application is apparently narrower and does not meet the minimum standard set by the ATAD

The intensity of the burden of the proof on the Tax Authorities is lower in the BEPS GAAR than in the Italian GAAR [BEPS Action 6 §26]

What is state aid in tax matters? (Old) 1998 Com on application of State aids rules to direct taxation of

undertakings (negative aid) COM 24 of 28 January 2016: ATA package & external tax strategy COM 19 May 2016 (replacing 1998 COM)

Objective scope:• 5. Selectivity• 5.4. Specific Issues Concerning Tax Measures• 5.4.4. Tax Rulings and Settlements

Consequence: obligation of recovery (10 years) Gibraltar case: look at effects of tax measures in order to determine

selectivity (approximation to soft approach of harmful tax competition) Pending case C-20 and 21/15: Santander/Autogrill

AG Wathelet 28 July 2016: different treatment for tax amortisation of financial goodwill for foreign shareholding acquisitions is distortive

State aids procedures on tax rulings1 SA.38373: Apple, IRL – open since 11 June 2014 – Negative final

decision with recovery 30 August 20162 SA.38375: FFT, LUX – open since 11 June 2014 – Negative final

decision with recovery 21 October 2015 (pending cases T-755/15, Lux e T-759/15, Fiat vs Commission)

3 SA.38374: Starbucks, NL – open since 11 June 2014 – Negative finaldecision with recovery 21 October 2015 (pending case T-760/15, NL vs Commission)

4 SA.38994: Amazon, LUX – open since 7 October 20145 SA.38945: McDonald’s, LUX – open since 3 December 2015 6 SA.37667: Excess Profit Ruling System, BE – open since 3 February

2015 – Negative final decision with recovery 11 January 2016 (pendingcase T-287/16, BE vs Commission)

WP of 3 June 2016 and CJEU case law Tax rulings and transfer pricing methods must reflect market prices ALP pursues horizontal neutrality between groups and single entities ALP embedded in free competition rule of Article 107 TFEU OECD TP methods must comply Art. 107 TFEU Focus on “evident cases”: “the CJEU endorsed the arm’s length

principle for determining whether a fiscal measure…gives rise to a selective advantage”

22.6.2006, joined cases C-182/03 et 217/03, Forum 187 ASBL Belgian coordination centres and protection of legitimate expectations Cost plus with exemption from précompte (para. 112) as source of

economic advantage for coordination centres 2° motive T-759/15: Commission failed to explain how arm’s length is a

principle of Union law 21.1.2010, C-311/08, SGI (fundamental freedoms) on arm’s length

Para. 71: in order to avoid unusual or gratuituous advantages restrictions may not deprive taxpayers of the right to give evidence of the business purpose of his transactions

Bilateral Investment Treaties and State Aids

US Friendship and Commerce treaties with Ireland and the Netherlands predate EU membership of such countries

Integration of European Union legal system in conformity with public international law order

Safeguard of previous obligations vs functioning of EU internal market Particularly relevant issues in some pending cases on tax rulings US scholars (Grinberg and Marian) have discussed the matter in order

to determine whether US could retaliate against the EU Overall legal uncertainty

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State Aid – US Response

Treasury White Paper on EU State Aid Investigations of Transfer Pricing Rulings (August 2016)

• European Commission’s approach is new and departs from prior EU case law and Commission decisions

• Commission should not seek retroactive recoveries under its new approach• Commission’s new approach is inconsistent with international norms and undermines the

international tax system

Notice 2016-52 (September 2016)• States that Treasury and the IRS intend to issue regulations to address the separation of foreign

income taxes from related foreign income where, in anticipation of a large foreign-initiated adjustment (such as an EU state aid payment, to the extent such payment results in creditable foreign taxes) that relates to a prior taxable year, a taxpayer takes steps (such as changes in ownership or distributions) to separate the additional payment of foreign tax from the income to which it relates

• Addresses concern that, for example, taxpayers could repatriate cash carrying significant amounts of creditable foreign taxes without also including in income the earnings and profits to which such taxes relate

• Guidance will be issued pursuant to section 909, which is intended to prevent the separation of creditable foreign taxes from related income by, in general, deferring the right to claim credits until the related income is included in US taxable income