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Taxation and Customs Union
Newsletter2 October 2023Directorate-General for Taxation and Customs Union

Simpler tax rules to cut red tape for cross-border businesses in the EU

On 12 September, the European Commission adopted a number of key initiatives to reduce tax compliance costs for cross-border businesses in the European Union. We talked to Ioanna Mitroyanni, Deputy Head of the Company Taxation Initiatives unit and to Ana Xavier, Head of the Economic analysis, evaluation and impact assessment support unit on the reasoning behind the Business in Europe: Framework for Income Taxation (BEFIT) proposal, as well as on how our initiative on establishing a Head Office Tax System for SMEs (HOT) will help companies thrive.

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What are the problems that the BEFIT and Head Office Taxation (HOT) proposals in particular are trying to tackle?

Ioanna: The BEFIT proposal aims to address the needs of primarily large multinationals (MNEs) that have substantial activity within the EU, whether they are EU-headquartered or third country origin groups. The main idea behind is that, at present, these companies have to comply with different tax systems across the EU. We may look at the internal market as one market, but when it comes to taxes, it is actually not. Also, while multinationals may have resources to deal with compliance, the fact that there can be 27 tax systems where a group could have economic activity still makes it complex for MNEs to comply with taxes and results in costs that are not used in productive activities. In many cases, this may be a disincentive for expanding. With its new simpler rules, BEFIT could reduce tax compliance costs for businesses operating in the EU by up to 65%.

And when it comes to small and medium enterprises (SMEs), simplification is an even more crucial need. Costs related to taxation for SMEs involve a much higher percentage of their turnover (2.5% ), compared to multinational groups (0.7%). Of course, the vast majority of SMEs does not have activity beyond their domestic context. But we believe that those companies have to be given the right, the possibility, to expand and benefit from the internal market. This is why the SME proposal, which is quite ground-breaking, is actually addressed to the very small SMEs. The simplification does not cover SME groups that, in most cases, have already expanded abroad. We want to support the small, standalone companies that do not have the resources and find it difficult to deal with another tax administration and therefore remain domestic.

What did we “learn” from the impact assessment on BEFIT and HOT? Did it change our previous thinking in any way?

Ana: We have certainly learnt a lot more about the issues faced by different types of companies and by tax authorities regarding corporate income tax. For example, it is clear that companies, big and small  can spend a lot of time and money in tax compliance activities related to administrative and legal processes to get their taxes right and sometimes in expensive litigation procedures. Therefore, it is important to facilitate tax compliance, by reducing such certain tax-related administrative and legal costs, and in turn encouraging companies to expand their activity and using such costs savings in productive activities. This will benefit companies and consumers alike and strengthen the internal market. And this is what this package aims at.

From an economic point of view, it was a challenging if exciting exercise. We had to work with many different sources including a dedicated survey by the Commission on compliance costs of SMEs, Orbis data, Country by Country Reporting data aggregated data and ESTAT data. So we had to connect and work with these different and large sources of information. Being able to make sense of existing information can be very demanding but it was also rewarding when it worked. One lesson from the impact assessment exercise is that we need to continue to improve the information available; and, believe me, we need good data analysists, modellers and econometricians working on such complex files, which we were fortunate to have in the unit and in JRC colleagues.

The file was very complex - it was de facto three proposals that the team had to work on at the same time. One thing I learned is that teamwork was absolutely crucial to the success of the file. My take is that when colleagues doing better regulation work closely together with colleagues doing the economics of the impact assessment and with the policy colleagues that work on the legal proposal, we can do a jolly good job. Of course, the extreme dedication of colleagues who worked day and night and holidays to deliver on the file must be acknowledged.

So what are BEFIT and the HOT proposal going to do in practice?

Ioanna: If I can start from the SMEs, our proposal will allow companies that have a taxable presence in another Member State or in more than one other Member State to compute its taxable result in the other Member State based on the rules they already know and are familiar with - those of their state of origin. So, they will not have to tackle the barrier of a different language, or a different administrative culture and they will not need to seek expertise in foreign tax rules. The tax rate will remain local, meaning that it will be the rate of the permanent establishment. This is quite important because it means that one important element of tax sovereignty is retained.

We think that this is very relevant, as we are reducing barriers to cross-border activity in the internal market.

BEFIT is a much more complex system because it involves big multinational groups. If I had to summarize it in a few sentences, it allows multinational groups to use one set of rules for computing their tax base, and the computation follows a pretty simple method because it starts from the financial accounts which groups prepare anyway. It then arrives at a certain outcome which we call ‘preliminary tax result’, based on a limited number of adjustments. Then, the results of the members of the group are pooled together into an aggregated base and allocated in accordance with a formula.

The formula looks at the results of each member of the group over the last three years, so it looks at an average.  Our intention is to monitor the data during the transition period, see how this system works as well as explore the impacts of the implementation of Pillar 2, which will happen in the meantime. On these premises, we hope to explore the possibility of a factor-based formula for the allocation of the base to the companies.  We think that this system offers a substantial degree of simplicity. It also gives companies an important benefit, the cross-border loss relief:  so, if some members are loss making within a group, they can offset their losses against the profits of others.

In relation to transfer pricing compliance, which is very burdensome for companies, we also provide the possibility to operate within a comfort zone within the group.

Do you think this will be well received by companies?

Ioanna: I am confident that companies like the substance of BEFIT and also the substance of the SME proposal. On this, I am confident. There are however other parameters that may influence the overall reception, such as the timing.

Now what happens next?

Ioanna: This proposal came at a time that both big multinational groups and tax administrations are struggling to implement the Pillar 2 directive and also address the ongoing OECD work for the Implementation Framework. So it's a busy period for both companies and tax administrations. We are planning to do some outreach, talk to tax administrations, talk to businesses and business associations quite extensively, explain the elements of the system and also the timeline. For instance, for BEFIT, the start of the application is set on 1 July 2028. So, there is a substantial amount of time to negotiate this proposal in Council and to also put the implementation of Pillar 2 on track.

What are the best possible outcomes of the proposals?

Ana: Their quick adoption of course! 😉 They are good proposals that can make a difference to companies in the internal market and ultimately improve the EU economy which has endured difficult moments recently. Of course, some parts of the package are more complex and therefore are expected to lead to more discussion in Council and Parliament and with the representatives of companies and tax authorities. Nevertheless, from the consultation exercise we have undergone it is clear that in a globalised and more digitalised world, the EU has to remain a resilient social economy and improving the business environment and ensuring greater transparency in the tax area is key to that. I believe the package aims to address important concerns of businesses and is in line with the more general call by our President to reduce administrative costs for businesses.

If you were to tell Member States or tax administrations something, what would be your message in relation to this?

Ioanna: My message would be that we have to take a step back from our comfortable and familiar tax environments and try to look at why we have the internal market and in fact how much benefit the internal market could offer if tax matters were simplified over the mid-term. We have to try to meet the others somewhere half-way. Today, tax administrations also have to mobilise important resources to ensure tax compliance. While change is not easy, the proposed changes will also benefit tax authorities in the medium to long term.

Business in Europe: Framework for Income Taxation (BEFIT)

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Publication date
2 October 2023
Directorate-General for Taxation and Customs Union