Ireland, US multinationals to face new tax landscape in 2018

by Jim Stewart, Trinity Business School, Trinity College, Dublin

Several countries have recently mounted successful challenges to tax strategies of US multinationals. This is especially so in Europe.

Competition policy in Europe, EU tax authorities’ access to newer and better information about MNE activities, US tax reform, and the net effect of ‘correlative adjustments,’ are operating  together to create a new tax environment for US MNEs, for Ireland, and for international taxation in general. As a result the year 2018 will see greater moves towards tax harmonization. This will especially affect US MNEs.

US MNEs and Ireland

 Ireland is a major tax jurisdiction for some of the largest US MNEs. In 2016 10K filings, Alphabet (Google) lists the US and Ireland as “our two major tax jurisdictions” and Facebook named the US and Ireland as being among “the material jurisdictions in which we are subject to potential examination.” Apple is another large US MNE with significant operations on Ireland.

In recent years, Google, Apple, and other companies have faced increasing legal challenges to their tax payments in other countries with implications for Ireland. This trend continued in 2017 and is likely to accelerate in 2018 with consequent effects for Ireland and US investment in Ireland.

Tax environment

An EY survey of 623 transfer pricing executives in 36 jurisdictions found “that respondents are encountering significantly more transfer pricing disputes in more jurisdictions than in the past.” Italy, in particular, has reported several successful challenges to MNE tax policies, whereas France failed Google’s challenge to its assessment of an additional €1.12 billion in back taxes.

One reason for the disparate result is that MNE tax cases  are treated as serious crimes in Italy, with  prosecutions of company executives.

Apple is currently appealing a record fine of €13 billion plus interest resulting from its Irish operations, imposed by the EU Commission’s competition authority and may be subject to further investigation following recent changes to its organisational structure.

Moreover, Facebook recently announced that it was moving to a ‘local selling structure,’ rather than routing much of their sales through Ireland. These organisational changes have led to forecasts of an increase in tax payments in countries where Facebook operates.

Tax dispute resolution mechanisms

There are a number of reasons for increased surveillance and investigations of MNE tax and transfer pricing policies.

One reason is the increased use of bilateral mechanisms to resolve inter-country tax disputes.

New mutual agreement procedure (MAP) cases more than doubled between 2006 and 2015, from 1036 to 2509 cases. There were particularly large increases for Belgium and Luxembourg, although new cases fell in 2016, which may be partly explained by the implementation of new definitions and standards.

Of particular importance in Ireland has been the EU Arbitration Convention, which is binding on all member states.

This convention establishes a procedure to resolve disputes where double taxation occurs between enterprises of different Member States as a result of an upward adjustment of profits of an enterprise of one Member State.

There were 69 MAP cases for Ireland for the period 2008-2017, of which 22 cases were resolved resulting in tax reliefs of €22.4 million. There were  29 unresolved cases with a maximum tax relief  value of €243 million, of which 24 related to the period 2014-2017. This indicates that profit reallocation may be substantially larger in future years.

What are termed ‘correlative adjustments’ have assumed far greater importance in recent years.

The Irish Revenue Commissioners state: “In the case of a correlative adjustment, a foreign associated taxpayer has settled a case unilaterally with its foreign tax administration with respect to a transaction with its Irish associated taxpayer. Subsequently the associated Irish taxpayer makes a claim to Revenue for a correlative adjustment.”

Thus, when a foreign country, for example Italy, successfully argues that an MNE’s declared profit in Italy, should be increased, resulting in an increased tax payment, the MNE will report lower profits, for example, in Ireland. This enables an MNE to seek a repayment of tax in Ireland.

These amounts can be quite significant and are one indication of the extent of inter-country profit reallocation, due to the actions of revenue authorities, with consequent reallocation of corporate tax revenues.  It is also likely that as a result of this reallocation, overall MNE tax payments have increased.

 

Table 1 

Tax reliefs granted in Ireland in 2017 using correlative adjustments

 

Year	No. of cases	Amount of relief granted Jan. 2017	Amount of relief granted Oct. 2017
2005	6	€35.9m
2006	14	€101.7m
2007	8	€163.4m
2008	15	€318.7m	€319.2m
2009	13	€83.1m	€83.1m
2010	16	€70.3m	€89.7m
2011	8	€40.9m	€40.9m
2012	13	€34.2m	€34.2m
2013	10	€8.7m	€9.2m
2014	12	€2.5m	€3.8m
2015	14	€0.0m	€8.0m
2016	9	€0.0m	€0.0m

Source: Parliamentary Questions Dail Eireann, 18th January, 2107, no. 2196/17 and Parliamentary Questions Dail Eireann, 17th October, 2107, no. 43428/17. This table excludes amounts under ‘Corresponding adjustments’ using mutually agreement procedures (MAP).

 

There were 31 open cases for the years 2009-2016, of which 24 related to 2014-2016, indicating substantial future reallocation of profits and tax revenues in Ireland. Moreover, correlative adjustments cases are likely to increase further in future years because of increasing international tax and transfer pricing challenges.

Table 2 shows some of these challenges which have a direct bearing on Ireland.

This further underlines the fluidity of MNE inter-country profit allocation with implications for both country tax receipts and MNE tax rates.

 

Table 2

Recent Tax Settlements/disputes with Implications for Ireland

 

Name	period	Settlement	Country
Apple	Period up to 2015	£136 million payment	UK
Google	2009-13	€ 306 million in May 2017 (Google has also agreed to changes in tax practices in Italy)	Italy
Google	2006-12	€192 million Oct. 2017. Payments from Ireland to India were deemed to be royalty payments and subject to a royalty tax	India
Google and Facebook		Proposed digital sales levy of 6%	Italy
Digital firms	From 2016	Equalisation tax of 6%	India
Google	2011-15	Tax authorities are seeking back taxes of $308 million 2016 (Tax authorities also reported that Facebook was also being investigated)	Indonisia
Apple	2008-2013	€ 300 m. Dec. 2015	Italy

 

There are likely to be more successful challenges to MNE tax policies because tax authorities have an increasing amount of new information about MNE activities.

New and better information

Action 13 of the OECD/G20 base erosion profit shifting reports (BEPS) requires companies to report annually on their global business operations and transfer pricing policies in a master file which will be available to ‘all relevant tax administrations.’  Secondly, detailed ‘transactional information’ specific to a country should be filed within each country.

Of greater significance is the BEPS Action 13 requirement for  large MNEs to file a country-by-country report, providing annually and for each tax jurisdiction in which they do business, the amount of revenue, profit before income tax, and income tax paid and accrued.

These developments have been extended in EU agreements, for example, on the exchange of tax rulings and country by country reporting.

The future will also likely bring an increased possibility of international tax and transfer pricing dispute resolution via double taxation agreements under the multilateral instrument proposed as part of BEPS Action 15.

Ireland signed this convention in June 2017, though the agreement has not yet been ratified and is thus not yet in force.

BEPS Action 14 reflects commitments by a majority of OECD countries to make dispute resolution more effective.

US corporate tax rate

 The recently announced reductions to US nominal corporate tax rates are expected to increase earnings of US firms by reducing  tax rates, although there may be a short run tax increase for some firms due to the tax on unrepatriated foreign earnings.

Because the nominal tax rate in Ireland (12.5%) is far lower than in Italy (27.8%) and other countries,  increasingly successful  tax challenges of EU nations and the net effect of ‘correlative adjustments’ and of MAP ‘corresponding adjustments’ will likely increase taxes paid on non US profit, but especially EU profit, thus increasing effective tax rates on non US earnings.

Thus, effective tax rates of US MNE (combining US and non US profits) are unlikely to fall as much as the fall in the nominal US tax rate. Future US effective corporate tax rates will also depend, for example, on the extent to which foreign tax credits on items, such as the Apple fine, may be offset against the tax on unrepatriated earnings.

Currently, US MNEs, such as Apple and Alphabet (Google), earn most of their profits outside the US but pay most of their corporate tax within the US.

In future years the proportion of corporate tax paid in the US is likely to fall, while the non-US effective tax rate on profits, and the proportion of corporate tax paid outside the US, is likely to rise.

A further implication is that while corporate tax receipts have increased dramatically in Ireland, future years will see less growth or a fall in profits declared in Ireland with consequent effects for the  corporate tax take.

Tax harmonization

Finally, the effects of increased information on the operation and tax payments of large firms, the  increased use of ‘correlative adjustments’ and MAP are likely to  be increased harmonization of rules and conventions relating to levels of profit and the value of intra firm payments, especially within the EU.

The result may be the emergence of a form of common consolidated tax base (CCTB).

Julie Martin

It will be interesting to see how much the emerging institutional dispute resolution mechanisms based on numerous interations with the same firm operating in multiple jurisdictions will yield results that differ from proposals for a CCTB by the EU.