Anti-Tax Avoidance Directive: impacts on the real estate industry

Grégory Jurion 28 June 2016


EU countries reach political agreement on Anti-Tax Avoidance Directive: impacts on the real estate industry

The EU-28 Finance Ministers reached political agreement on 21 June 2016 on the Council Directive laying down rules against tax avoidance practices that directly affect the functioning of the internal market (also known as ATAD). Ministers decided not to include the switch-over clause originally proposed by the European Commission (EC).

The ATAD sets out certain minimum standards that Member States need to adhere to in several areas covered by the OECD work on BEPS including interest deductibility limitations, controlled foreign company (CFC) rules and rules to tackle hybrid mismatches. The ATAD goes however further and also sets out rules for exit taxation and a general anti-abuse rule. Whereas the ATAD stipulates minimum standards to be applied to all taxpayers subject to corporate tax in one or more Member States, it does not prohibit other anti-avoidance rules designed to give greater protection to the corporate tax base.

Key provisions in the ATAD

Deductibility of interest

A rule restricting net borrowing costs to 30% of the taxpayer’s EBITDA, optionally with a EUR 3m threshold. Standalone entities may be excluded from the scope. Within consolidated groups, Member States may allow full or partial deduction of exceeding borrowing costs under ‘group ratio’ conditions. Member States may exclude loans concluded before 17 June 2016, loans used to fund long-term EU public infrastructure projects, and financial undertakings. Carry-forward of non-deductible exceeding borrowing costs may be allowed without time limit (with an option also to include carry-back for up to 3 years or carry-forward of unused interest capacity for up to 5 years). A grand-fathering clause that will end at the latest on 1 January 2024 was agreed for national targeted rules which are “as effective as the fixed ratio rules” to be applied for a full fiscal year following the publication date of an OECD agreement on a minimum standard. Member States that wish to opt for this derogation will need to notify this before 1 July 2017 to the EC which will assess the effectiveness of the national targeted rules.

Observation for the RE industry

While these rules will apply on the aggregate net interest position including both internal and external financing, the German model rules have appeared to create a variety of issues. Such a rule is new for many Member States. Member States have the option of introducing a threshold lower than or equal to EUR 3m, excluding the interest deduction limitation in some cases but in many others it will further restrict the interest deduction for tax purposes. Because each Member State is entitled to introduce a rule that is stricter than the ‘de minimis’ interest limitation rule, in particular by means of not including an optional provision (e.g. no carry-back or carry-forward rules) or including an optional provision very strictly (e.g. a EUR 1m threshold instead of a EUR 3m threshold), taxpayers may carefully monitor the implementation of the rule under the laws of each Member State in which they have a financing structure in place in order to assess the impact of the rule and the need to refinance or restructure to stay within the threshold. Member States may exclude certain financial undertakings, including AIFs, from the rule. However, it is unclear whether entities controlled by such financial undertakings may also be excluded from the rule.

Exit taxation

Rules for exit taxation that require taxation of market value minus tax value for assets, permanent establishments (PEs) or residence relocated by a taxpayer out of a Member State’s taxing jurisdiction. Deferral via five year instalments is available within the EU/EEA, subject to interest, guarantees and recapture provisions. Exit tax does not apply to temporary transfer of certain financial assets.

Observation for the RE industry

Given the nature of the Real Estate business and the fact that the assets are by definition immovable, the impact of such rule as one would expect should be limited. Nonetheless, there could be an impact if certain departments or functions within a business are relocated to another jurisdiction. In the latter case the taxpayer will be deemed to have realised the fair market value of the department/function and be assessed on the gain, if any. Transfers within the EU/EEA will be granted a deferral and payment over a period of at least 5 years.

General anti-abuse rule

A general anti-abuse rule (GAAR) allowing tax authorities to ignore non-genuine arrangements where (one of) the main purpose(s) is to obtain a tax advantage that defeats the object or purpose of the tax provision. Arrangements are regarded as non-genuine to the extent they are not put into place for valid commercial reasons which reflect economic reality.

Observation for the RE industry

This is to introduce a general anti-abuse rule in the tax systems of the Member States. The wording of the GAAR is wide and currently lacks detailed guidance. If implemented, the level of uncertainty about the tax effects of structures will increase and the interpretation burden will be shifted to the fiscal courts in a dispute. The Real Estate industry will equally be impacted as any other industry.

CFC

CFC rules prescribing taxation with credit at taxpayer (i.e. shareholder/head office) level of certain non-distributed income of CFCs. Entities of which the voting/capital/profit rights are (in) directly owned for more than 50% and non-taxed PEs are CFCs if their actual corporate tax paid is lower than the difference between the corporate tax that would have been charged in the Member State of the taxpayer and the actual corporate tax paid by the entity or PE. Upon future distribution or disposal, there is a deduction of previously included income. Member States may apply certain ‘de minimis’ carve outs and there are certain exceptions for cases of substantive economic activity and for genuine or non-tax driven arrangements.

Observation for the RE industry

The CFC rules are similar to the German CFC rules in place for many years. If applicable, the CFC rules accelerate the inclusion of income at the level of the parent company. In contrast to the CFC rules included in the initial ATAD proposal dated 28 January 2016, the CFC rules included in the ATA do not target income from immovable property. As a result, the impact of the CFC rules on the Real Estate industry are minimal.

Mismatches

Rules addressing mismatches between Member States arising due to hybrid entities or hybrid instruments. To the extent a hybrid mismatch results in a double deduction, the deduction shall only be given in the Member State of source. Insofar resulting in deduction without inclusion, the Member State of the payer shall deny deduction. The EC is asked to put forward a proposal by October 2016 on hybrid mismatches involving third countries with rules consistent with and no less effective than the recommended rules in OECD BEPS Action 2, with a view to reaching agreement by the end of 2016.

Observation for the RE industry

This will for many Member States be a fundamental change on dealing with hybrid mismatches. Currently, there is little alignment of national rules in dealing with hybrid mismatches, other than the recently introduced amendments to the EU Parent/Subsidiary Directive.

Every structure and financing will need to be reviewed to assess if there is a mismatch in treatment at the level of the source Member State and the level of the recipient Member State. Based on the results of the assessment, both corporate and financing structures mayneed to be amended to mitigate the impact of this suggested rule.

Next steps

As a next step, the ATAD will be submitted to a forthcoming Council meeting for adoption. The ATAD will enter into force on the 20th day following its publication in the Official Journal of the EU Member States are required to adopt and publish ATAD-compliant provisions by 31 December 2018 at the latest (exceptions are provided), with the provisions applying from 1 January 2019. These deadlines will be extended with one year for the rules on exit taxation.

For more information, please contact Grégory Jurion or your regular PwC contact.