There was a time where tax planning was one of the means available to corporations to mitigate costs. Cost-cutting, maximizing of profits and shareholders’ value was in line with the Milton Friedman ethics of the time.
Well, that time is long gone, and over the past 10 years, tax planning has been deemed morally wrong.
Since the Organization for Economic Co-operation and Development (OECD) joined the descriptive, and very much subjective, term “aggressive” to “tax planning,” there has been much hullaballoo over the practices of corporations in this matter. Indeed, “aggressive” implies moral appraisal of tax planning and when moral appraisal gets into the swing of things, ethics are always lurking in the background.
In a post-financial crisis world, corporations are urged to behave ethically; that is, (according to the Merriam-Webster dictionary) in a way “conforming to accepted standards of conduct.” So, for lack of clarity of definition—as well as fear of reputational damage—companies became engaged in corporate social responsibility, and their tax planning practices were not spared in this process.
The public outcry over the Starbucks case is a perfect embodiment of the matter: where a company claims to feel embedded in society and therefore attaches great interest in trust at all levels, whether trading partners, customers or wider society, it cannot engage in aggressive tax planning.
It makes sense to consider companies as moral entities rather than mere legal entities, as they act according to their specific organization and make their own decisions that have an impact on other stakeholders. Therefore, considering that“tax revenues provide governments with the funds they need to invest in development, relieve poverty, deliver public services and build physical and social infrastructure for long term growth,” corporations must plan their tax affairs to the extent that they contribute to society through payment of their fair share of taxes.
As they engage in corporate social responsibility, multinational corporations may endorse a tax code of conduct describing the principles and general framework to guide the group’s tax affairs and relations with its clients and the tax authorities. The general idea is to highlight that the group does not encourage or promote tax evasion and is very much concerned with paying its fair share of tax.
Ethics are brought to fever pitch where a “main purpose” test rule is enshrined in the code, sometimes long before its introduction in legislation. Yet there’s a snag in such a code where it does not include internal procedures to be carried out where a member of staff fails to comply with its provisions. If so, the whole fails to make sense and remains mere wishful “ethical” thinking.
Yet corporations cannot be the only ones to be held morally responsible for their actions. Determining a fair share of tax is a matter of shared responsibility with states, as the appropriate amount of tax to be paid by corporations is initially set in law.
Paying a Fair Share of Tax: a Shared Responsibility
The concept of paying a fair share of tax is very much present in the implementation of country-by-country reporting (CbCR) as well. CbCR was introduced by the OECD as an addition to transfer pricing documentation, but it has nothing to do with the arm’s length principle, as information provided in the CbCR is based on consolidated information, which by definition eliminates all inter-company transactions within the scope of transfer pricing rules!
CbCR is nothing more than a means to identify situations where profits have been allocated to low-substance or low-tax countries and leads to the assumption that those situations are not compliant with applicable tax rules.
Furthermore, CbCR filed by multinational corporations may become public information. This would certainly lead to misinformed finger-pointing, as the public would have access to rough data (collected for review and use by tax authorities and not for the public eye). Each and everyone’s “ethics” would then become overwhelming.
Impartiality and equal treatment should be the cornerstones of any tax legislation. States themselves may use taxation to attract nonresident companies to create employment and tax revenues, but they do so at the expense of the integrity of the international tax system, as they create harmful competition. Where the OECD and the EU have got to grips with aggressive tax planning, their ongoing efforts mostly fail to acknowledge the part played by administrations in deliberately reducing some corporations’ tax burden.
The fairness of the system should also be guaranteed by tax legislation.
In this respect, further to the OECD base erosion and profit shifting initiative, lawmakers implemented provisions challenging transactions deemed unethical in the wake of the 2008 financial crisis. This is epitomized by the restrictive rules on interest deduction included in the ATAD Directives (Council Directive (EU) 2016/1164 of 12 July 2016 and Council Directive (EU) 2017/952 of 29 May 2017). The use of hybrid entities and instruments was then one of the key elements of tax planning, as it relied on differences in analysis of legal agreements between states.
Where tax legislation was by nature based on a unilateral approach of transactions, skilled tax professionals would use their multi-jurisdictional knowledge to structure tax efficient financing which complied with two or sometimes three countries’ tax rules, and general anti-abuse rules would typically not apply to such transactions.
Both the OECD and the EU designed specific anti-abuse rules, and therefore made illegal what was up to that point merely unethical. Yet legislation may lack consistency and certainty, leaving taxpayers with the responsibility for the use of rules.
Taxpayers should be able to abide by the letter of the law to plan their tax liability: this would be fair and a good measure of the fair share of tax to be paid. But as law is so often poorly drafted, it leaves open tax planning opportunities that are labeled “aggressive.”
To counter such practices, lawmakers and courts have relied on the spirit of the law or the intention behind the letter of the law. The scope of tax planning is then broadened to ethics as it implies a moral evaluation of any business operation.
General anti-abuse provisions which have flourished in both domestic and international tax rules have in recent years set an example (Council Directive (EU) 2016/1164 of 12 July 2016, Article 6: “For the purposes of calculating the corporate tax liability, a Member State shall ignore an arrangement or a series of arrangements which, having been put into place for the main purpose or one of the main purposes of obtaining a tax advantage that defeats the object or purpose of the applicable tax law, are not genuine having regard to all relevant facts and circumstances. An arrangement may comprise more than one step or part.”).
According to such provisions, a business operation may be disregarded if it has been set up not only with the sole purpose, but with the main purpose or one of the main purposes, of obtaining a tax advantage that defeats the object or purpose of legislation. The tax authorities are then allowed to disregard such arrangement where it has resulted in a lower level of taxation than the one they deem an acceptable level of taxation. While case law shows that it can be an ordeal in itself to determine the sole tax purpose of an operation, how can the “main” purpose, let alone “one of the main purposes,” of an operation be safely assessed?
How then can taxpayers determine their fair share of tax where the legislation fails to be consistent enough to do so itself?
An answer to this last question may be provided by tax advisers. But where do they stand, torn as they are between their commitment to their client and their own moral and legal responsibilities?
Tax Advisers: Fine Line Between Tax Planning and Aggressive Tax Planning
The time when tax advisers could indulge in a tasty “double Irish Dutch sandwich” is over. Clients have probably not changed: they still call a tax adviser with a view to reducing their tax liability. Yet tax advisers have had to change, for they were depicted as the villains of the story. They used to be ethically and legally able to help their clients to deal with their tax affairs to any extent. Nowadays, they can still do so but within the shadow of legal penalties if their tax planning is branded as “aggressive” by the tax authorities.
The mandatory disclosure of cross-border tax arrangements by European intermediaries provided by the May 25, 2018 Directive will be effective on July 1, 2020. Tax advisers may face serious penalties, alongside their client, where an arrangement is considered as aggressive by the tax authorities. Yet the edges of the measure need still to be trimmed by domestic legislation, which indicates another example where lawmakers are keen to rely on ethics without clearly integrating the concept into law.
Whether transactions initiated on or after June 25, 2018 will need to be reported when the Directive becomes effective into domestic law makes analysis trickier in the absence of local administrative guidelines.
At the end of the day, tax advisers are left with the responsibility to determine the degree of morality that separates tax planning from aggressive tax planning and incidentally may face a breach of the attorney-client privilege which is the essence of their profession—rather unethical indeed.
Reproduced with permission from Daily Tax Report: International, Published June 6, 06/06/2019. Copyright _ 2019 by The Bureau of National Affairs, Inc. (800-372-1033) http://www.bna.com