ESG & Taxes

Can taxes save the planet?

10-11-2022
Governments use taxation in part as a policy instrument to influence the behaviour of companies and citizens. Corporate tax facilities try to encourage sustainable investments, while polluting behaviour is discouraged, inter alia through environmental taxation. For that reason, taxes play an important role in the environmental aspect of ESG. The tax policy of a company may also say something about its social integrity. Until recently, active fiscal planning was a rather 'accepted' way for companies to reduce costs. But the view that taxes are merely a cost item for companies now seems to be outdated. Active fiscal planning that leads to a reduction of the tax liability is frequently judged by the media or society as being immoral. This means that reputational damage for companies is lurking. In this new era, a company must be transparent about its tax strategy. A company is expected to demonstrably contribute its fair share to society. For that reason, taxes play an important role in the social and governance aspects of ESG.

In this chapter, we will provide some grip for the company to prepare for the ESG impacts of taxes. First, we will outline the developments in relation to specific taxes (such as the carbon border levy and the plastic tax), which we expect companies will have to take into account in the short term.

Plastic tax

One of the most tangible products for companies and citizens with a direct environmental impact is plastic. In 2018, the European Commission launched the European strategy on plastic materials, which is to promote the transition to a more circular economy and tries to protect the environment against plastic pollution. In line with this strategy, since 1 January 2021, each Member State has been required to make a contribution to the EU budget based on non-recycled plastic packaging waste. A uniform rate of call of EUR 0.80 per kg is applied to the weight of any non-recycled plastic packaging waste. Each Member State has been given the policy freedom to choose how to realise this levy, so that each can pursue a national plastic tax at its own discretion.

The introduction of a plastic tax is extremely complex.

In Spain and Italy, this has already been translated into new legislation or legislative proposals for taxes on non-reusable plastic packaging and plastic disposables. Although the Netherlands has not yet published any concrete bill in response to this European strategy, the possibilities of a national levy on new plastic have been explored. The goal is to discourage the production and use of new plastic, hoping to increase the share of plastic recyclate. The cabinet has requested CE Delft research agency to perform an initial exploration. The agency has concluded, in summary, that the introduction of a plastic tax is extremely complex.

The Netherlands already has an extensive producer responsibility under which companies that market packaged products (for example, in plastics) in the Netherlands are required to pay a waste management contribution to Stichting Afvalfonds Verpakkingen. A producer or importer of packaged products is to pay a contribution to Afvalfonds Verpakkingen if in any given calendar year more than 50,000 kg of packaging is brought to market (or, after import, unpacked) in the Netherlands.

Bringing to market in the Netherlands means that a producer or importer:

• adds, or causes the addition of, packaging material to goods and makes such goods available to a third party in the Netherlands;
• imports goods from outside the Netherlands into the Netherlands and, after import, removes and disposes of the packaging material;
• imports goods from outside the Netherlands into the Netherlands and makes such goods available to a third party in the Netherlands.

The 2022 Policy of Afvalfonds Verpakkingen (dated 31 December 2021) shows that packaging is broadly defined for this purpose. The duty to pay a contribution applies, inter alia, to sales or primary packaging (packaging designed to serve as a sales unit for the end user or consumer at the outlet), collection or secondary packaging (packaging designed to constitute a collection of a number of sales units at the outlet, irrespective of whether they are sold as such to the end user or consumer), and shipment or tertiary packaging (packaging designed to facilitate shipment and transport of a number of sales units or collection packaging).

What is striking is that the highest rate of the waste management contribution for each type of material - being plastic, subject to a rate of call of EUR 0.70 per kg - is far below the EU rate of EUR 0.80 (especially since there is also a threshold of 50,000 kg). For that reason, we expect, in time, the introduction of a new national plastic tax or changes to the waste management contribution. As for the latter, this may include an increase of the rates of the waste management contribution or a reduction of the annual 50,000 kg threshold. We recommend therefore that companies closely monitor the developments in this area and, where possible, anticipate a new plastic tax.

Sustainability in VAT regulations

Until recently, VAT regulations did not include many measures to promote climate-neutral or more sustainable choices. Only the installation of energy-saving insulation material in floors, walls and roofs of homes older than two years has been subject to the reduced VAT rate of 9% for some time under the Turnover Tax Act (Wet op de omzetbelasting 1968, more specifically Table I). But that reduced VAT rate only applies to the labour costs - not to the insulation material itself.

On 7 December 2021, however, the Council of the European Union reached consensus on a proposal to update the EU regulations on VAT rates. The proposed adjustments are to offer EU Member States more flexibility to apply reduced VAT rates and zero rates. The Council's proposal shows that sustainability considerations will play a major role.

The measures announced included:

• Updating of the list of goods and services to which all the EU Member States can apply reduced VAT rates (listed in Annex III to the VAT Directive). Addition of products and services that protect public health, that are good for the environment, and that support the digital transition.
• Abandonment by the year 2030 of the option for the EU Member States to apply reduced rates and exemptions to goods and services that are considered harmful to the environment and to the EU goals in the field of climate change.

In the general orientation to the proposal, the Council of the European Union indicated, inter alia, as follows:

'It is appropriate to include solar panels among those seven points in line with Union environmental commitments on decarbonisation and with the European Green Deal, as well as to offer Member States the possibility to promote the use of renewable energy sources also by means of reduced VAT rates. In order to support the transition towards the use of renewable energy sources and to foster the Union’s self-sufficiency with regard to energy, it is necessary to allow Member States to improve final consumers’ access to green energy sources.'

This consideration is also found in the wording of Annex III to the VAT Directive, as follows:

'(...) supply and installation of solar panels on and adjacent to private dwellings, housing and public and other buildings used for activities in the public interest.'

On 5 April 2022, the directive was formally adopted by the Council of the European Union. Making reduced VAT rates more flexible seems to be the first cautious step in the VAT regulations towards the promotion of climate-neutral or at least more sustainable choices. The question remains, however, if and to what extent lower VAT rates (or a VAT exemption) will impact more environmentally-friendly consumption in the end. Will a lower VAT rate actually lead to a price reduction by the producer and the supplier and, thus, encourage the consumer to buy exactly that more sustainable product which is better for the environment?

We expect that with more flexible VAT rates more sustainable goods and services will become subject to a reduced or zero rate in the future. Therefore, we recommend that companies consider this flexibility in the setup of their business. After all, a rate change will often require internal adjustments (to the administrative invoicing system) as well as external adjustments (the pricing of goods and services).

Carbon border levy

The EU has made far-reaching agreements in order to fight climate change. The European Green Deal includes the ambitious target to reduce carbon emissions in the EU by 55% compared to 1990 levels by 2030, and to be a climate-neutral continent by 2050. One of the measures to meet this target is the introduction of a carbon levy within the EU. The Netherlands already introduced such a carbon levy in 2021. This levy will, for now, apply to industrial carbon emissions only.

Putting a price on carbon emissions in the EU will increase the cost price of the products in the EU Member States. To avoid the risk of relocation of polluting plants outside the EU and an increase in the import of carbon-intensive products to the EU as a result of these developments, the 'Carbon Border Adjustment Mechanism' (CBAM) will be introduced. In sum, the CBAM is an import levy on carbon-intensive products from outside the EU to avoid a competitive disadvantage for EU companies as compared to non-EU companies. For now, this includes the import of cement, fertiliser, steel and iron products, aluminium and electricity. The CBAM is an addition to the European Emission Trading System (EU ETS) under which the free allocation of emission rights to EU companies will be phased out. Apart from the fact that imposing a carbon levy on the import of carbon-intensive products will reduce the risk of carbon leakage to outside the EU, non-EU producers will also be encouraged to green their production processes (so as to keep their sales prices lower).

The CBAM is expected to come into effect in 2023, with only a reporting duty for a transitional period until 2027. An actual financial contribution will not be imposed until 2027.

Company lawyers can prepare for the introduction of the CBAM by identifying the procurement and/or import of products within their companies that are subject to a carbon levy. Chances are that the cost price of those products will rise and that suppliers will want to pass on that cost price increase. Therefore, we recommend paying close attention to this when entering into new contracts.

Fiscal opportunities

Taxes are not just used to discourage polluting behaviour, but also to encourage companies to green their processes. Dutch tax legislation offers various tax facilities for companies that may reduce the corporate income tax. The best-known tax facilities and green subsidies are:

• Energy Investment Allowance (EIA)
• Environmental Investment Credit (MIA)
• Arbitrary Depreciation of Environmental Investments (Vamil)
• Sustainable Energy Production Stimulation subsidy (SDE++)
• Sustainable Energy Investment Grant (ISDE)

Company lawyers are sometimes asked to be involved in green investments in new business assets. Companies in the Netherlands can save money by using the foregoing tax facilities or green subsidies. Therefore, it is important to apply for an available subsidy in good time or to include a tax credit in the corporate income tax return. It would also be advisable to identify which tax facilities and green subsidies are available to the company for investments abroad. Even outside the Netherlands, companies may benefit through sustainable investments.

Reporting and fiscal transparency

In recent years, the tax evasion planning of well-known multinational companies has been made public by several investigative reporters. Examples are the leaked documentation of the ‘Lux Leaks’ (2014), ‘Panama Papers’ (2016) and ‘Paradise Papers’ (2017), which received a great deal of media attention worldwide. This has, among other things, accelerated the developments in the field of reporting duties for companies in the EU over the past few years and caused tax authorities in the EU to require more transparency from their tax residents. An example is country-by-country reporting, which requires large multinational companies to draw up country-by-country reports on the taxes they pay in various jurisdictions. The country-by-country reports help tax authorities make a better assessment of whether multinational companies are shifting profits to low-tax jurisdictions.

Another example is the duty for intermediaries or relevant tax residents to notify the tax authorities of any cross-border tax constructions at companies that have certain essential features. Furthermore, the OECD has drawn up a Common Reporting Standard (CRS) to ensure that financial institutions identify their customers and verify where they are liable to pay tax. The CRS regulations have been in effect in the Netherlands since 2016. These are examples of fiscal transparency vis-à-vis tax authorities in EU Member States. This information is, however, not in the public domain.

Fiscal transparency is also used to (re)gain the confidence of stakeholders.

Fiscal transparency is also used to (re)gain the confidence of stakeholders. In recent years, investors, customers and employees have increasingly taken an interest in and demanded transparency on the fiscal policy of multinational companies. A recent news item shows, for example, that a Danish pension fund urged Microsoft to disclose the tax paid in each country where it is active, in accordance with the tax reporting standard of the Global Reporting Initiative (GRI). Within its set of reporting standards, the GRI has developed a tax reporting standard in respect of sustainability. The GRI 207: Tax Standard is intended to assist companies in identifying their own sustainable tax policy and communicate similar information to their stakeholders. In the Netherlands, companies have been able to apply this standard since 2021. Six well-known Dutch multinational companies (namely, NN Group, Philips, Aegon, Randstad, KPN and DSM) have already done so.

Another initiative in this field is the Fair Tax Mark accreditation system. This system was developed by the Fair Tax Foundation to encourage companies to pay the right amount of corporate income tax at the right time and in the right country. Founded in the United Kingdom in 2014, this not-for-profit organisation intends to recognise companies that pay tax in a responsible and transparent way. The Fair Tax Mark accreditation used to be available to UK-based companies only. Since 2021, the launch of a Global Multinational Business Standard has expanded the Fair Tax Mark internationally to non-UK multinational companies. The Fair Tax Foundation website shows, for example, that Vattenfall already satisfies the standard.

Consider bringing the foregoing initiatives to the attention of the board. Implementation of these new standards can make the company a leader when it comes to fiscal transparency. This will increase stakeholder confidence in the company.

Fiscal integrity: Tax Governance Codes & Tax Policies

In the 2019 fiscal policy agenda, Mr Hans Vijlbrief, the then State Secretary for Finance, boosted the discussion on a Tax Governance Code. He believed that it was advisable for trade and industry as well as the tax consultancy sector to develop a Tax Governance Code for purposes of their social responsibility. The state secretary's rationale was that it was impossible for the legislator to foresee or prevent all new forms of tax evasion.

As an extension of this initiative, in December 2020 the essay collection ‘Tax Governance, maatschappelijke verantwoordelijkheid en ethiek. Tijd voor een code?’ (´Tax Governance, social responsibility and ethics. Time for a code?’) was published. This is a collection of 16 views on how trade and industry and the tax consultancy world can give effect to their social responsibility. In the foreword, the former state secretary stated:

'In this respect, thinking about morality is not just an ethical obligation, it is also a philosophical exercise. For when is good tax advice morally over the edge, even if it is not contrary to the law? This is a complex matter, which, however, in my opinion, still deserves to be worked out in concrete detail. How do we make sure that ethical issues play a more express role in the fiscal world? What does integrity in a tax system mean when it should be about more than just the letter of the law? To reach consensus on what that means, and then also to give real effect to it, and to be able to hold each other to the rules, my predecessor called on trade and industry and on the tax consultancy sector to think about a Tax Governance Code.'

This collection also includes an essay by Mr Marnix van Rij, at the time tax consultant and Member of the Upper House, now State Secretary for Tax Affairs and the Tax Administration, in which he describes the change that the tax consultancy profession in the Netherlands saw in the period of 2007-2019. His essay culminates in a call to make tax governance an integral part of a company's purpose statement.

Van Rij also quotes the Tax Transparency Benchmark, which has been composed by the Dutch Association of Investors for Sustainable Development (VBDO) with support from PwC since 2015. The VBDO annually reviews all AEX, AMX and ASCX companies based on 35 criteria that are relevant to transparent tax reporting. This benchmark also takes into account the GRI 207 Global Reporting Initiative. We expect that this benchmark will only become more influential with time.

An NOB tax adviser must also involve social aspects in their tax advice.

In the meantime, the tax consultancy sector has responded to the political wish to have a concrete code of conduct. On 7 April 2022, the Dutch Association of Tax Advisers (NOB), the most important organisation in the tax consultancy sector, adopted the NOB Tax Principles. These provide, inter alia, that tax advice must always be based on applicable laws and regulations and, to the extent possible, take into account any announced or upcoming laws and regulations. The real news from an ESG perspective is that - wherever reasonably necessary - a NOB member must also involve social aspects in its consultation with the client.

In practical terms, this means that, in interpretation issues, an NOB tax adviser should, in addition to other relevant sources of finding of law, also pay attention in their tax advice to the intention of the legislator and the tenability of positions. Furthermore, social aspects should be considered. This is described as follows: Where relevant, the member (read: the tax adviser) will also expressly involve in their advice, in addition to compliance with laws and regulations and technical standards, the economic, commercial and reputational risks as well as interests of the client's internal and external stakeholders.

On 22 May 2022, VNO-NCW followed with a Tax Governance Code, which was signed by more than forty large Dutch internationally operating companies, including a large group of listed companies as well as several large non-listed companies and prominent family businesses. The most important points of this Tax Governance Code can be summarised as follows:

1. Participants have a clear tax strategy and tax principles that they embrace. This strategy is also published for the benefit of stakeholders and applies to all the divisions of the company.
2. There is a clear governance structure with the board taking the lead (for example, when it comes to compliance auditing).
3. Companies abide by both the letter and the spirit of the local tax laws.
4. They only use structures that are driven by commercial considerations, appropriate to the company activities (with real presence), and do not use any tax havens to evade tax. They may have a presence in tax havens only if that establishment also has real economic relevance, for example, for the sale or production of products and services.
5. The relationship with local tax authorities is based on mutual respect, transparency, trust and constructive cooperation.
6. Companies are transparent to the maximum extent, for example, about what taxes are paid in each country and what tax incentives have been used. The company also regularly publishes information about its tax strategy.

Conclusion

Given these recent developments, we believe that, in the future, companies of a certain size will not be able to conduct their business without a clear tax policy, simply because it is socially unacceptable. Furthermore, large pension funds such as PGGM (in a Sustainable Tax Position Paper) and ABP (in the ABP Tax Principles) have published a responsible tax policy in which fiscality and responsible tax behaviour are one of the aspects that form part of the investment decision process. Therefore, it would be advisable to go over the company's tax policy and consider whether it might be useful for the company to endorse, for example, the VNO-NCW Tax Governance Code.

Tips & Tricks

• Draw up the company's tax policy and review and test it annually against the ESG standards, perhaps also checking whether the total tax contribution is in line with the ESG goals.
• Depending on the sector in which the company is active, prepare for a possible plastic tax or the consequences of a CBAM carbon levy.
• Investigate the fiscal opportunities the company can take advantage of through tax facilities and subsidies for green investments in the Netherlands, and abroad.
• Consider whether it may be relevant for the company to meet certain voluntary reporting requirements, such as the GRI 207: Tax Standard and Fair Tax Mark.
• Have the company endorse a Tax Governance Code, such as that by VNO-NCW.