ATAD 2 Hybrid mismatch arrangements EBIT ROUNDTABLE MEETING

ATAD 2 Hybrid mismatch arrangements EBIT ROUND-TABLE MEETING Brussels, 2 nd December 2016 1

Anti-Tax Avoidance Directive • • • " 'hybrid mismatch' means a situation between a taxpayer in one Member State and an associated enterprise in another Member State or a structured arrangement between parties in Member States where the following outcome is attributable to differences in the legal characterisation of a financial instrument or entity: (a) a deduction of the same payment, expenses or losses occurs both in the Member State in which the payment has its source, the expenses are incurred or the losses are suffered and in another Member State ('double deduction'); or (b) there is a deduction of a payment in the Member State in which the payment has its source without a corresponding inclusion for tax purposes of the same payment in the other Member State ('deduction without inclusion'). " 2

Anti-Tax Avoidance Directive • "1. To the extent that a hybrid mismatch results in a double deduction, the deduction shall be given only in the Member State where such payment has its source. • 2. To the extent that a hybrid mismatch results in a deduction without inclusion, the Member State of the payer shall deny the deduction of such payment. " 3

ECOFIN Council statement • "The Council requests the Commission to put forward a proposal by October 2016 on hybrid mismatches involving third countries in order to provide for rules consistent with and no less effective than the rules recommended by the OECD BEPS report on Action 2, with a view to reaching agreement by the end of 2016. " 4

ATAD 2 • Amendment to the ATAD, built on rule in ATAD. • Covers not only hybrid entity and hybrid financial instruments with 3 rd countries, but also: • Hybrid permanent establishments • Imported mismatches • Hybrid transfers (repos and securities lending) • Dual resident mismatches 5

ATAD 2 Scope • Corporate taxpayers in EU. • Hybrid mismatches between associated enterprises or structured arrangements. • Arising from conflicting rules between countries. • Does not affect general features of a tax system. 6

ATAD 2 – 3 rd countries • Hybrid entity and financial instrument mismatches between different jurisdictions. • In case of DD: MS should deny payment. • In case of D/NI: MS should either deny the payment or require taxpayer to include the payment, as the case may be. • Taking into account dual inclusion income. (Also in case of mismatches between MSs. ) 7

Hybrid entity mismatches – double deduction HE B is non-transparent in the MS, but regarded as transparent by the 3 rd country. Interest payment deducted by A Co and by HE B. Payment by B Co is set-off against income of C Co under group tax regime. Based on ATAD 2 the MS should deny the deduction of the payment. A - 3 rd Country MS B - C + Interest payment 8

Hybrid entity mismatches – double deduction HE B is non-transparent in the 3 rd country, but regarded as transparent by the MS. Interest payment deducted by A Co and by HE B. Payment by B is set-off against income of C Co under group tax regime. Based on ATAD 2 the MS should deny the deduction of the payment. - MS B - 3 rd Country Interest payment C + A 9

Hybrid entity mismatches – deduction without inclusion Hybrid entity B is non-transparent in MS but transparent in 3 rd country. Royalty payment from B to A Co is deducted by HE B, but not included by A Co. The payment by B is set-off against C Co’s income under a group tax MS should deny the deduction of the royalty payment. 3 rd C A 0 MS B - C + Royalty payment 10

Hybrid entity mismatches – deduction without inclusion Hybrid entity B is non-transparent in 3 rd country but transparent in MS. Royalty payment from B to A Co is deducted by HE B, MS but not included by A Co. 3 rd C The payment by B is set-off against C Co's income under a group tax MS should require A Co to include the royalty payment. A 0 B - C + Royalty payment 11

Hybrid entity mismatches - deduction without inclusion HE entity B is transparent in a 3 rd country, but is regarded as non-transparent by the MS (reverse HE). Interest payment to reverse RHE B is deducted by C Co, but is neither included by RHE B nor by A Co. A B 0 MS 0 3 rd Country Interest payment C Based on ATAD 2 the MS should require A Co to include the payment in its income. - 12

Hybrid entity mismatches - deduction without inclusion HE entity B is transparent in 3 rd country II, but is regarded as non-transparent by 3 rd country I (reverse HE). Interest payment to reverse RHE B is deducted by C Co in MS, but is neither included by RHE B nor by A Co. ATAD 2 applies because A Co and C Co are associated. Based on ATAD 2 the payment by C should be denied. A B 0 3 rd Country II Interest payment C - MS 13

Hybrid PE mismatches • "differences in the treatment of a commercial presence as a permanent establishment. " • Both between MS and with 3 rd countries. • Leading to DD, D/NI and No Taxation Without Inclusion. • Also taking into account dual inclusion income. 14

Hybrid PE - No Taxation Without Inclusion 3 rd Country B does not recognise a PE. No taxation in state B. MS A sees a PE in 3 rd country B (reverse hybrid PE). A 0 MS 3 rd Country Profits attributed to reverse hybrid PE are exempt in the MS. B 0 Based on ATAD 2 A Co should include and not exempt the profit attributed to the PE. 15

Imported mismatches • Non-hybrid payment by taxpayer to associated enterprise in a 3 rd country. • Received payment is set-off against another payment that is deducted twice (DD) or not included by recipient (D/NI). • ATAD 2: no deduction on non-hybrid payment to extent of hybrid mismatch. 16

Imported mismatches Interest payment 1 from D Co to C is deducted by D Co. Interest payment 1 received by C Co is in principle taxable in 3 rd Country I, but is set-off against interest payment 2, made by hybrid entity B, a under group tax regime. Interest payment 2 is also deducted in 3 rd Country II by A Co. So: double deduction of interest payment 2. ATAD 2: MS should deny the deduction of interest to the extent of the double deduction. D 3 C II A B Interest Payment 1 MS C Interest Payment 2 + 3 C I 17

Imported mismatches Interest payment by C Co to B Co deducted in MS. B Co includes interest payment as income, 0 but this interest income is set-off by B Co A against a payment to A Co under a PPL. Payment on the PPL is deducted in 3 rd Country I as interest, but exempt for A Co as dividend. B So: deduction without inclusion. ATAD 2 MS should deny the deduction of interest to the extent of the deduction without inclusion. • 3 C II + MS 3 C I Interest payment C - 18

Dual resident mismatch • Dual resident company of MS and 3 rd country. • Leading to DD. • MS should deny deduction, taking into account dual inclusion income. • See example 7. 1 in BEPS Action Item 2 Report. 19

Hybrid transfers • Transfer of a financial instrument, for example: repo or securities lending. • Jurisdictions differ on who has ownership of underlying return on instrument. • Leading to D/NI or double tax credit. • D/NI: payment should be denied or included. • Double tax credit: "limit the benefit … in proportion to the net taxable income regarding such payment" • See examples 1. 31, 1. 32 and 2. 2 in BEPS Action Item 2 Report. 20

Hybrid transfers • Hybrid mismatch arises because A Co makes a deemed interest payment to B Co which is not included. 21