EU moves to close multinational corporations’ hybrid mismatch loophole


By Alistair M. Nevius, J.D.

The EU’s Economic and Financial Affairs Council (ECOFIN) is closing a loophole that allows multinational corporations to lower their taxes by exploiting differences in tax rules between countries. These so-called hybrid financial mismatches allow multinationals to avoid paying tax on some types of profits distributed within the corporate group.

The amendment to the EU’s Parents-Subsidiary Directive (Directive 2011/96/EU), adopted by ECOFIN at a meeting in Luxembourg on Friday, addresses hybrid loan arrangements, a tax planning tool that employs financial instruments that are treated as debt in some countries and as equity in others. This arrangement allows, for example, payments made on such an instrument by a subsidiary company to its parent to be treated as tax-deductible interest expenses in the country where they are made and as tax-free dividends in the country where they are received (under Article 4 of the Directive (before amendment)).

While the Parents-Subsidiary Directive was originally designed to prevent double taxation of profits, the amendment aims to prevent double non-taxation – where the payments on the instrument are not taxed by the subsidiary’s country or the parent’s country. The amendment adopted by ECOFIN changes the tax treatment of distributions from a subsidiary to a parent, so that those distributions will be taxed in the parent’s country “to the extent that such profits are deductible by the subsidiary” (Directive 2011/96/EU, Article 4, ¶1(a)).

EU member states are directed to amend their laws and regulations to comply with the new rules by December 31st 2015 at the latest.

Corporate tax avoidance has become a hot topic in international tax, and the changes to the Parents-Subsidiary Directive are similar to proposals included in the Organisation for Economic Co-operation and Development’s (OECD’s) recent initiative to combat base erosion and profit-shifting that is described in the OECD’s Action Plan on Base Erosion and Profit Shifting.

Alistair Nevius (anevius@aicpa.org) is CGMA Magazine’s editor-in-chief, tax.

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