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Victoria Curzon Price: The Common Consolidated Corporate Tax Base - An instance of the EU’s Icarus Complex ?
By Victoria Curzon Price, Professor emerita, University of Geneva Member of the Board IREF
On Wednesday16 March 2011 the EU Commission published a
proposal to introduce a Common Consolidated Corporate Tax Base (CCCTB). A few
days earlier, on Friday 11 March, the heads of state of the Euro area almost
agreed on a « Pact for the Euro » to save the common currency from financial
meltdown and come to the rescue of delinquent members (an agreement that
subsequently came unstitched). These two events did not appear to be linked,
except in timing. But they both illustrated, each in their own way, what one
could call the EU’s « Icarus Complex ».
We remember from our school days the wonderful Greek myths : how Prometheus
took pity on poor, puny mankind and gave them fire to help them innovate their
way out of problems ; how Odysseus got his men to tie his hands to the mast to
stop him heeding the Siren calls and making rash decisions ; how Icarus flew too
close to the Sun…
We are all aware of the fact that the EU is flying perilously close to the Sun
in matters financial, but unfortunately this pattern seems to repeat itself in
other areas as well. I propose in this essay to examine the EU’s CCCTB
proposal. To choose freely such a boring and technical subject may appear sheer
madness, but in fact I seize this opportunity to present the problems raised by
this initiative and offer a simple solution.
The essay will be designed as follows : Part I presents a brief historical
introduction ; Part II analyses the main issues and presents some implications
raised by empirical studies; Part III concludes.
Background to the Common Consolidated Corporate Tax Base
The CCCTB proposal can be traced back a great many years, indeed to the start
of the Single Market project of 1985, but it was always held back by the fact
that fiscal matters required (and still require) unanimous consent. However,
the harmonisation or at least convergence of taxes became a priority for EU
leaders after full freedom of capital movements was adopted in 1992. The EU
leadership, with support from European multinationals, was (and still is) keen
to establish a “level playing field” across the Single European Market, not
only in terms of health, safety and environmental standards, but also in fiscal
and social matters.
The creation of the Euro added urgency to this question. Since the Euro
included members with different economic profiles and levels of economic
development, it was deemed necessary to promote greater “convergence” though
structural reforms. Hence the “Lisbon Strategy” adopted in 2000 and designed to
turn the EU into “the most competitive and dynamic knowledge-based economy in
the world” by 2010. Had all Euro zone members taken this project seriously back
in 2000, they might have been better prepared for the global financial crisis
of 2008.
This was not to be, however, and at the time of writing (2011) the future of
the Euro is in doubt and with it, the EU itself. It is therefore almost surreal
to note that while the Council of Ministers struggles to create a credible
European Stabilisation Fund and save the European Union, the Commission
continues doggedly to promote the harmonisation of the European corporate tax
base.
The Council of Ministers mandated the Commission in July 1999 to “investigate
the impact of differentials in the effective level of corporate taxation in
Member States on the location of economic activity and investment and of tax
provisions that constitute obstacles to cross-border economic activities in the
Internal Market and remedies thereto.” 1 It will be
noted that there is a double mandate here. The Council of Ministers is
concerned with the misallocation of investment driven by differences in
corporate taxation; and it is also aiming to improve the competitiveness of the
European Single Market by smoothing things out for cross-border business
activities.
The Commission published its initial findings in October 2001 and noted that
effective corporate tax differentials among the 15 members were indeed large
enough to deserve attention.2 However,
mindful of the sensitive nature of the subject, and the sovereignty issues
involved, the Commission acknowledged that “The level of taxation in this area
is … a matter for Member States to decide, in accordance with the principle of
subsidiarity” 3 . For this
reason, the Commission opted for a consolidated corporate tax base while
leaving Members to determine the applicable national corporate tax rate.
In 2004 a majority of the Council of Ministers meeting as ECOFIN agreed that
the Commission should work out the details of this proposal, the result of
which was finally published in March 2011 after many expert meetings and
consultations.4
The fate of this proposed Council Directive is of course far from decided. It
could become the basis for a unanimous agreement; it could become the object of
“enhanced cooperation” between consenting Members; or it could simply be
shelved.
What are the issues?
Let us start with the question of coverage. It is claimed that multinational
European businesses incur unnecessary extra costs in having to comply with 27
different tax systems and that there is a straightforward gain in simplicity
and transparency to be reaped from operating under a single tax system, albeit
with different tax rates. This uncontroversial observation led to an initial
proposal for a Common Corporate Tax Base (CCTB). However, upon examination,
this proved too much for Members to accept. It would have implied agreeing on a
single corporate tax system, to be applied on a mandatory basis to all firms
throughout the EU. What has finally emerged from the negotiating process is
very different.
The Common Consolidated Corporate Tax Base (CCCTB) is designed only for firms
with a European dimension, and it is not compulsory even for them. The CCCTB
would co-exist alongside national corporate tax systems and firms could decide
whether to adopt it or not. It is similar in philosophy to the European
Corporate Statute, adopted in 2001 and which remains as a possible form of
incorporation for European multinationals (to date used by some 700 firms).
This is indeed a modest proposal, and as such has every chance of being
adopted. What might be the advantages and disadvantages of the CCCTB? The
experts consulted to evaluate the impact of the CCCTB agree, interestingly
enough, that there would be very little impact at all. Nor, indeed, does it
matter very much, since the CCCTB regime would coexist and therefore compete with
27 national regimes. Firms would soon discover for themselves whether or not
there were any gains to be reaped.
Some welfare gains could be expected to flow from greater simplicity and
transparency. Firms would benefit from being able to offset losses in one
country against profits in another. The greatest gains would come from
lightening compliance costs for firms with cross-border activities, whose every
in-house transaction is scrutinized by at least two tax authorities each way
for transfer pricing irregularities.
Transfer pricing problems would disappear overnight, since the firm would be
assessed on EU-wide profits and it would not matter whether the profits arose
in a high, or in a low tax country. However, there is never a gain without a
pain, and in this case extra costs would be incurred from an “apportionment
mechanism”. In other words, the tax payable under the CCCTB would have to be
shared out among the different tax jurisdictions according to some kind of key
unrelated to profit.
One can immediately see problems here. Taking inspiration from US and Canadian
experience in these matters, and after having considered and discarded a system
based on value-added (which at first sight seems the most neutral system) the
Commission chose to apportion tax revenue according to the “three factor
formula”, namely employment, capital assets and sales.
It is not important for the purpose of this essay to compare the possible
apportionment formulae in detail. It is enough to note that from different
Member States’ perspectives, there are clear winners and losers, with possible
dynamic effects. A country where firms habitually experience poor profits would
come out a clear winner, and vice versa for countries where firms tend to
generate above-average returns. Scaled up to country level, this scheme could
set up a curious incentive system: countries would no longer have to be
concerned with corporate profits as such, since they could free ride on other
countries’ business-friendly regulatory environments – at least in the short
run.
In the meantime, the practical application of any apportionment mechanism would
be bound to generate uncertainty and disputes with and between tax authorities
in as great a proportion as existing transfer pricing problems. There is no ideal,
costless solution to the compliance problem.
In the longer run, the continuing existence of different corporate tax rates
would do nothing to cope with the main concern of authorities in high tax
countries, namely to stop investment flowing from high tax to low tax
jurisdictions, since firms would have an incentive to build up “apportionment
factors” (i.e. employment, assets) in low-tax areas, leaving only sales in high
tax environments.
Indeed, one study concludes that the CCCTB “does not improve economic
efficiency” and that “in aggregate European economies would only benefit if the
spread of tax burdens is reduced by harmonizing the tax rate as well as the tax
base… if tax rates were also harmonized, tax planning would be minimised and
capital export neutrality could be realized within the EU”.5
If this is indeed the case, we could say that the mountain has given birth to a
mouse – except that in view of the disappointing welfare gains and the fact
that the present proposal does nothing to mitigate corporate “tax planning” and
“profit shifting”, we can be sure that the EU leadership will return to the
issue of harmonisation of corporate tax rates (as suggested by the above
quotation).
One assumption of one of the empirical studies commissioned to study the impact
of the CCCTB deserves further comment. It concerns the impact on aggregate
welfare of corporate tax changes designed to discourage profit shifting.
Consider this statement:
“The abolishment of profit shifting opportunities is not a zero-sum game in CORTAX
(note: the general equilibrium model used to estimate the impact of proposed
reforms). In particular, aggregate welfare in the EU declines by 0.03% of GDP.
The reason is that profit shifting allows multinational firms to reduce the
overall tax burden on corporate capital. In this way, profit shifting
encourages investment, raises GDP and improves welfare… Abolishing profit
shifting therefore not only affects the distribution of tax revenues among
states, but also raises the tax burden on multinationals and increases
aggregate corporate tax revenue.”6
Yes indeed! I could not have put it better. If corporate taxes decline, the
return on capital rises, investment and employment increase, GDP rises. So far,
so uncontroversial. But if we are really looking for an improvement in the
over-all competitiveness of the European Single Market, as the Lisbon Strategy
maintains, (including the revised Lisbon Strategy which takes us to 2020), why
does the EU not decide on a general lowering of corporate tax rates instead of trying
to harmonise them?
Because, I am sure, the Commission will piously repeat that tax rates are none
of its business, that it respects the principle of subsidiarity, etc.
But there is a far better way to ensure that corporate tax rates continue their
gradual decline from confiscatory levels common in the 1960s and 1970s as they
converge naturally to more reasonable levels: simply leave things as they are
and let intra-EU and international fiscal competition do its work, without the
need for 10 years of hard but almost fruitless work on the part of many
experts, academics and bureaucrats.
For sure, corporate tax revenues might gradually decline, but who cares? In
exchange investment and employment would grow, unemployment would shrink,
overall welfare would improve, overall tax revenues would rise along with
generalised prosperity and the European economy would be better placed to meet
the many challenges of the future.
Conclusion
The question of tax harmonisation has been on the EU agenda for many years. Its
main driver, despite much genuflexion in the direction of reducing compliance
costs and increasing transparency, is really a thorough dislike of tax
competition on the part of the EU leadership (essentially France and Germany,
supported by other high-tax Member States). Yet an attempt to force tax
harmonisation on unwilling lower-tax partners (as Germany
is shamelessly doing to Ireland
in exchange for financial support in the current crisis) is bound to end in
tears. Remember Icarus: if you aim too high, you fly too close to the Sun.
These countries should consider a perfectly acceptable, less ambitious
alternative: namely, the benefits of unilaterally lowering their corporate
taxes. They would at a single blow reduce the incentives for profit shifting
investment (which they hate), increase their tax base (which they surely would
like) and raise their people’s welfare (to which they should not be
indifferent).
1. Communication from
the Commission to the Council, the European Parliament and The Economic and
Social Committee, Towards an Internal Market without tax obstacles : A strategy
for providing companies with a consolidated corporate tax base for their
EU-wide activites, Brussels, 23.10.2001 COM(2001) 582 final, p.3.
2. Idem.
3. Idem, p.9.
4. Proposal for a
Council Directive on a Common Consolidated Corporate Tax Base (CCCTB) (CMM
(2011) 121.
5. Bettendorf L.,
Devereux, M.P., van der Horst, A,., Loretz, S., de Mooij R., « Corporate Tax
Harmonization in the EU » , Economic Policy, Vol. 25, issue 63, pp. 537-590,
July 2010.
6. Bettendorf, L., van
der Horst A., de Mooij R. for CPB Netherlands for Economic Policy Analysis, and
Devereux, M. Loretz S., for Exford University Centre for Business Taation, The
economic effects of EU-reforms in corporate income tax systems, Study for the
European Commission Directorate GEneral for Taxation and Customs Union, October
2009, p. 45.
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