Apple vs. EU: Why tax havens are not an incentive for innovation and growth
by Henning Klodt, Head of Economic Policy Center at the Kiel Institute for the World Economy
The EU Commission convicted Apple to pay back 13bn Euro taxes plus interests to the Irish government. This is the right decision for the purpose of fair and free markets. It is not very common that a free-market oriented economist like me praises the EU Commission. But EU Commissioner for Competition Margarethe Verstager, however, did not decide against the relatively low corporate tax rates in Ireland, but the additional extreme tax benefits granted to some companies within this tax system.
In Apple’s case, the so called Double Irish With a Dutch Sandwich strategy was used, when profits were transferred to a “head-office”, which was free of any taxation – and only existed on paper. Since this practice is only granted for some companies, the EU commission stated a distortion of competition, which is contradicting Art. 107-109 of the Treaty on the Functioning of the European Union. As a legal consequence, illegitimate aids must be repaid by the affected companies to the respective financial authorities.
So Apple Sales International, located in Ireland, declared its profits as fees while its head-office was the licensor. Another way to do transfer profits to tax havens is the use of blurred transfer prices with a company’s internal trade. Or the credits granted within the company’s network are used to pay interests in high-tax countries while at the same time they are declared as profit in low-tax countries.
As a result of all this shifting of profits within the company’s network, the effective tax rate can drop dramatically. “Apple’s effective tax rate in 2011 was 0.05%. To put that in perspective, it means that for every million euros in profit, it paid just 500 euros in tax. This effective tax rate dropped further to as little as 0.005% in 2014, which means less than 50 euros in tax for every million euro in profit,” exemplified Margarethe Verstager in her official statement.
All these practices, which corporate consultants call aggressive tax planning, are being widely used by multinational corporations and are hard to control unless you want or can intervene deeply within the taxation autonomies of individual countries. And they are a nuisance to fiscal authorities and they cause trouble on the international level.
Internationally, this issue was addressed back in 2012. The G20 summit in Los Cabos started an initiative to regulate and standardize the practices of taxation and that countries, where multinational companies and their subsidiaries have offices, consult and inform each other about taxation regulations. This initiative was named BEPS – Base Erosion and Profit Shifting. The OECD was directed to develop a plan to put these regulations into action and it was supported by the European Commission, which is an important fact because several important tax havens belong to the EU like Ireland, Luxembourg, the UK and the Netherlands. And Margarethe Verstager just recently during a speech in Copenhagen described the dimension of this strategy of base erosion and profit shifting, which “cost national governments up to 240 billion US dollars a year. And every cent of that needs to be made up in another way. By increasing the taxes that the rest of us have to pay. Or by cutting back on the public services that we rely on.”
The G20 adopted the plan in 2014, but the BEPS still remains inefficient. Within the EU however, things have changed significantly due to the strong and effective use of the State Aid Rules, which are more powerful than the BEPS.
Apple is just one of several cases. Some similar cases involve McDonald’s and Amazon in Luxembourg; there are other investigations on tax rulings in Luxembourg and the Netherlands concerning Fiat Finance & Trade and Starbuck because of extremely distorted transfer prices within those companies.
Politicians from those tax havens and the companies that enjoy those tax benefits often claim these benefits are an incentive for innovation and growth, but that argument is built on sand. As a matter of fact, it is simply about tax evasion for the companies. The tax havens want to get a small additional amount of taxes, while this causes a severe shortfall of taxes in other countries. This has nothing to do with a fair and free market and a decent competition of location.