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European Commission Consulting on Framework for Income Taxation (BEFIT) Initiative — Orbitax Tax News & Alerts

The European Commission has launched a public consultation on the Business in Europe: Framework for Income Taxation (BEFIT) initiative. This initiative aims to introduce a common set of rules for EU companies to calculate their taxable base while ensuring a more effective allocation of profits between EU countries, based on a formula. It will also aim to reduce compliance costs and create a coherent approach to corporate taxation in the EU. The consultation feedback period runs from 13 October 2022 to 5 January 2023.


Objectives and policy options

BEFIT's key objectives are:

  1. to increase businesses' resilience by reducing the complexity of tax rules and the compliance costs faced by EU businesses operating across borders;
  2. to remove obstacles to cross-border investment and make the single market a more attractive location for international investment;
  3. to create an environment conducive to fair and sustainable growth by paving the way for administrative simplification; and
  4. to provide sustainable tax revenue, which is particularly important in the current challenging economic climate.

To ensure cost-efficiency, the proposal should be consistent with, and where possible build on, the principles that underlie the OECD's two-pillar approach.

A non-exhaustive list of policy options that will be analysed in detail is set out below.

1. Status quo scenario – no action at the EU level

The baseline scenario used as a benchmark assumes that the current national rules on corporate taxation remain unchanged. This would imply maintaining the current lack of a common corporate tax system in the single market.

2. EU action - Improving the current legislation by means of a directive

EU action would provide the key features of a common tax base together with an allocation of profits to Member States based on a formula. Such a formula should ensure a balanced distribution of corporate tax revenues across Member States that better takes into account the realities of today's economy and global developments when allocating the tax base to Member States.

Given the nature of the problem (cross-border commercial activities facing tax-related complexities, legislative fragmentation of national corporate tax systems, and reduced competitiveness of the EU single market), EU action in the form of a directive, and not a soft law approach, seems appropriate. Soft law measures tend to be of limited effectiveness as they do not systematically replace or simplify the current rules and therefore only slightly improve the status quo.

The range of policy options should include the five key building blocks of the system under consideration (BEFIT) set out below.

A) Scope

Option 1: Groups with consolidated global revenues exceeding EUR 750 million

Under this option, the threshold for a group of companies to fall under BEFIT would be set at EUR 750 million of consolidated global revenues. The definition of 'a group of companies' would be aligned with the definition used in the proposal for a directive on pillar 2. Both aspects would ensure close alignment of BEFIT's scope with the scope of the proposed directive on pillar 2.

Option 2: Broader scope

This option would involve lowering the revenue threshold below EUR 750 million – making the legal framework more inclusive and reducing disparities. A wider scope would be of particular interest to SMEs with cross-border activities or those that envisage scaling up and starting to operate across borders soon. These SMEs could opt in to BEFIT to benefit from common EU rules on tax base and the allocation of profits.

Sectoral aspects

To ensure that BEFIT brings about the intended simplification and provides its benefits to as many businesses as possible, it would be preferable to have limited sectoral carveouts. To this end, the Commission will examine how the BEFIT formula for profit allocation would be best applied to the financial services sector.

B) Tax base calculation

Option 1: Limited tax adjustments

The BEFIT initiative aims to set up a simpler, yet effective, common corporate tax system in the EU. To determine the taxable base and to fulfil this objective, under this option, a limited list of tax adjustments would be applied to the income reported in the financial statements of the group entities falling under BEFIT. The list of adjustments would be drawn up of elements which are responsible for a significant part of the corporate tax base (around 90%). All companies in a group falling under BEFIT would be required to use financial statements as a starting point for the tax base calculation, prepared in accordance with the same accounting standard, authorised for use in the EU.

Option 2: Comprehensive set of tax rules

An alternative option would be to set up a comprehensive corporate tax system with detailed rules for all aspects of profit/tax determination, rather than building a system based on financial accounting like in option 1. If this option were chosen, Member States would have to run two comprehensive sets of corporate tax rules in parallel, i.e. BEFIT and their national rules (this would not be the case under option 1, where BEFIT rules for tax determination will be simplified).

C) Formula for allocating taxable profits

The third building block would focus on how to allocate the tax base to those Member States in which the group falling under BEFIT maintains a taxable presence. The basic principle to follow when deciding on a formulary apportionment is to choose factors that reflect the source of income generation.

Option 1: Formula without incorporating intangible assets

Under this option, the proposal would consider the three factors most commonly used for formulary apportionment of profits between tax jurisdictions, namely: (i) tangible assets (excluding financial assets unless in a sector-specific version); (ii) labour (possibly, equally shared between personnel and salaries); and (iii) sales by destination. Other variations of the factors to be used in the formula are possible, but the prevailing view in historical literature is that these factors should reflect the income generation most accurately, and be the least prone to abuse.

Option 2: Formula incorporating intangible assets

The alternative option would be to include intangible assets as a factor in the formula, in addition to the three previously mentioned factors, to cater for the realities of modern economies. More specifically, intangible assets could be included by using a proxy value, which could consist of aspects such as research and development expenses and costs for marketing and advertising.

D) The allocation of profit to related entities outside the group

In general, EU law applies only to activities occurring within the EU, so the options for action in this area are limited. It is envisaged that the current transfer pricing principles would continue to apply to transactions with related entities resident outside the consolidated group.

Option 1: Simplified approach to transfer pricing

Under this option, to provide simplicity and increased tax certainty to businesses, the proposal would envisage a simplified approach to the administration of transfer pricing rules based on macroeconomic industry benchmarks. The aim would not be to replace the arm's length principle. In fact, businesses would still need to carry out the necessary transfer pricing analysis. The envisaged rules would only provide guidance on tax authorities' risk approach to businesses' transactions with related entities outside the consolidated group.

Option 2: Keep current transfer pricing rules

The second option is to keep the current approach to the application of the transfer pricing rules.

E) Administration

The administration aspect of BEFIT, and any tax system, is an integral part of the system. One of the key goals of BEFIT is to reduce compliance and administrative costs for taxpayers and Member States, so the design of this building block will require careful consideration.