Luxembourg Tax Alert 2023-13

On 12 September 2023, the EU Commission published three new proposals for Council Directives, consisting of (i) a proposal for a Council Directive on Business in Europe: Framework for Income Taxation (BEFIT proposal), (ii) a proposal for a Council Directive on Transfer Pricing (TP proposal), and (iii) a proposal for a Directive for a Head Office Tax System for small and medium-sized enterprises (the SME proposal). 

1. The BEFIT Proposal

The BEFIT proposal consists of a new set of rules to determine a common corporate tax base for companies that are resident in the EU. The idea of having a common set of rules to determine the corporate tax base in the EU is not new. The EU Commission has previously already tried to introduce common corporate tax base rules in the EU in 2011 with the common consolidated corporate tax base (CCCTB) proposal and in 2016 with the relaunch of the common corporate tax base (CCTB) proposal. These proposals never received a final consensus and in 2021, the EU Commission decided to withdraw both proposals and replace them with a new initiative called BEFIT. Given the significant changes the tax landscape has gone through over the past few years, for example the implementation of the BEPS action plans, the timing for a relaunch seemed right in the eyes of the EU Commission. 

Overview of the BEFIT proposal

The BEFIT proposal includes both a mandatory scope and an optional scope. The proposal would apply on a mandatory basis to the same groups that are in scope of the OECD Pillar 2 rules (i.e., groups with consolidated group revenues of at least EUR 750 million). For non-EU headquartered groups, the rules would apply if, in two of the last four years, the combined revenues of the group’s EU subsidiaries and permanent establishments does exceed five percent of the total group revenues or EUR 50 million. In addition, smaller groups may also opt in on a voluntary basis, provided that they prepare consolidated financial statements. When a group applies or chooses to apply BEFIT, the rules will be applicable to all tax resident companies and permanent establishments located within the European Union that meet a 75% ownership test (BEFIT group members). 

The proposal then requires all BEFIT group members to calculate their tax result according to the same common rules. The starting point for the calculation is the accounting result as per the financial accounts after which certain adjustments have to be applied (which corresponds to the same calculation mechanism that is used for the OECD Pillar 2 rules). Although the BEFIT adjustments closely follow the OECD Pillar 2 rules, less BEFIT adjustments are nevertheless required under the proposal, since the overall purpose of BEFIT (being a simplification of the tax environment in the EU) differs from the OECD Pillar 2 rules (which introduces a minimum corporate taxation of 15%).

Once the tax result for each EU Member State is determined, the tax results would then be aggregated into a single tax base and then allocated among eligible BEFIT group members using a pre-defined baseline allocation percentage. Additional adjustments may then be performed locally by the respective EU Member States. 

The BEFIT rules also provide for TP simplifications during a transition period and include a “traffic light system” to facilitate TP compliance with associated enterprises outside the BEFIT group.

Lastly the BEFIT rules also introduce a common administrative framework, which includes (i) the use of a One-Stop-Shop for BEFIT filing obligations and (ii) a “BEFIT team” which will bring together representatives of each relevant tax administration from the Member States where the group operates that would examine the BEFIT information. 

A detailed overview of the different steps can be found in the EU Tax Flash prepared by KPMG’s EU Tax Centre.

2. The Transfer Pricing Proposal

In addition to the BEFIT proposal, the EU Commission issued a TP proposal with the aim to harmonize TP  rules in the EU. The proposal would introduce the OECD arm’s length principle and the OECD TP guidelines directly into EU law. Under the proposal, the latest OECD TP guidelines would be binding for all Member States. The proposal also intends to introduce common approaches for applying TP in the EU, such as the selection of the most appropriate method, comparability analysis and establishment of the arm’s length range. 

The interpretation of the OECD arm’s length principle, as implemented by the relevant EU Member States, was a recurring topic within EU State Aid investigations on TP arrangements. In certain of these State Aid cases involving Luxembourg, the EU took the view that Luxembourg had its own interpretation of the application of the arm’s length principle in the context of the intragroup, intermediary financing activities, which led to a selective advantage to the taxpayer. In this respect, the CJEU came out with a favorable ruling in November 2022, clarifying that in the absence of an EU harmonized law, the EU Commission must consider the local interpretation and implementation of the arm’s length principle in domestic legislation by each Member State, rather than the interpretation of the arm’s length principle that the Commission has chosen to adopt (regardless of alignment on the OECD principles or otherwise). Although this CJEU decision has already provided some tax certainty to taxpayers, having a common and harmonized approach within the EU would certainly provide a welcome change. 

Please refer to this EU Tax Flash for an overview of the new TP proposal and to this EU Tax Flash  for an overview of the EU State Aid case involving Luxembourg, both prepared by KPMG’s EU Tax Centre.

3. The SME proposal

Lastly, the EU Commission also published a proposal that would benefit small and medium sized enterprises (SME). This proposal would provide certain SME entities, which have permanent establishments in other EU Member States, to calculate their tax liability based on the tax rules of the EU Member State of their head office. In addition, these entities would also only need to file one single tax return with the tax administration in the EU Member State of their head office. This tax return would then be shared with other EU Member States where the permanent establishments are located. 

A comprehensive overview of this proposal can be found in this EU Tax Flash, prepared by KPMG’s EU Tax Centre. 

The EU Commission is proposing that the BEFIT proposal should be transposed by the EU Member States into domestic law by 1 January 2028, with an entry into force on 1 July 2028.

For the TP proposal and SME proposal, the proposed transposition deadline would be 31 December 2025, with an entry into force on 1 January 2026.

As is the case with all Tax Directives, unanimous approval in the EU Council is required for the proposals to enter into force. If adopted, the impact for EU-based groups could be significant. 

Although the overall objective of the proposed BEFIT Directive is to provide simplification and relief from the current administrative burden, groups in scope will nevertheless be confronted again with a new layer of complexity and the associated costs of implementation. On the other hand, the harmonization of TP rules in the EU would certainly entail some benefits for intra-EU transactions, for example by leading to less TP disputes.  

KPMG Tax professionals will follow the developments on these proposals closely and we remain at your disposal for any questions that you may have.