Apple and the EU

Apple and the EU:  Summary of the EU's latest ruling against Apple and the EU's proposed reforms of corporate taxation.

As previously covered in this blog, the EU ruled against Ireland granting tax benefits of up to €13 billion to Apple in violation of the State aid rules.  In their law review article, "Apple State Aid Ruling: A Wrong Way to Enforce the Benefits Principle?", Professor Reuven S. Avi-Yonah (Michigan Law) and Gianluca Mazzoni (SJD Candidate, Michigan) detail how Apple was able to utilize Ireland in reducing its tax liabilities.  The most notable facts of Apple's Irish arrangement as uncovered by the article are:

• Apple's market capitalization as of October 7, 2016 was $614.61 billion dollars (or $612.66 billion as of the third quarter of 2016)
• Apple used cost sharing agreements to shift profits from U.S. Developed intangibles to its Irish subsidiaries.
  • The article briefly discusses how cost sharing agreements (as used in pharmaceutical companies) should deter transfer pricing/revenue shifting because in pharmaceutical companies it is a gamble as to whether a particular drug will be a blockbuster drug and the pharmaceutical companies would risk losing R&D costs shifted to its offshore subsidiary if the drug didn't have profits generated in the offshore subsidiary.
  • The article states that this is not the case in technology companies, like Apple, because of Apple's track record of producing blockbuster technological products.
• Apple utilized licenses of Apple's brand and intellectual property by its Irish subsidiary's (Apple Sales International, ASI's) subsidiary retail locations throughout Europe to shift royalty payments from the retail locations to ASI instead of paying taxes on the income in the European countries.
  • The article notes that the profits from other EU nations are paid to the Irish subsidiary as royalty fees for licensing Apple's logo and branding to the EU subsidiaries.

The article also discusses the reason why Apple was able to utilize its Irish structure to shield income from taxation.  The primary reason for Apple's ability to set up this structure are as follows:

• Ireland and EU's lack of withholding tax on receipts fro EU member states.
  • The article highlights that the commentary regarding EU's position to not implement a withholding tax on receipts from EU member states could create a tax haven for EU profits to be shielded from tax because the countries where the profits are earned do not impose a withholding tax on the profits leaving that country and coupling that with certain countries (Ireland and Cyprus) that do not tax money not directly earned in that country's borders allows a sophisticated company to avoid tax on profits made in EU countries.
• In 1997 U.S. adoption of Check the Box regulations.
  • The article points out that in 1997 under the direction of the U.S. Treasury and the Clinton Administration, Congress adopted the "check the box" regulations.  Check the box regulations allowed U.S. multinational corporations to treat (for US tax purposes) foreign subsidiary corporations as transparent and not separate taxable entities.  This also allowed the foreign subsidiaries to transfer royalties and interest payments between each other without generating tax (called Subpart F) on the transfers.
  • The article also makes the point that at the adoption of the check the box rules, the U.K. and Germany objected to this position because it would allow U.S. multinational corporations to utilize earnings stripping to reduce taxable income in their respective countries.  Congress at the urging of the U.S. multinational companies (namely the argument that reducing the taxable income in foreign countries would lead to larger amounts of tax paid in the U.S.) enacted the check the box regulations.
  • The article also, with the advantage of hindsight, makes the argument that the check the box regulation over time has shown that the U.K. and German objections were warranted because U.S. multinational corporations have stripped earnings from EU countries and have not resulted in more U.S. taxes paid by the sameU.S. multinational corporations.
  • The article points out that the check the box regulations created such a huge loophole (estimated $86.5 billion over a ten year period) that early on President Obama and the U.S. Treasury advocated for the reformation of the check the box regulation.  However, after intense lobbying by business associations, the Obama administration has since abandoned the check the box regulation reforms and extended the check the box regulation treatment for another 5 years.
• Exploitation of difference between Irish and U.S. tax residency rules
  • As stated in the article, Irish laws taxes corporations for only income earned in Ireland.  U.S. law taxes income earned worldwide for companies that are resident in the United States.  This creates a gap in taxation for an Irish company with income earned outside Ireland, which as the article points out was exploited by Apple by also negotiating a corporate rate of less than 2% for its Irish income.

Finally, the article discusses how the EU Commission reached its determination that Ireland provided improper state aid by granting Apple such a sweetheart deal. The article summarizes the EU Commission position as follows:

• Was there state aid provided by Ireland to Apple?
  • The EU Commission concluded yes, because a benefit was conferred on Apple, and was not conferred on all other companies.
• The article states that the EU Commission found fault with the Irish determination because it was a result of a negotiation and not merely a summary of the comparable transactions.
• The article also stated that the EU Commission questioned the methodology (Transactional Net Margin Method) chosen to determine the appropriate transfer price because the terms were not defined.
• The article then stated that the EU Commission questioned the inconsistencies in the transfer methodology selected by Apple; and
• The article stated that the EU Commission challenged the open ended duration of the ruling in Apple's favor.

Note: Apple has utilized this structure since the 1980s and as Tax Justice discusses, Apple continues to use this structure in 2016 to shield income from taxation in the U.S. based on Apple's most recent quarterly earnings report.

However, there might be a change to this structure starting in 2020, as Ireland has passed legislation in 2013, which took effect in 2015 for newly incorporated companies and in 2020 for existing companies, that in order to incorporate in Ireland the company must also be a resident of Ireland (meaning that the income received by Apple's Irish subsidiaries from its EU subsidiaries would be taxed in Ireland at 12.5%). See this Guardian article.

Additionally, the EU Commission has also proposed corporate tax reforms to address continued tax avoidance by multi-national corporations.  The EU Commission's proposals are as follows:

• Common Consolidated Corporate Tax Base
  • The EU Commission is proposing to treat all profits earned in EU countries as one taxable base, so that multi-national won't be taxed separately by each EU member nation.  This proposal purportedly allows a corporation to offset losses in one EU country with profits in another EU country and provides one joint tax on the profits. This proposal also attempts to address profit shifting from one EU country to another in an effort to seek a lower or advantageous tax rate.
• Improved Mechanisms to resolve double taxation disputes
  • Currently the EU has a double taxation dispute resolution only addressing transfer pricing.  This proposal by the EU Commission hopes to provide a timely response to companies seeking relief from EU members double taxing the same income in both EU member nations.
• Measures to tackle tax loopholes with non-EU countries.
  • EU Commission proposes to address tax gaps between EU nations and non-EU nations which have been exploited by companies to reduce tax.  One key example is the Irish-US tax gap implemented by Apple to avoid taxation on its EU revenues.

Whether these proposals will curb aggressive tax avoidance by multi-national corporations is questionable. But the real question is: What are Congress and the IRS/U.S. Treasury proposing to address the existing tax gap (much of which is due to U.S. multinational corporations and their profit shifting (earnings striping)/transfer pricing/base erosion/inversions practices)?

If you have specific and credible evidence of a corporation's use of transfer pricing to avoid paying its tax liabilities you should consider filing a tax whistleblower claim.  Contact us to see if your information would permit you to receive a 15-30% award of the amount of taxes, penalties and interest collected by the IRS on your transfer pricing tax whistleblower claim.

Panama Papers

Panama Papers: Part 2. Law Review Article examines how US Trust Law enables people who had previously sought Panama Papers-like protection from offshore trusts.

As previously covered in this blog here and here, the Panama Papers is a collection of documents and emails from the Panamanian Law Firm, Mossak Fonseca, which specialized in creating offshore trusts and companies to help their clients in hiding money from government detection. 

Here’s a recap of the carnage of public officials caught in the wake of the Panama Papers (approximately 140 politicians, 29 billionaires and at least 33 blacklisted people to 214,000 offshore entities, according to Forbes):

• Iceland’s Prime Minister resigned;
• Spain’s Industry Minister resigned;
• a senior Armenian official resigned;
• Ukraine’s President under pressure to resign;
• Pakistan prime minister under pressure to resign;

Also interesting are these two articles about how the Panama Papers were leaked:

• This Wired article discusses size of the data obtained from Mossak Fonseca (2.6 Terabytes)
• This Forbes article discuss the leak and the data sharing between the journalists, often using open sourced encryption methods to secure the data while the journalists were preparing their articles. 

Since the Panama Papers leaked, Reid K. Weisbord, law professor at Rutgers, has published an article in the Columbia Law Review entitled, “A Catharsis for U.S. Trust Law: American Reflections on the Panama Papers.”  Professor Weisbord’s article summarizes the Panama Papers scandal and the public reaction to the uncovered offshore trust abuses.  He then outlines three trust practices that are permitted in the U.S. that offer similar protections that only offshore trusts were previously able to offer.  He concludes his paper with possible reforms to prevent on shore trust abuses.

In his paper, Professor Weisbord discusses the following trust tools which provide nearly the same protections once found in offshore trusts:

• Self-Settled Asset Protection Trusts;
• Tax Breaks through Dynasty Trusts; and
• Minimal Reporting requirements.
• Self-Settled Asset Protection Trusts

As explained by Professor Weisbord, traditional trust law allows the trust to be a separate entity from the donor (settlor or creator of the trust) and/or donee (or beneficiary of the trust), so that when a gift is made to a trust, with a spendthrift provision, the trust is not obligated to pay to a donee’s creditors.  The creditors can only reach the assets if the trust pays out to the donee, because the spendthrift provision can limit or restrict payments to the donee if there are creditors present.  

Also as explained by Professor Weisbord, a self-settled asset protection trust would allow the settlor to transfer his assets to the trust, and if there is a spendthrift provision, the settlor’s creditors could not reach the settlor’s assets.  This novel creation by state legislatures has minimized the need to use offshore trusts. 

See this pdf outlining the 17 states with some version of the self-settled asset protection trusts laws.

Tax Breaks through Dynasty Trusts

As most estate planners can tell you, one key outcome of an estate plan is to defer taxes.  While the tax code allows for certain kinds of deferral with respect to estate plans (and as explained by Professor Weisbord) the code changed over time to include a generation skipping tax so that transfers to a donor’s grandchildren and future generations were taxable.  The so called generation skipping tax (“GST”) imposes a transfer tax for gifts to future generations.  However, the GST tax also includes an exemption (approximately $5,000,000).

One other barrier to gifting to future generations through a trust is the rule against perpetuities (or simply put, the law that prohibits a trust from existing beyond a certain period, usually 21 years, following the death of the last named living beneficiary at the time the trust was drafted).  As Professor Weisbord has pointed out, several states have abolished or limited the rule against perpetuities to permit trusts to exist well beyond the death of the last named beneficiary’s lifetime. 

These so called dynasty trusts have enabled creative estate planners to obtain advantages in creating estate plans that were previously limited to using offshore trust.  For a summary of dynasty trusts and the rule against perpetuities, see this law firm’s website.  For a chart of states that have abolished/limited the rule against perpetuities, see this chart.

Minimal Reporting requirements

As stated by Professor Weisbord, states have reduced the reporting requirements of trusts, so that the trust reporting requirements are minimal or non-existent.  This change coupled with the Organization for Economic Cooperation and Development (“OECD”) increased reporting requirements for foreign jurisdictions has spurred moving former offshore trusts back to U.S. trusts.

See this Bloomberg article about the U.S. being the newest/latest tax haven because of its lax reporting and refusal to sign off on the OECD reporting requirements

Weisbord’s Recommendations

Weisbord summarizes his paper with recommendations that he acknowledges are implausible because states that have enacted changes to its laws are highly unlikely to amend them again to prevent the abuses he raises in his paper.  Weisbord does suggest the possibility that the trusts may be invalidated by the bankruptcy code and fraudulent conveyance laws, but, in reality if done right, even these federal laws may not invalidate a trust to prevent people from using the trusts in the US as a tax shelter.

Weisbord’s conclusions/recommendations place at a premium specific and credible information a whistleblower has on a donor/settlor establishing a trust and avoiding taxes (in the U.S. and possibly in other jurisdictions).  With this insider information the IRS may properly assess the tax liabilities of the donor/settlor. 

The IRS will pay a whistleblower for specific and credible information about persons and trusts violating U.S. tax laws.  The IRS pays between 15-30% of the total collected proceeds (tax, interest, penalties, and additional amounts) for specific and credible information that leads to the successful prosecution and collection of collected proceeds from the tax violators.  Contact us to discuss whether you should file a tax whistleblower award claim with the IRS.

Can filing your tax return be easier than ordering a pizza?

President Obama thinks there is a technology gap between the public sector and the private sector.  He says filing a tax return should be as easy as ordering a pizza.  See this Wired article.

President Obama's comments raise the question: is the tax code too complex?  Earlier in the Presidential Race, Senator Ted Cruz advocated abolishing the IRS and filing a tax return on a post card.  See my earlier blog post.

Likewise, as stated in the prior post, the IRS already has a simple filing procedure.  See this earlier blog post.  See also US News article about whether you should file your own tax returns.  Even TurboTax has its own app.  So do we need filing tax returns to be any simpler?

Perhaps the President meant to say that we should have a flat tax rate? This blog previously addressed the flat tax rate debate with Senator Cruz' proposal.  See also this International Monetary Fund (IMF) whitepaper about the success of a flat tax (paper summarized that in most cases the flat tax failed to raise additional revenue, with the exception of Russia).  Also the paper states that in most cases because of a switch to a flat tax, many of the countries had to enact changes to eliminate exemptions to the personal income tax system and VAT system and increase excise taxes.  The whitepaper also concludes that the sustainability of the flat tax is still indeterminable, usually because enacting the flat tax was a result of a political change of regime.

Or perhaps the President meant to discuss the tax rates corporate income tax structure in the U.S.  One prevalent discussion point is whether the U.S. should lower its corporate tax rates to match other industrial nations and to curb U.S. Multinational Corporations from using inversions, transfer pricing and earnings striping to shift the tax burden to a lower tax jurisdiction.  See this Tax Policy article. 

Or perhaps the President meant to discuss the tax rates for individuals and where to place the tax burden.  As discussed in this blog, the Presidential race appears to be a debate over who should we tax and give tax cuts (Rich vs. Poor).  Also in the same blog, I highlight how Clinton's tax plan will likely be more complex.  What people forget is that complexity is what allows people to get tax breaks.  The so-called loopholes in the code are designed to allow people to legally avoid paying tax on income, without resorting to tax shelters.  See this IRS site for list of tax shelters.

Or perhaps the President is discussing the tax gap (estimated $458 Billion dollars) and how technology might assist the IRS in enforcement.  See this IRS presentation addressing the tax gap and how the IRS is combatting the tax gap.  Noteworthy is that the IRS' presentation proposes to simplify the code to ensure compliance.  Is the IRS' efforts to combat the tax gap being hampered by the continual decrease in the IRS budget?  See this Center on Budget and Policy Priorities article on IRS budget cuts.

If better enforcement is the issue, and given the IRS' budget cuts, the bigger question is why isn't the IRS utilizing the Whistleblower program it has to ensure better compliance.  See my colleague's blog, about whether the IRS really supports its whistleblower program.

If you have specific and credible evidence of taxpayers failing to file their tax returns and/or paying their tax liabilities in excess of $2 million of taxes, interest and penalties, you should consider filing an IRS tax whistleblower claim.  Contact us to assist you in filing your tax whistleblower claim to received an award of between 15-30% of the amounts collected by the IRS on tax liabilities in excess of $2,000,000.