The European Commission announced today that it will open an in-depth investigation into a Belgian tax provision known as the “excess profit” taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. rule. The commission charges that the provision is not available to stand-alone companies due to its structure. As such, the provision unduly benefits multinationals and violates principles of a competitive single market.
Belgian tax authorities argue that the excess profit rule is just an implementation of the OECD “arm’s length” principles, but the rule is actually fixing a shortcoming of the arm’s length principle. Under the arm’s length principle, all transactions between parent and affiliate must be priced as if they were transactions between two unrelated parties. In practice, this means finding two transaction of a similar products and averaging the prices. Problems arise when the product is unique.
The excess profit rule allows multinationals to adjust taxable income for non-arm’s-length dealings, such as the use of a product brand. Using the product brand of the parent company increases the affiliate’s profits, but the affiliate bears none of the cost from establishing and maintaining the brand. The excess profit rule allows the multinational to implicitly deduct the costs imposed on the parent.
The excess profit rule works by allowing multinationals to deduct all profit above the average of their stand-alone counterparts. The rule assume that any profit of multinational above the average profit of its peers must be due to intangible, unpriceable assets from a foreign parent, such as a brand. Thus, the cost of the intangible asset is considered in the taxable profits.
The commission rebutted that the excess profits provision vastly overestimates the actual benefit and does nothing to prevent double taxation. More importantly, the commission also points out that the provision must be renewed by application every five years and it is often granted to companies that have relocated a large portion of their business to Belgium. This suggest that the commission believes that the excess profit rule is being used to attract specific companies to Belgium.
The commission now has the task of combing through documents to determine if the excess profit rule is indeed violating a principle of the E.U. The commission’s time would be better spent focusing on the process of granting companies the provision rather than arguing over the merits of the provision.
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