European Commission Policy on Exit Taxation

• Author: László Kovács
• Pages: 1-16

Page 1

Introduction - the need for coordination of Member States' tax policies

Taxation lies at the heart of national sovereignty.¹ It is an essential tool for governments to fund public expenditure and to execute the policies they consider important. It is, however, abundantly clear that there are still several aspects of national tax systems which impede the economic integration of the EU. As a result, economic operators continue to be faced with tax obstacles which prevent them from reaping the full benefits of the Internal Market. Also, Member States find it increasingly difficult to protect their tax bases in a manner which is compatible with the fundamental freedoms of the Treaty. More and more, they find that measures which they have adopted to protect their tax bases are held to be incompatible with EC law by the European Court of Justice (ECJ), which can have considerable budgetary consequences for the Member States concerned. Often such measures are also mismatched with the national tax rules of other Member States which can give rise to instances of double taxation or unintentional double non-taxation and make such measures increasingly vulnerable to tax avoidance and evasion.

The current institutional framework which provides for decision making by unanimity in the area of taxation is unlikely to change in the short to medium term. It is therefore important to explore new and creative approaches, that is to say, find pragmatic solutions to the main cross-border tax problems affecting Member States and market operators. It was with those challenges in mind that the Commission in 2006 launched an initiative for a new systematic approach Page 2 based on a co-ordination of taxation policies². The Commission believes that coordination of national tax policies at EU level can play a vital role in helping Member States to render their tax systems compatible with Community law and, at the same time, protect their tax bases from further eroding. It could significantly improve the performance of tax systems which can help to keep economic activity and 'mobile' assets in the EU.

It is important to acknowledge that there is not a single format for a coordinated approach. Different problems may require different solutions. Coordination of taxation policies can be achieved through a range of measures, including both legislative initiatives and non-legally binding instruments. In any event, unlike harmonisation which is characterised by the fact that national laws are substituted by a common body of legislation at Community level, coordination leaves the legislation at national level intact (provided that it complies with the EC Treaty requirements) but aims to render such laws compatible with each other. Rather than to encroach upon Member States' competencies in tax matters, coordination reinforces their ability to preserve their sovereignty through a collective effort.

In December 2006 the Commission issued a Communication on exit taxes³ in which it set out its views on how a coordinated approach could prove useful in this field. The Communication is designed in part to provide guidance on the principles flowing from the case-law on exit taxes and prompting discussion on ways in which Member States can comply with their obligations. Member States are obliged to take action - the idea is to facilitate and coordinate such action. But the Communication also suggests that there is a need to address the mismatches between different national rules in order to ensure that they interact coherently with each other. In the following parts of this article I shall briefly recall the main findings of the Communication but also make an attempt to explain further how the Commission would like to see the mismatches being Page 3 removed through coordination.

What I have to say in the following text has to be seen in the context of the adoption by the Council of a Resolution on coordinated arrangements for exit taxation on 2 December 2008⁴. The Resolution is a non-binding instrument that does not create legal rights or obligations for Member States or taxpayers (as explicitly stated in the recitals).

The adoption of the Resolution is however a very welcome and important step forward in removing tax obstacles to the proper functioning of the Internal Market by ensuring the elimination of double taxation of transfers of business assets from one Member State to another. Although it does now depend on concrete action by individual Member States to implement their commitments, such tangible results prove that progress can be made in the area of direct taxation through coordination. It is true that the Resolution remains rather silent on an important requirement for the tax treatment of such asset transfers to be in keeping with the Member States' EC Treaty obligations, i.e. as to at which point in time can they collect exit charges. The Commission has been very clear about its views on this matter - the collection of exit charges may not take place any earlier than what would have been the case if the transferred assets had remained within the territory of the exit State and usually, this coincides with the moment when the transferred assets are actually disposed of. In this regard it may also be noted that the guiding principles attached to the Resolution explicitly invite the Member States at the receiving end of the asset transfers to provide administrative assistance to the exit State, in particular for the purposes of determining the date of disposal. Page 4

Exit taxation - a prime example of an area where coordination can prove useful

The raison d'être of exit taxes?

Member States have different reasons for levying exit taxes. Some levy them to counteract specific types of tax avoidance and tax-induced (temporary) emigrations. For others exit taxes are a means of ensuring that they are able to tax any income which has accrued while taxpayers were resident in their territory. Frequently, national exit tax provisions are also based on a combination of these reasons.

Most countries seek to tax their resident taxpayers (individuals and/or companies) on the capital gains they make on their assets. In domestic situations, such capital gains will usually be taxed when they are realised, that is when the assets are sold or otherwise disposed of. However, if an individual taxpayer moves to another state before disposing of his or her assets, the exit state risks losing the taxing rights on the capital gains which have accrued on those assets, as these rights will generally pass to the new state of residence. Similarly, if a company transfers its residence to another Member State in another Member State, the original state of residence risks the (partial) loss of its taxing rights on the gains which have accrued while the company was resident in its territory⁵. The same risk could be present where a company transfers individual assets to its branch (permanent establishment) situated in another Member State. Many EU Member States have attempted to deal with this issue by taxing such accrued but as yet unrealised capital gains at the moment of transfer of the residence by the taxpayer or of the individual assets. Page 5

General principles flowing from the relevant case law - are exit taxes EC Treaty compatible?

In De Lasteyrie du Saillant⁶, a case concerning French legislation on taxation of unrealised increases in value of securities upon emigration of individual taxpayers, the issue before the ECJ was whether or not a mechanism for...