COMMISSION OF THE EUROPEAN COMMUNITIES
Brussels, 23.10.2001
COM(2001) 582 final
COMMUNICATION FROM THE COMMISSION TO THE COUNCIL, THE
EUROPEAN PARLIAMENT AND THE ECONOMIC AND SOCIAL
COMMITTEE
Towards an Internal Mark et without tax obstacles
A strategy for providing companies with a consolidated corporate tax base for
their EU-wide activities
2TABLE OF CONTENTS
1. Introduction................................................................................................................ 3
2. The need to adapt company taxation in the EU to  a changing environment........ 4
3. The impact of differences in the effective levels of company taxation on
incentives to invest within  the Internal Market ...................................................... 6
4. Removing the tax obstacles to cross-bor der economic activi ty in the Internal
Market....................................................................................................................... 10
5. Providing companies with a consolidated  corporate tax base for their EU-wide
activities..................................................................................................................... 15
6. Way forward and conclusion .................................................................................. 20
Annex: Executive Summary of the Commission Services Study on "Company Taxation in the
Internal Market" [SEC(2001)1681]
31. I NTRODUCTION
Reform of EU
company taxationis crucial forachieving theLisbon-goals.The European Union has set itself the strategic goal  "… to become the
most competitive and dynamic knowledge-based economy in the world…". This objective was first establis hed at the European Council in
Lisbon in March 2000 and reiterated by the Stockholm European Council
of March 2001. Generally, the Lisbon Council also called for building up
a supportive general framework for economic activity in the EU. Thetaxation of companies can play an important role in achieving thisobjective and creating a level-playing field for businesses in the EU.However, while important steps have  been taken in other policy areas,
little has happened here and Member States essentially operate the samecompany tax systems as they did before the set-up of the Internal Market.This mismatch in development need s to be addressed now and the
imminent enlargement of the EU makes it all the more urgent.
The Commission
services haveprepared acomprehensivestudy on thesubject.The May 2001 Communication “Tax Policy in the European Union”
[COM(2001)260] identified both gene ral objectives and a number of
specific priorities in direct and i ndirect taxation. This Communication
takes this process a step further in that it addresses the more detailed issueof the direct taxation of companies in the European Union.
The study "Company Taxation in the Internal Market", the Executive
Summary of which is annexed to  this Communication, has examined
whether the current application of company taxation in the InternalMarket creates inefficiencies and prevents operators from exploiting itsfull benefits. This would imply a loss of EU welfare , undermine the
competitiveness of EU businesses  and thus be counter to the Lisbon
objectives.
In accordance
with a specificCouncil mandate,the Commissionexplains itsstrategy oncompany taxationin the EU overthe next fewyears.This Communication supplements and builds on that study. It sets out the
Commission view of what needs to be and what can be realistically donein the area of company taxation in the EU over the next few years inorder to adapt company taxation in th e EU to the new economic
framework and to achieve  a more efficient Internal Market without
internal tax obstacles . For this purpose, a number of concrete initiatives
are presented at the end of this Communication.
Both documents together respond to the mandate given to the
Commission by the Council of Ministers in July 1999 to investigate theimpact of differentials in the effective level of corporate taxation inMember States on the location of economic activity and investment andof tax provisions that constitute obstacles to cross-border economic
activities in the Internal Market and remedies thereto.
4Some history of company tax initiatives on EU level
Since the founding of the European Communities, comp any taxation has received particular attention as an
important element first for the establishment and then the completion of the Internal Market. Several studies like
the Neumark-report of 1962 and the Tempel-report of 1970 have been presented and a number of initiatives
designed to achieve a limited degree of harmonisation of the corporate tax system, base and also rates have been
taken. The Commission had put forward appropriate proposals for directives in 1975 and, more focussed on loss-
compensation, in 1984 and 1985. Those were later withdrawn. A draft proposal of 1988 for the harmonisation of
the tax base of enterprises was never tabled, due to reluctance of most Member States.
Recognising the lack of success in progressing the above initiatives, the Commission Communication on
company taxation in 1990 [SEC(90)601] s uggested that, subject to the principle of subsidiarity, all initiatives
should be defined through a consultative process with the Member States. On that basis, following on from
Commission proposals which originated in the late 1960s, three measures - two directives and a convention -
were finally adopted in July 1990 [the Merger Directive 90/434/EEC, the Parent-Subsidiary Directive
90/435/EEC and the Arbitration Convention 90/436/EEC]. A pr oposal on loss-offset cross-border is still pending
in the Council COM(90)595]. In 1994, the Commission withdrew a first proposal aimed at abolishing
withholding taxes levied on cross-border interest and royalty payments between associated companies of
different Member States. A new proposal was however made in 1998 [COM(1998)67].
The 1990 approach was developed further in 1996/1997 in a Commission Communication [COM(97)495]. The
'tax package', and notably the Code of Conduct for business taxation, have introduced a new dimension to the
discussion. The Single-Market driven approach was supplemented with the objectives of stabilising Member
States' revenues and promoting employment which are now taken up and re-assessed in the above-mentioned
recent Communication on the priorities of EU tax policy.
In 1999/2000 the Council, in order to supplement the ongoing work on the 'tax package' which had been agreed
by EU Finance Ministers in December 1997, requested a comprehensive study on company taxation to be carried
out by the Commission.
2. T HE NEED TO ADAPT COMPANY TAXATION IN THE EU TO A CHANGING
ENVIRONMENT
The 1992 Ruding
report had littleimpact.The last comprehensive study on company taxation in the European
Community was the "Report of the Committee of independent experts oncompany taxation" of 1992, commonly known as Ruding Report. Inresponse to a Commission request th is report examined the relation
between company tax systems and the functioning of the forthcomingInternal Market. However, its de tailed and valuable findings and
recommendations met w ith limited support and fa iled to achieve much
progress.
The Internal
Market andglobalisationhave changed theframework forcompany tax inthe EU.Today, general developments call for a renewed assessment of the EU
strategy in the field of company taxation. The overall economic
framework has changed since the early nineties:
/g183 The EU has experienced a wave of international mergers and
acquisitions.
/g183 The emergence of electronic commerce and the increased mobility of
economic factors make defining and safeguarding the company taxbase more difficult.
/g183 Economic integration in the Internal Market and Economic and
Monetary Union continues to pr ogress and the non-fiscal economic,
technological and institutional barri ers to cross-border trade continue
to be pulled down.
5/g183 Large EU companies now view the whole EU as their "home market"
and accordingly seek to establish effective pan-European businessstructures. This results in EU-wide re-organisation and centralisationof business functions with in a group of companies.
/g183 The concerns of tax payers, be it corporate or individual ones, now
receive more attention.
/g183 There is now, via the Code of Conduct for business taxation,
supportive similar action at OECD le vel and also the enforcement of
EU State Aid rules, the real prospect of eliminating harmfulpreferential tax regimes within the Internal Market.
All the elements
of company taxsystems in the EUgain inimportance.Given these developments the importance of all the features of
company tax systems  almost automatically increases. This is because
Member States compete with all elements of their tax systems, both
specific and structural, for inves tments and economic activity to be
located within their territory.
Enlargement will
accentuate thesedevelopments.Many of these developments, wh ich both raise new, and emphasise
existing problems with the taxation of companies and their EU-wideoperations, will be accelerated by enlargement . Hence, there is a clear
need to adapt Company Taxation in the EU to this changing environment.
Various
requirementsdetermine theefficiency of theEU company taxsystem and thecompetitivenessof EU businesses.
But the overall
welfare effectscan only bedetermined in abroadereconomicassessment.For assessing the overall importance of these problems and possible
solutions, it is necessary to consider economic efficiency . From an
economic point of view company taxation in the Internal Market must
/g183 contribute to the international competitiveness of EU businesses in
line with the strategic goal established by the Lisbon EuropeanCouncil;
/g183 ensure that tax considerations distort as little as possible economic
decisions by operators;
/g183 avoid unnecessary or unduly high compliance costs and tax obstacles
to cross-border economic activity;
/g183 not hinder the possibility of general tax competition while tackling all
harmful or economically undesira ble forms of tax competition.
A company taxation system that meets these objectives will a priori
increase welfare. However, to assess the overall  level of welfare, the
financing and supply of public goods and services, their complex relation
to tax revenues and the efficiency of public administration would also
have to be taken into account.
Moreover, as set out in the a bove-mentioned Communication on “Tax
Policy in the European Union” [COM(01)260], in the Community contexttax policy must support and reinforce other EU policy objectives. Thisalso applies for company taxation policy.
63. T HE IMPACT OF DIFFERENCES IN THE EFFECTIVE LEVELS OF COMPANY TAXATION
ON INCENTIVES TO INVEST WITHIN THE INTERNAL MARKET
Purpose of the analysis
Marginal and
average effectivecorporate taxrates arepresented.The Commission services study on company taxation presents estimates
of effective corporate tax rates (marginal and average) on domestic andtransnational investments in the 15 EU  countries (as well as the USA and
Canada in certain cases) taking into account different forms of
investments in the manufacturing sect or as well as different sources of
finance.
The methodology for calculating effective tax rates
The most commonly used indicators for analysing the impact of taxation on investment behaviour are based on a
forward looking concept and involve calculating and comparing the effective tax burden for hypothetical future
investment projects or, alternatively, the effective tax burden for hypothetical future model firms behaviour,
using the statutory features of the tax regimes.
These approaches permit international comparisons and ar e especially tailored to provide an indication of the
general pattern of incentives to investment that are attributable to different national tax laws as well as to the
working of the international tax regime .
Other methodological approaches based on historical data can also be used to compute effective corporate tax
burdens. They address questions other than those addressed in this study and they may give rise to different
results.
In the Commission services study, the main body of the computation builds on methodology involving
calculating the effective tax burden for hypothetical futu re investment projects in the manufacturing sector. In
technical terms, the analysis relies on a revised and extended methodology of the so-called King & Fullerton
approach, set out by Devereux and Griffith (1998). This computation is supplemented by data arising from the
computation of the "European Tax Analyser" model which utilises the model-firm approach set out by the
University of Mannheim.
Effective tax rates have been calculated for a so-called "marginal" investment (where the post-tax rate of return
just equals the alternative market interest rate) or for an "infra-marginal" or "average" investment project (i.e.
one that earns extra-profits).
It is worth-noting that the numerical results depend heavily on the assumptions underlying both the hypothetical
investment and the future firm behaviour as well as the economic framework. Differences in the assumptions
underlying the hypothetical investment and the economic framework can give rise to somewhat different
numerical results.
Moreover, these approaches do not permit to take into co nsideration in the computation all the relevant features
of tax systems. However, the most important features of taxation systems such as the rates, major elements of the
taxable bases and tax systems are included.
The economic
methodologyallows forvaluable generalconclusions butsome caveats arenecessary.The broad range of data computed doe s not intend to present "universally
valid values" for the effective tax bur den in different countries, but rather
to give indicators, or illustrate interrelations in a series of relevant
situations . In fact, effective tax rates in a particular Member State depend
on the characteristics of the specific investment project concerned and themethodology applied.
A number of general conclusions  can nevertheless be formulated on the
basis of the results. These can help explain how Member States' taxregimes create incentives to allocate resources. A striking feature of thequantitative analysis is that, across the range of different situations, the
7relevant conclusions and interpretations remain relatively constant.
Taking into account that the quan titative results depend heavily on the
underlying assumptions and that th e applied methodologies do not allow
taking into account all the re levant features of taxation,  the numerical
results should be understood as summarising and quantifying the
essential features of the tax system , as is the case for any computation
based on forward-looking methods.
Taxation is only
one of thedeterminants ofinvestment andfinancingdecisions.As such, the analysis does not provide empirical evidence of the impact
of taxation on actual economic decisions. Although empirical studies
show that  there is a correlation between taxation and location
decisions , due to the weaknesses of ex isting methodologies and due to
the lack of data, none of the ex isting methodologies could have been
usefully adopted in the Commission se rvices study without considerably
extending the range of work.
Taxation is, of course, only one of th e determinants of investment and
financing decisions. A series of ot her structural and economic conditions
are important determinants of inve stment behaviour. Which factors are
relatively more important very much  depends on the individual type of
investment decision.
Neutrality and distortion effects
Effective tax rates
differentials arehigh inside theEU.Even allowing for the above consider ations, the results of the quantitative
analysis for 1999 are quite informative. There is large variation in the
effective tax burden  faced by investors resident in the different EU
Member Countries, as well as in the way each country treats investments
in or from other countries (see tables  at the end of this Communication).
The range of differences in domestic effective corporate taxation rates is
around 37 percentage points in the case of a marginal investment
(between -4.1% and 33.2%) and around 30 percentage points in the caseof a more profitable investment (between 10.5% and 39.7%).
In the international analysis, the range of variation of the effective tax
rates of subsidiaries located in di fferent host countries can also reach
more than 30 percentage points. Simila rly, the range of variation of the
effective tax rates for subsidiaries operating in a given country can reach
more than 30 percentage points depe nding on where their parent company
is located.
In each Member States, tax systems tend to favour investment in
intangibles and machinery and debt is, by far, the most tax-efficientsource of finance.
Across the range of domestic and cr oss-border indicators there is a
remarkable consistency as far as the relative position of Member States,notably at the upper and the lower ranges of the ranking, are concerned.
8When the domestic analysis is update d to take into account the 2001 tax
regimes, the overall picture is broadly unchanged in comparison to 1999.However, as a consequence of a patte rn of generally declining statutory
tax rates (albeit with relatively small reductions apart from Germany),more profitable investment s benefited from reductions in effective tax
rates in a number of countries. As a result, the range of differences in
domestic effective tax rates in the case of a more profitable investmentdecreased from 30 to 26 percentage points.
These high differentials may have an influence on the international
competitiveness of EU companies  located in different Member States
and represent incentives for companies to choose the most tax-
favoured  locations for their investments , which may not be the most
efficient location in the absence of taxes. If this is the case, differences inthe effective levels of company taxation may imply an inefficientallocation of resources and, therefor e, welfare costs. The study has not
attempted to quantify the size of any efficiency loss or welfare cost thatmight be associated with existing differences in effective corporation taxrates in the European Union. Nevertheless the size of tax differentials
and dispersions deserves attention,  considering that some externalities
as well as the different legitimate goals of tax policy may justify a certaindeviation from the objective of neutrality of taxation .
The overall
national nominaltax rate is themost relevant taxdriver affectingcompetitiveness,incentives tolocate andfinancingdecisions.The EU wide spread cannot be explai ned by one single feature of the
national tax systems. However, the analysis of general regimes tends toshow that – leaving aside preferential tax regimes - the different nationalnominal tax rates (statutory tax rates, surcharges and local taxes) canexplain most of the differences in effective corporate tax rates betweencountries both in the domestic and transnational analysis. Tax rates
differentials more than compensate for differences in the tax base .
These conclusions are to be considered when discussing thecompensatory effects of a broad tax base compared to a relatively low taxrate on the effective tax burden. The relative weight of rates indetermining the effective tax burden of companies rises when theprofitability of the investment rises. Consequently, any compensatory
effects of a lower tax base on effective tax rates tend to disappear
when the profitability rises .
To the extent that
taxation matters,introducing acommon tax ratein the EU wouldbe likely to gosome way inreducinglocationalinefficiencies.Simulating the impact of hypothetical harmonisation of particular features
of taxation system in isolation shows that:
/g183 Introducing a common statutory tax rate in the EU would have a
significant impact by decreasing the dispersion  - both between
parent companies and between subsid iaries - of marginal and average
effective tax rates across the EU countries. No other policy scenario
has such a significant impact on the dispersion of effective tax rates.
/g183 Scenarios  implying a common tax base or a system consisting in
applying the  definition of the home country tax base  to the EU-
wide profits of a multinational tend to increase the dispersion in
effective tax rates  if overall nominal tax ra tes are kept constant.
9It should however be noted that these conclusions are the result of a static
analysis. They therefore do not assess the dynamic effects and possiblereactions induced by the harmonisation of particular features of taxation
in isolation. In a dynamic context it is possible that the transparencyassociated with the harmonisation of  the taxable base would induce a
convergence of the statutory corporate tax rates thus implying a reduction
in the dispersion of effective tax rates.
The level of
taxation is amatter forMember States todecide.The quantitative analysis of the Commission services study has drawn a
picture of corporate tax rates differe ntials inside the EU and the reasons
underlying these differences on the basis of a robust and internationallyknown theoretical framework. The Commission wishes to draw theattention to the main results of this picture: effective tax rates differentialsare high inside the EU and the overall national tax rate is the main taxdriver for these differentials. When harmful preferential tax regimes areeliminated within the EU, differences in the nominal tax rates will offer
alternative possibilities of arbitrages. In the context of the imminentenlargement this trend could be compounded.
The Commission services study has not analysed the evolution of
effective tax rates over time and the effects of tax competition. Neither, as
mentioned above, has the Commission stud y assessed the size of possible
welfare losses associated with the existing differences in effective rates ofcorporate taxation in the EU Member States. Therefore, at this point intime, there is no convincing evidence for the Commission to recommendspecific actions on the approximation of  the national corporate tax rates
or the fixing of a minimum corporate tax rate.
Moreover, the objective of tax neutrality is obviously not the only
legitimate goal of tax policy and taxation ultimately involves a political
choice and a trade-off between pur e economic efficiency and other
legitimate policy goals. To what extent the possible inefficiencies for theInternal Market due to the differences of national practices in corporatetaxation can be accepted is, ultimately, a matter of political choice.
In this context, it is worth recalling that: " The level of taxation in this
area is, however, a matter for Member States to decide , in accordance
with the principle of subsidiarity ", as is stated in the recent
Communication on the Tax Policy in the European Union[COM(2001)260].
However, the Commission will carefully monitor the trend of the
effective levels of corporate taxation in the EU Member States in order tounderstand the dynamic effect s of reforms in progress.
104. REMOVING THE TAX OBSTACLES TO CROSS -BORDER ECONOMIC ACTIVITY IN THE
INTERNAL MARKET
Tackling the obstacles
Cross-border
economicactivities in theInternal Marketare stillhampered bysubstantialcompany taxobstacles.The Commission services study has identified a number of fields in
which company tax systems comprise or lead to obstacles  to cross-border
trade, establishment and investme nt or hamper cross-border economic
activity in the Internal Market. The additional tax or compliance burdensassociated with doing business in more than one Member State caused bythese obstacles undermine the international competitiveness of
European companies and waste resources . The various obstacles are
analysed in detail in the study and the annexed Executive Summary givesan overview about the key issues. In particular:
/g183 Profits have to be allocated on an arm’s length basis by separate
accounting, i.e. on a transaction by transaction basis. This gives, inter
alia, rise to numerous problems on the fiscal treatment of intra-group
transfer pricing , notably in the form of high compliance cost and
potential double taxation.
/g183 Cross-border flows of income  between associated companies are
often subject to additional tax. In  particular, withholding taxes on
bona-fide  intra-group payments of divi dends, interests and royalties
contain a risk of double-taxation and are not in line with the Internal
Market idea. Moreover, the scope of the Parent-Subsidiary Directive(90/435) is too narrow and its imple mentation in Member States is
very different, which reduces its effectiveness.
/g183 There are major limits on cross-border loss relief which may lead to
(economic) double-taxation. Generally,  losses of subsidiaries are not
tax-effective at the level of EU parent companies and losses ofpermanent establishments can be offset against headquarter profits
only under specific circumstances.
/g183 Cross-border restructuring operations  give rise to substantial tax
charges. The Merger Directive (90/434) provides for the deferral ofcorporate tax on such operations but  its scope is too narrow and its
implementation in Member States is  very different, thus reducing its
effectiveness. Capital gains taxes and transfer taxes on cross-borderrestructuring operations are often prohibitively high, thus forcingcompanies to leave economically sub-optimal structures untouched.
/g183 As a result of conflicting taxing rights, there is a considerable
potential for double taxation. This holds for all of the issues whichhave been identified as obstacles. The specific problems relating todouble taxation conventions  in the EU add to these difficulties.
/g183 Certain tax systems contain a bias towards domestic investment .
This is, for instance, the case for imputation systems granting specifictax credits only to domestic shareholders which are still operated by anumber of Member States.
1115 tax
jurisdictions inthe InternalMarket lie at theroot of theobstacles./g183 Most of these problems stem from the fact that companies in the EU
need to comply with up to fifteen different sets of rules . Taking into
account that these companies increasingly target the EU as one
market , this conflicts with economically efficient business plans and
structures. The multiplicity of tax laws, conventions and practicesentails substantial compliance costs and represents in itself a barrierto cross-border economic activity.
Both targeted and
comprehensivesolutions arenecessary toovercome theseobstacles.There are two types of solutions for removing the company tax obstacles
to the Internal Market, those targeted at particular obstacles and thosewhich in a comprehensive manner remedy all or most of the obstacles 'ata stroke'. They all aim to eliminat e the risk of double taxation and tax
charges on cross-border re-structuring and to reduce compliance costsand legal uncertainty. They all have specific advantages anddisadvantages.
In the Commission's opinion only a two-track strategy  provides a
realistic prospect of removing the obs tacles and hence ensuring that the
full potential of the Internal Market is realised and the Lisbon objectivesachieved.
/g183 Targeted measures will help to address the most urgent problems in
the short- and mid-term.
/g183 A comprehensive solution under which companies can operate one
consolidated corporate tax base for their EU wide activities willprovide a systematic a nd longer term solution.
Targeted actions
in specific areasare necessary asa first step.A comprehensive solution will provide a better and more definitive
response to the current problems but  it still requires further technical
work before making specific proposal s. The targeted remedial measures
are in any event needed in the short term to improve the existing body ofEU legislation on company taxation a nd to ensure, via appropriate soft-
law initiatives and collaboration with all stakeholders, that these areevenly applied. Some targeted measures such as action on double taxationtreaty problems can, at the same time, be preparatory steps for a
comprehensive scheme , others will continue to be necessary (e.g. those
addressing cross-border restructur ing operations). The focus in the
immediate future will thus be the improvement of the current rules andtheir application.
12Targeted measures
The Commission
will, in concertwith MemberStates, developguidance on theimpact of ECJcase law.The study identifies a need to deve lop a more general understanding of
the impact of important rulings by the European Court of Justice (ECJ) onMember States' company tax rule s and double taxation treaties. The
Commission considers that the publication of guidance in this area wouldbe helpful not only to Member States  but also to businesses and national
courts. Such guidance would facilitate compliance with the Treaty andmake a significant contribution to the removal of tax obstacles to theInternal Market. It should, to the la rgest extent possible, involve the
European Parliament through the existing mechanisms for theconsultation of  Parliament.
→ The Commission proposes to develop guidance on important ECJ
rulings  and to co-ordinate, via ap propriate Communications from
the Commission, the implementation of these. It will therefore
continue and expand its progra mme of meetings with Member
States that started in 2001.
The Commission
will propose toextend andimprove theexisting directtaxationdirectives.
The Commission
will issueguidance on themost importantimplementationissues.The Parent-Subsidiary and Merger Directives are widely recognised as
having played a major role in re moving tax obstacles for groups of
companies with the EU. The Commissi on has already presented proposals
for amendment of the directives in 1993 [COM(93)293]. The study showsthat there are various ways in which the Directives could be extended andimproved so as to cover a wider range of companies, taxes and
transactions. In particular, the Dir ectives' scope should include all entities
subject to company tax and especially the companies which will in futurebe run under the European Company Statute ( Societas Europeae - SE).
The Parent-Subsidiary directive needs to be amended to cover both direct
and indirect shareholdings. Alternatively a lower minimum holdingthreshold would have a similar remedial effect. Where the mergerdirective applies, specific transfer taxes arising on cross-borderrestructuring operations (notably  on immovable property) should be
included in the Capital Duty Di rective [69/335/EEC and 85/303/EEC].
Moreover, the scope of these and cer tain existing important provisions in
the directives needs further clarification.
→ The Commission will give priority to tabling the necessary
amendments to the existing proposals for extension of the Merger
Directive and the Paren t-Subsidiary Directive in 2003, following
technical consultations with Memb er States in the course of 2002.
→ At the same time, the Commission will issue detailed guidance  on
how it considers those provisions, notably those concerning
avoidance and abuse, should be implemented.
An innovative
solution is neededon cross-borderThe problem of cross-border loss offset is at the same time one of the
most important issues for industry and yet the most difficult to addressthrough specific measures. The stud y has examined two rather different
13loss offset.
The Commission
will in any eventwithdraw itscurrent proposalfor a directive inthis field.targeted measures which would lead to the following alternative results:
/g183 An amended version of the existing Commission proposal
[COM(90)595] in this area. This would allow parent companies totake into account the losses incurred by both permanentestablishments and subsidiaries s ituated in another Member State.
/g183 A more complete scheme for the c onsolidation of group income along
the lines of the Danish joint taxation system  which in certain cases
enables Danish parent companies and in addition to their branchesalso their foreign subsidiaries to be taxed jointly in Denmark, therebyenabling the parent to take into account losses incurred by foreign
subsidiaries (and branches). This would attempt to achieve a greatersymmetry between the taxation of pr ofits and the offset of losses.
Given that Member States have been reluctant to consider any EU
initiative in this area, a new round of technical preparatory meetings
are required before any action can be reasonably launched. Thediscussions will have to  take into account that the issue of loss-
compensation and possible group consolid ation is intimately linked to the
comprehensive solutions which are discussed further below.
→ The Commission will withdraw its old proposal for a directive
concerning cross-border loss-offs et and, starting in 2002, convene
consultative meetings with Member States on the technical
possibilities for taking this issue further. In parallel to the progress
on more comprehensive solutions it will in particular examine the
Danish model and report on its legislative intentions in this area
before the end of 2003.
There are
effective meansfor avoiding orremoving doubletaxation resultingfrom transferpricing.
Advance Pricing
Agreements andco-ordinationamong MemberStates andbetween MemberStates andbusinesses shouldbe encouraged.
The ArbitrationThe obstacles and problems identified concerning the taxation of intra-
group transactions (transfer pricing) are varied in nature but all are
increasingly important and call for urgent action. The Commissionconsiders it important to take into account the leg itimate concerns of tax
administrations and businesses and to develop commonly accepted
practices  in this field. This can be achieved through a dialogue at EU
level .
For instance, the Commission wishes to encourage Member States to
introduce or expand bilateral or multilateral Advance Pricing
Agreement  programmes. It also suggests better co-ordination between
Member States of documentation requirements  and of the application
of the various methods . Such co-ordination should build upon and
complement the OECD activities in this field. All this would reduce thecompliance costs and the uncertainty relating to transfer pricing.
Other areas require a more trad itional solution. The Arbitration
Convention (the prolongation of whic h currently still awaits ratification
in all Member States) has been in place for many years but its applicationstill gives rise to numerous problems. Given the importance of theseproblems and the unique character of the Arbitration Convention , the
14Convention must
be improved andturned into aninstrument of EUlaw.Commission recognises its improvement as a priority issue. The
shortcomings of the Convention mu st be removed and its provisions
should be made subject to interpre tation by the Court, preferably by
turning it into an instrument of Community law. Moreover, subject tosafeguards to prevent aggressive tax planning, a framework should beestablished for prior agreement betw een the tax administrations involved
or at least consultation before tax administrations enforce transfer pricingadjustments.
→ The Commission will in the first half of 2002 convene a standing
'Joint Forum on Transfer Pricing'  with Member States and
business representatives in order to
- examine the issues which can be  addressed without legislative
initiatives, e.g. develop and exchange best practice on Advance
Pricing Agreements and do cumentation requirements,
- consider the scope for improving and rendering more uniform
transfer pricing methodologies within the OECD guidelines,
- examine necessary improvements to the Arbitration Convention
with a view to presenting a fo rmal proposal for a Directive in
2003, thus turning it into an instrument of Community
legislation.
→ The Commission will determine the nature of further initiatives in
the light of the discussions in the Forum, having regard inter alia  to
the expiry of the present Arbitration Convention in 2005.
A common
approach todouble-taxationtreaty issues willhelp to overcomethe currentcomplexities.
The Commission
believes in theperspective of anEU version of theOECD modelconvention.While evidently those Member States concerned must complete their
network of double taxati on treaties with the other Member States, no
other specific action offe rs itself as "obvious" solution to the complex
problems relating to EU double taxation treaty issues. The Commissionconsiders, however, that the current tax treaties of Memb er States should
be improved in order to comply better with the principles of the InternalMarket enshrined in the EU Treaty and that better co-ordination  of
treaty policy in relation to third count ries is necessary. Moreover, there is
a compelling need for binding arbitration where conflicts arise betweentreaty partners in the interpretation and application of a treaty, leading topossible double taxation or non-taxation.
In the Commission's opinion the most promising way forward towards
achieving these objectives in a coherent way is, in the long term, to agreean EU version of the OECD model convention  and commentary  (or of
certain articles) which meet the specific requirements of EU membership.This would leave intact the existing bilateral system. Clearly, such anexercise requires careful preparatory technical work in concert withMember States.
15→ The Commission intends, following technical discussions with
Member States, to come forward in 2004 with a communication  on
the need to adapt certain provisions of double taxation
conventions  based on the OECD model to comply with Treaty
principles . This will constitute a first step towards the possible
elaboration of an EU model tax treaty.
Obviously, the Community and its Member States should at the same
time continue to support the OECD work both in the area of transferpricing and concerning  double taxation treaties.
Small and
medium-sizedenterprises mustbe taken intoaccount.It should be noted that none of these possible remedies is geared
specifically towards larger or small- and medium-sized enterprises.However, it follows from the nature of the problems and their effects thatinternationally active small and medium-sized enterprises will also
benefit from the removal of the tax obstacles. Generally, there are good
reasons to grant small and medium -sized enterprises proportionate
simplification and standardisation arrangements for reducing their taxcompliance cost. Depending on the type of measure such initiatives areeither appropriate at na tional level or should, as for instance currently in
the area of VAT, explicitly be supported on EU level.
5. P
ROVIDING COMPANIES WITH A CONSOLIDATED CORPORATE TAX BASE FOR THEIR
EU- WIDE ACTIVITIES
The need for a comprehensive approach
Only a
consolidatedcorporate taxbase for the EU-wide activities ofbusinessesultimatelyprovides ananswer to thechallenges ofcompany tax
systems in the EU
today.The above targeted solutions would go some way towards remedying the
tax obstacles. However, even if all of them were implemented, theywould not address the underlying problem of dealing with up to 15different tax systems. Only providing multinational companies with aconsolidated corporate tax base  for their EU-wide activities will really,
through a single framework of company taxation,  systematically tackle
the majority of the tax obstacles to cross-border economic activity in theSingle Market. Companies with cross-border and international activitieswithin the EU should in future be allowed to
/g183 compute the income of the entire group according to one set of rules
and
/g183 establish consolidated accounts for tax purposes (thus eliminating the
potential tax effects of purely intern al transactions within the group).
It is important to note that this a pproach does not infringe Member States'
sovereignty to set corporate tax rates.  They would apply their national tax
rate to their specific share of the overall tax base as computed accordingto a commonly agreed allocation mechanism.
16A consolidated corporate ta x base for the EU-wide activities of companies is the only means which will
/g183 significantly reduce the compliance costs resulting from the need to deal with 15 tax systems within the
Internal Market;
/g183 do away, within the EU, with transfer pricing problems;
/g183 allow for the offsetting and comprehensive consolidation of profits and losses on an EU basis;
/g183 simplify many international restructuring operations;
/g183 reduce, without extending into the personal tax field, some of the complexities arising from the co-existence
of the classical and exemption approaches to international taxation;
/g183 avoid many situations of double taxation and
/g183 remove many discriminatory situations and restrictions.
A consolidated
corporate taxbase will improvecompany taxsystems in the EUin economicterms.A consolidated corporate tax base for the EU-wide activities of
companies would contribute to greater efficiency, effectiveness,
simplicity and transparency  in company tax systems and remove the
hiatuses between national system s which provide fertile ground for
avoidance and abuse. It would reduce compliance costs, allow the EU toreap the full benefits of the Internal Market, thus increase thecompetitiveness of EU business and la y the foundations for achieving the
goals set by the Lisbon European Council.
The Commission therefore believes it is only logical to steer its company
taxation policy towards achiev ing a comprehensive solution  to the
existing cross border tax obstacles in the Internal Market. Future workshould be directed towards how to ac hieve the objective of a consolidated
corporate tax base with cross border loss relief, and how best to design
and agree on the necessary allocation mechanism.
→ The Commission believes that it is necessary to
- provide companies with a cons olidated corporate tax base
for their EU-wide activities;
- develop an appropriate apportionment mechanism which
can be agreed by all participants ;
- and, for Member States, to determine the applicable
national corporate tax rates.
Possible comprehensive appr oaches and technicalities
There are
differenttechnical meansfor achieving aconsolidatedcorporate taxbase.The Commission services study has identified various technical
possibilities  for providing companies with the necessary consolidated tax
base for their EU-wide activities ("Home State Taxation"; "Common(Consolidated) Base Taxation"; "European Corporate Income Tax";"harmonised single tax base in th e EU"). The approaches essentially
differ in the degree of ambition they  show towards a harmonisation of the
tax base in the EU, the level of change required for their implementationand the political circumstances of  their possible introduction. The
approaches are summarised in the attached Executive Summary. All of
17these approaches
/g183 have particular advant ages and disadvantages;
/g183 could provide a tax solution for the European Company Statute
(Societas Europeae - SE);
/g183 still raise technical difficulties, notably concerning the application of
double-taxation treaties;
/g183 would require the development of an agreed mechanism for allocating
the consolidated corporate tax base to the various Member States;
/g183 in short : require further analysis . As the study shows, it is not
possible to present and implement a particular technical solution now.
Consolidation on
an EU-wide basisis the key feature.
Member States
decide theapplicablecorporate taxrates.By definition, an essential element of all the solutions is that there is
group consolidation on an EU-wide basis. Currently not all Member
States apply that principle even at  the domestic level and only two, under
relatively restrictive conditions, at the international level. Under allapproaches Member States would retain the right to set company tax rateswhich the quantitative analysis found was the most important factor in
determining the effective tax rate. This essential sphere of nationalcompetence in the area of company taxation would – intentionally –remain untouched and Member States  would be left with the autonomy
to adjust the most important element for tax revenues. The introduction ofa single or common tax base could lead to some Member States adaptingtheir tax rates to reflect changes in th e tax base, but this would be for each
Member State to decide.
Good prospects for practical progress
Enhanced co-
operation canhelp to advance.In theory all the comprehensive approaches could be designed such that
not all Member States would have to participate. It is important to note
that the Treaty of Nice highlighted the possibility for enhanced co-operation by a group of Member States where agreement by all 15 is notpossible, although the full benefits  available under a comprehensive
approach will only be realised if all Member States participate.Nevertheless, this may be particularly appropriate for Home State
Taxation, which presupposes the partic ipation solely of Member States
with a fairly similar tax base. However, a group of Member States  could
equally take advantage of this mechanism provided by the Treaty in orderto introduce any of the other comprehensive approaches. In any event, inline with the principles agreed at th e Nice European Council, the recourse
to this instrument must not, among other things, undermine the InternalMarket, constitute a barrier to or a discrimination of trade, distort theconditions of competition, or affe ct the competences, rights and
obligations of the non-par ticipating Member States.
Tax
administrationswill also gainsubstantialIt should be noted that it is not just companies who suffer from excessive
compliance costs, tax administrations incur high costs as well. The areaof transfer pricing is one such example. Moreover, the co-existence of 15company tax systems in one Internal Market creates considerable scope
18benefits. for tax evasion and tax avoidance. Accordingly, any remedial measures
will also to some extent benefit the efficiency and effectiveness of tax
administrations . As all the remedial measures, targeted or
comprehensive, call for more mutual assistance and administrative co-operation between Member States this will ensure that tax audits continueand indeed should become more effec tive. This will also help to make
sure that none of the remedies under consideration results in tax evasion.
To some extent,
the IAS may serveas a startingpoint fordeveloping acommon tax base.Moreover, it is noteworthy that, after the (currently outstanding) adoption
of an appropriate Commission proposal  for a regulation by the European
Parliament and C ouncil [COM(2001)80], as from 2005 listed EU
companies will have to prepare their consolidated accounts in accordancewith International Accounting Standards. The increasing integration offinancial markets and the creation of  pan-European stock exchanges can
be expected to accelerate accounting harmonisation even further.Although not directly related to taxa tion, this development may generally
help the future development of a co mmon corporate tax base and to some
extent the IAS may serve as a useful point of reference.
The European Company Stat ute (Societas Europeae - SE)
A consolidated
corporate taxbase is verypromising for theEuropeanCompany Statute.The agreement on the European Company Statute at the European
Council of Nice in December 2000 underlines the urgency of thesituation. After the formal adoption of the appropriate legislative acts (i.e.
the amended proposals for a Council Regulation (EEC) on the Statute for
a European Company [COM(91)174] and for a Directive [COM(91)174]complementing the Statute for a European Company with regard to theinvolvement of employees) this new legal form will become available for
companies in the course of 2004. By that date, the current and future
body of EU company tax legislation, such as the Parent/subsidiary andMerger Directives, must be made av ailable to companies that choose this
new legal form.
However, this might not be sufficient to make the Statute an attractive
company law vehicle. The full benefits  of establishing a European
Company (SE) will only be achieved if existing companies can form suchan entity without incurring additional tax set up costs, and avoid some of
the existing tax obstacles of operating in more than one Member State. Asthings stand neither of these ar e provided for and its success could
therefore be jeopardised. The concept of the European Company Statuteis closely linked to that of a co mmon company taxation system. The work
on the technicalities that are necessary for providing companies with aconsolidated corporate tax base for their EU-wide activities will thereforebe particularly beneficial for fu ture SEs, and an appropriate ‘ pilot
project ’ might usefully be introduced for such companies.
19→ The Commission intends to make sure that the current body of EU
company tax law will be fully applicable to companies formed
under the European Company Statute  as from 2004. At the same
time, it will – in parallel to the other work in this area - explore the
particular potential of a comprehensive company tax regime and of
a consolidated corporate tax base for the EU-wide activities of
companies to be applied to SEs.
Stimulating a broad debate
Only a high level
of support willmake theconsolidatedcorporate taxbase the successnecessary forachieving theLisbon goals.The Commission’s endorsement of the fundamental concept of a common
company taxation system in the form of a consolidated corporate tax basefor the Internal Market as the most promising way to increase efficiencyand company competitiveness is a major development. Notwithstandingthe possibilities provided by enhanced co-operation and/or theintroduction of Home State Taxati on by a group of Member States
change of this order is a major undertaking. It requires a high level ofsupport from a wide range of interest ed parties and operational decisions
on possibly taking a comprehensive approach forward can only beassessed in the light of Member Stat es’ reactions to this Communication.
The Commission therefore believes th at the first step should be a
structured dialogue involving all stakeholders: Member States and
candidate countries, business representatives and economicoperators, senior tax professional s and academics, as well as the
social partners . This will take place in the Council, in the European
Parliament and in the Economic and Social Committee but as theCommission recognises the need to widen the institutional debate itwishes to involve other specific fora . The purpose is twofold. First, to
present this Communication and rais e awareness that, without action on
company taxation systems, the Internal Market will not provide the fullpotential economic benefits it coul d and that the Community and its
citizens therefore risk foregoing potential growth, employment andwelfare. Second, to ensure support for the necessary further analysis and
development of one or more of the approaches outlined so thatimplementation could be  formally proposed.
→ The Commission will therefore, in th e first half of 2002, organise a
European Company Tax Conference in conjunction with the
Presidency for high level government representatives from EU
Member States and candidate c ountries, business leaders, economic
operators, senior tax professionals, social partners and academics
on the future of company taxation in the Internal Market. The
objectives will be:
- to provide a forum for the presentation of the various
comprehensive approaches,
- to foster discussion betw een the parties involved,
20- to assist the Commission in determining the best way forward
with the project.
After the conference and the followi ng broader debate in the EU the
Commission intends to report on its  subsequent policy conclusions
by 2003.
6. W AY FORWARD AND CONCLUSION
The Commission
proposes astrategy foraction forachieving aconsolidatedcorporate taxbase for the EU-wide activities ofcompanies.A number of specific and general m easures in the field of company
taxation have been identified in this Communication and the Commissionproposes a two track strategy  directed towards:
/g183 Immediate action on targeted measures
/g183 And, at the same time, the launch  of a wider debate on general
comprehensive measures
with the objective  of
/g183 providing EU businesses with a cons olidated corporate tax base for
their EU-wide activities.
21The Commission will:
– provide guidance on and co-ordinate, via appropriate Communications from the
Commission, the implementation of jurisprudence by the European Court of Justice;
– step up its efforts of monitoring the implementation of EU tax law by Member States and
work together with Member States towards common guidance notes in this field;
– amend its existing proposals for extension of the Merger Directive and the Parent
Subsidiary-Directive with a view to broade ning the scope and the coverage of both
individual taxes and types of transactions;
– withdraw its old proposal for a directive concerning cross-border loss-offset with a view to
its replacement after technical discussions with Member States and other stakeholders;
– present a proposal for a Directive with a view to renewing and improving the Arbitration
Convention;
– establish an 'EU Joint Forum on Transfer Pricing';
– prepare for a Communication on the issue of double taxation conventions of Member States
with a view to the eventual conclusion of either a multilateral convention or an agreed EU
model;
– insist that the current body of EU company tax law will be fully applicable to companies
formed under the European Company Statute as from 2004. At the same time, it will – in
parallel to the other work in this area - explore the particular potential of a comprehensive
company tax regime and of a consolidated corporate tax base for the EU-wide activities of
companies to be applied to SEs.
– launch a broad debate on the future of company taxation in the Internal Market and the need
for fundamental reform to achieve the EU obje ctives of becoming the most competitive and
dynamic knowledge-based economy in the world as agreed at the Lisbon European Council
June 1999. In this context, the Commission will undertake to organise a European Company
Tax Conference in conjunction with the Presidency for high level government
representatives from EU Member States and candidate countries, business leaders, economic
operators, senior tax professionals, the social partners and academics on the future of
company taxation in the Internal Market. The objectives will be:
– to provide a forum for the presentation of the various comprehensive
approaches
– to foster discussion between the parties involved
– to assist the Commission in determining the best way forward with the project.
After the conference and the following broader debate in the EU the Commission intends to
report on its subsequent policy conclusions by 2003.
22Table 1 Cost of Capital and Effective Marginal Tax Rate by country, years 1999 and
2001
Table 2 Effective Average Tax Rate by country, years 1999 and 2001
Table 3 Effective Average Tax Rate when the subsidiary is financed with retained
earnings, year 1999Table 4 Effective Average Tax Rate when the subsidiary is financed with new equity,
year 1999Table 5 Effective Average Tax Rate when the subsidiary is financed with debt, year
1999
23Table 1 Cost of Capital and Effective Marg inal Tax Rate by country, years 1999 and 2001
-by asset, source of finance and overall-only corporation taxes
2001 1999 C OST OF CAPITAL
1999EMTR
1999
Country
 Corporate
tax rates (1)
Cost of
Capital
EMTR
Corporate
tax rates (1)
Cost of
Capital
EMTR
Intangibles
Industrial
Buildings
Machinery
Financial
Assets
Inventories
Retained
earnings
New equity
Debt
Retained
earnings
New equity
Debt
Austria 34.00 5.7 12.6 34.00 6.3 20.9 5.9 6.1 5.9 7.3 6.3 7.5 7.5 4.0 33.3 33.3 -25.0
Belgium 40.17 6.4 22.4 40.17 6.4 22.4 5.2 7.0 5.3 8.0 6.7 8.0 8.0 3.5 37.5 37.5 -42.9
Germany 39.35 6.8 26.1 52.35 7.3 31.0 5.4 7.2 5.8 10.0 7.9 9.7 7.6 3.2 48.4 35.5 -56.2
Denmark 30.00 6.4 21.6 32.00 6.4 21.9 4.2 8.1 5.4 7.1 7.1 7.5 7.5 4.4 33.3 33.3 -13.6
Spain 35.00 6.5 22.8 35.00 6.5 22.8 6.5 6.7 5.4 7.4 6.4 7.7 7.7 4.1 35.1 35.1 -21.9
Greece 37.50 6.0 16.9 40.00 6.1 18.2 6.8 5.1 6.1 5.1 7.4 7.6 7.6 3.4 34.2 34.2 -47.1
France 36.43 7.3 31.8 40.00 7.5 33.2 5.2 8.5 8.4 8.0 7.4 9.0 9.0 4.6 44.4 44.4 -8.7
Finland 29.00 6.4 21.3 28.00 6.2 19.9 6.1 6.1 5.6 6.8 6.8 7.2 7.2 4.5 30.5 30.5 -11.1
Italy 40.25 (2) 4.3 -15.9 41.25 (2) 4.8 -4.1 2.9 4.6 3.8 7.7 5.0 5.5 5.5 3.6 10.0 10.0 -38.9
Ireland 10.00 5.7 11.7 10.00 5.7 11.7 5.3 6.8 5.2 5.5 5.5 5.9 5.9 5.2 15.2 15.2 3.8
Luxembourg 37.45 6.3 20.7 37.45 6.3 20.7 5.2 6.8 5.3 7.7 6.5 7.7 7.7 3.7 35.1 35.1 -35.1
Netherlands 35.00 6.5 22.7 35.00 6.5 22.6 5.1 6.9 5.9 7.4 6.9 7.7 7.7 4.1 35.1 35.1 -21.9
Portugal 35.20 6.3 21.0 37.40 6.5 22.5 6.7 6.2 5.2 7.7 6.5 7.9 7.9 3.9 36.7 36.7 -28.2
Sweden 28.00 5.8 14.3 28.00 5.8 14.3 5.0 6.0 5.0 6.6 6.6 6.7 6.7 4.3 25.4 25.4 -39.5
UK 30.00 6.7 24.8 30.00 6.6 24.7 5.5 8.2 5.6 6.9 6.9 7.7 7.7 4.8 35.1 35.1 -25.0
Note. Each asset column represents an aver age across all three types of finance, with weights of 55% retained earnings, 10% new  equity and 35% debt. Each finance column represents an
unweighted average across all 5 assets. The overall average is an  average across all 15 types of investment, with the same weig hts.
(1) including surcharges and local taxes(2) Under the Italian “dual income” system, the statutory corporate tax rate of 36 % in 2001 and 37 % in 1999 (net of surcharge s and local taxes) is reduced to 19 % in certain cases. In the
above marginal case this lower rate applies, except to debt where the higher rate applies.
24Table 2 Effective Average Tax Rate by country, years 1999 and 2001
- by asset, source of finance and overall
- only corporation taxes
EFFECTIVE AVERAGE TAX RATES
1999 1999 Country
Corporate
tax rates (1) 2001
 Overall
Mean
2001
Corporatetax rates
(1) 1999
Overall
Mean
1999
Intangibles
Industrial
Buildin gs
Machinery
Financial
Assets
Inventories
Retained
earnin gs
New equity
Debt
Austria 34.00 27.9 34.00 29.8 28.6 29.2 28.4 33.2 29.9 33.9 33.9 22.3
Belgium 40.17 34.5 40.17 34.5 30.7 36.1 31.0 39.2 35.3 39.1 39.1 25.8
Germany 39.35 34.9 52.35 39.1 33.9 39.0 34.9 46.8 40.8 46.1 40.1 27.7
Denmark 30.00 27.3 32.00 28.8 21.3 34.7 25.3 31.2 31.2 32.3 32.3 22.1
Spain 35.00 31.0 35.00 31.0 31.1 31.8 27.4 34.2 30.7 35.2 35.2 23.3
Greece 37.50 28.0 40.00 29.6 35.5 30.4 33.4 11.6 37.1 34.4 34.4 20.8
France 36.43 34.7 40.00 37.5 30.6 40.6 40.1 39.0 37.1 42.1 42.1 28.8
Finland 29.00 26.6 28.00 25.5 24.8 24.8 23.1 27.3 27.3 28.8 28.8 19.3
Italy 40.25 27.6 41.25 29.8 24.9 29.8 27.4 36.1 31.1 31.8 31.8 26.1
Ireland 10.00 10.5 10.00 10.5 8.9 15.8 8.2 9.8 9.8 11.7 11.7 8.2
Luxembourg 37.45 32.2 37.45 32.2 28.6 33.7 29.2 36.6 32.9 36.6 36.6 24.0
Netherlands 35.00 31.0 35.00 31.0 26.7 32.4 29.2 34.2 32.5 35.1 35.1 23.3
Portugal 35.20 37.0 37.40 32.6 33.2 31.8 28.6 36.5 32.8 37.0 37.0 24.5
Sweden 28.00 22.9 28.00 22.9 19.6 23.4 19.7 25.7 25.7 26.0 26.0 17.1
UK 30.00 28.3 30.00 28.2 24.2 33.7 24.7 29.3 29.3 31.8 31.8 21.6
Note. Each asset column represents an average acro ss all three types of fina nce, with weights of 55%
retained earnings, 10% new equity and 35% debt. Each  finance column represents an unweighted average
across all 5 assets. The overall average is an average across all 15 types of investment, with the sameweights.(1) Including surcharges and local taxes
25Table 3 Effective Average Tax Rate when the subsidiary is financed  with retained earnings, year 1999
- only corporation taxes; weig hted average of parent finance
EATR
%
to
Austria
Belgium
Denmark
Finland
France
Germany
Greece
Ireland
Italy
Luxembourg
Netherlands
Portugal
Spain
Sweden
United
Kingdom
Mean
from
Austria (33.9) * 39.1 32.3 28.8 42.1 46.1 34.4 11.7 31.8 36.6 35.1 37.0 35.2 26.0 31.8 33.4
Belgium 29.9 (39.1) 28.7 25.0 38.1 42.1 30.4 8.1 28.0 32.6 31.2 33.0 31.2 22.2 27.9 29.2
Germany 20.1 26.4 18.8 14.3 29.8 (46.1) 25.4 -5.7 17.9 23.4 21.6 23.8 21.7 11.0 17.7 19.0
Denmark 30.1 35.4 (32.3) 25.0 38.4 42.4 30.6 7.8 28.1 32.8 31.3 33.2 31.4 22.2 28.0 29.8
Spain 29.7 35.1 28.4 24.6 38.1 42.1 30.2 7.4 27.8 32.5 31.0 32.9 (35.2) 21.8 27.6 29.2
Greece 32.9 34.5 32.9 31.8 37.5 41.5 (34.4) 27.9 27.5 33.4 33.5 33.9 33.5 30.3 33.2 33.2
France 29.5 34.8 28.3 24.5 (42.1) 41.8 30.0 7.5 27.6 32.3 30.8 32.7 30.8 21.7 27.5 28.6
Finland 30.6 35.9 29.2 (28.8) 38.9 42.9 31.0 8.3 28.6 33.3 31.8 33.7 31.9 22.7 28.5 30.5
Italy 30.3 35.5 29.0 25.3 38.4 42.4 30.7 8.4 (31.8) 32.9 31.5 33.3 31.5 22.5 28.2 30.0
Ireland 32.7 38.0 31.2 27.6 41.0 45.0 33.2 (11.7) 30.7 35.4 34.0 35.8 34.0 24.8 30.6 33.8
Luxembourg 29.4 34.8 28.2 24.4 37.8 41.8 29.9 7.1 27.5 (36.6) 30.7 32.6 30.7 21.6 27.3 28.8
Netherlands 33.9 39.1 32.3 28.8 42.1 46.1 34.4 11.7 31.8 36.6 (35.1) 37.0 35.2 26.0 31.8 33.3
Portugal 30.2 35.5 29.0 25.2 38.4 42.3 30.7 8.3 28.3 32.9 31.4 (37.0) 31.5 22.5 28.2 29.6
Sweden 30.8 36.1 29.4 25.7 39.1 43.1 31.2 8.5 28.8 33.5 32.0 33.9 32.1 (26.0) 28.7 30.9
UK 30.3 35.6 29.0 26.5 38.6 42.7 32.9 22.1 28.3 33.1 31.6 33.5 31.6 24.8 (31.8) 31.5
Canada 40.1 44.5 32.3 33.4 43.8 50.4 34.4 11.7 38.3 38.5 37.1 48.4 41.2 28.4 31.8 37.0
USA 31.8 36.9 30.3 29.1 39.7 43.5 33.0 25.0 29.9 34.4 33.0 38.6 35.0 27.6 30.7 33.2
Mean 30.0 35.4 29.0 25.5 38.4 43.0 31.1 9.9 28.0 32.9 31.2 33.3 31.6 22.9 28.4 30.1
 * The data into parenthesis represent the co rresponding domestic effective average tax rates
26Table 4 Effective Average Tax Rate  when the subsidiary is fina nced with new equity, year 1999
- only corporation taxes; weig hted average of parent finance
EATR
%
to
Austria
Belgium
Denmark
Finland
France
Germany
Greece
Ireland
Italy
Luxembourg
Netherlands
Portugal
Spain
Sweden
United
Kingdom
Mean
from
Austria (33.9)** 39.1 32.3 28.8 42.1 40.1 34.4 11.7 31.8 36.6 35.1 37.0 35.2 26.0 31.8 33.0
Belgium 30.6 (39.1) 29.3 25.6 38.8 36.9 31.1 8.8 28.7 33.3 31.9 33.7 31.9 22.9 28.6 29.4
German y 21.0 27.2 19.6 15.1 30.7 (40.1) 29.2 -4.8 18.7 24.2 22.4 24.7 22.5 11.9 18.6 20.1
Denmar k 30.1 35.4 (32.3) 25.0 38.4 36.4 30.6 7.8 28.1 32.8 31.3 33.2 31.4 22.2 28.0 29.3
Spain 29.7 35.1 28.4 24.6 38.1 36.1 30.2 7.4 27.8 32.5 31.0 32.9 (35.2) 21.8 27.6 28.8
Greece 36.0 34.5 36.6 37.4 37.5 35.5 (34.4) 39.5 27.8 34.8 36.1 35.3 36.1 36.6 38.0 35.8
France 29.9 35.2 28.6 24.9 (42.1) 36.2 30.4 7.8 27.9 32.6 31.1 33.0 31.2 22.1 27.8 28.5
Finlan d 30.6 35.9 29.2 (28.8) 38.9 36.9 31.0 8.3 28.6 33.3 31.8 33.7 31.9 22.7 28.5 30.1
Italy 30.9 36.1 29.6 25.9 39.0 37.1 31.4 9.0 (31.8) 33.6 32.1 34.0 32.2 23.1 28.8 30.2
Irelan d 32.7 38.0 31.2 27.6 41.0 39.0 33.2 (11.7) 30.7 35.4 34.0 35.8 34.0 24.8 30.6 33.4
Luxembour g 33.9 39.1 32.3 28.8 42.1 40.1 34.4 11.7 31.8 (36.6) 35.1 37.0 35.2 26.0 31.8 32.8
Netherlands 33.9 39.1 32.3 28.8 42.1 40.1 34.4 11.7 31.8 36.6 (35.1) 37.0 35.2 26.0 31.8 32.9
Portu gal 30.8 36.1 29.6 25.9 39.0 37.1 31.3 9.0 28.9 33.5 32.1 (37.0) 32.1 23.1 28.8 29.8
Sweden 30.8 36.1 29.4 25.7 39.1 37.1 31.2 8.5 28.8 33.5 32.0 33.9 32.1 (26.0) 28.7 30.5
UK 30.3 35.6 29.0 27.5 38.6 36.7 34.1 29.8 28.3 33.1 31.6 33.5 31.6 26.5 (31.8) 31.9
Canada 45.2 49.5 32.3 36.8 45.4 50.3 34.4 11.7 43.3 40.2 38.8 58.4 46.2 30.1 31.8 39.6
USA 33.5 38.5 31.7 32.4 41.4 39.5 34.6 34.7 31.6 36.1 34.7 43.6 38.4 31.5 33.1 35.7
Mean 30.8 35.9 29.8 26.5 39.0 37.5 31.9 11.9 28.6 33.3 32.0 33.9 32.3 24.0 29.2 30.4
* The data into parenthesis represent the corresponding domestic effective average tax rates
27Table 5 Effective Average Tax Rate when the s ubsidiary is financed with debt, year 1999
- only corporation taxes; weig hted average of parent finance
EATR
%
to
Austria
Belgium
Denmark
Finland
France
Germany
Greece
Ireland
Italy
Luxembourg
Netherlands
Portugal
Spain
Sweden
United
Kingdom
Mean
from
Austria (22.3) * 33.1 29.2 26.8 36.2 35.0 28.3 15.9 33.5 31.4 30.8 31.9 30.8 24.5 29.1 29.7
Belgium 32.3 (25.8) 31.5 29.3 38.4 37.3 30.7 18.6 35.8 33.8 33.2 34.2 33.2 27.0 31.5 31.9
Germany 27.8 31.5 26.7 24.3 35.0 (27.7) 31.9 11.7 31.9 29.6 28.9 30.1 28.9 21.6 26.9 27.6
Denmark 29.4 32.7 (22.1) 26.4 35.7 34.6 27.9 15.4 33.1 31.0 30.3 31.4 30.4 24.1 28.7 29.4
Spain 30.1 33.3 29.4 27.0 36.4 35.2 28.5 16.1 33.7 31.6 31.0 32.1 (23.3) 24.7 29.3 29.9
Greece 36.0 34.4 36.6 37.4 37.5 36.3 (20.8) 39.5 35.2 34.8 36.1 35.3 36.1 36.6 38.0 36.4
France 31.7 34.9 31.0 28.7 (28.8) 36.8 30.2 17.9 35.3 33.2 32.6 33.7 32.7 26.4 31.0 31.1
Finland 28.5 31.8 27.9 (19.3) 34.9 33.7 27.0 14.5 32.2 30.1 29.4 30.6 29.5 23.2 27.8 28.7
Italy 31.5 34.7 30.8 28.5 37.7 36.5 30.0 17.8 (26.1) 33.0 32.4 33.4 32.4 26.3 30.8 31.1
Ireland 24.5 29.6 24.2 21.5 31.0 29.9 26.4 (8.2) 28.3 26.2 25.5 28.3 25.5 19.3 23.8 26.0
Luxembourg 30.6 33.9 29.9 27.6 36.9 35.7 29.1 16.7 34.2 (24.0) 31.5 32.6 31.6 25.3 29.9 30.4
Netherlands 30.1 33.3 29.4 27.0 36.4 35.2 28.5 16.1 33.7 31.6 (23.3) 32.1 31.0 24.7 29.3 29.9
Portugal 31.6 34.8 30.9 28.6 37.8 36.6 30.1 17.9 35.1 33.1 32.5 (24.5) 32.5 26.4 30.9 31.3
Sweden 28.2 31.5 27.6 25.1 34.5 33.4 26.6 14.2 31.8 29.8 29.1 30.2 29.1 (17.1) 27.4 28.5
UK 29.0 32.3 28.3 27.5 35.3 34.1 30.0 29.8 32.6 30.6 29.9 31.0 29.9 26.5 (21.6) 30.5
Canada 40.1 42.8 31.4 34.7 40.8 44.4 30.6 18.3 43.1 36.3 35.7 49.3 40.9 29.7 31.4 36.6
USA 32.7 35.8 31.7 32.4 38.7 37.6 31.9 34.7 36.2 34.2 33.6 39.7 36.2 31.5 33.1 34.7
Mean 30.1 33.0 29.5 27.5 36.0 35.0 28.9 18.7 33.3 31.4 30.9 31.9 31.0 25.5 29.6 30.2
* The data into parenthesis re present the corres pondin g domestic effective avera ge tax rates
28Annex
Executive Summary of the Commission Services Study on
"COMPANY TAXATION IN THE INTERNAL MARKET "
 [SEC(2001)1681]
Introduction
1. The conclusions of the ECOFIN Council in December 1998 requested the
Commission to carry out an analytical study on company taxation in theEuropean Union. This study should illuminat e differences in th e effective level
of corporate taxation and identify the main tax provisions that may hampercross-border economic activity in the Single Market. On this basis anassessment should be undertaken of th e effects on the location of economic
activity and investments. In July 1999 the Permanent RepresentativesCommittee (COREPER) refined this request into a formal mandate for theCommission asking for a factual analysis and a policy assessment with a viewto EU company taxation.
2. The Commission has been assisted by two specifically created panels of
experts one focussing on the method for calculating the effective tax rates in
Member States and the other on the re maining tax obstacles to the proper
functioning of the Single market. The first panel was composed of academics
with appropriate experience and scientific reputation in relevant theoreticalworks. The second panel included experts from among the business communityand social partners at the Community level. The individual members of the
second panel were designated by  the respective organisations.
The Ruding report and the impact of the Internal Market
3. This study takes the report of the Committee of Independent experts on
Company Taxation into account that was asked by the Commission in 1990 to
determine whether differences in busin ess taxation and the burden of business
taxes among Member States lead to major distortions affecting the functioningof the Single Market and to examine all possible remedial measures (Ruding
Committee). The underlying analysis of this earlier study is mostly still topical.In this context it has to be noted that little progress has been achieved in thefield of company taxation as a result of its findings and recommendations.
However, the context for studying company taxation in the EU has since thenchanged in various ways. Moreover, the mandate given to the Commission bythe Council for the present study is broader than that given by the Commissionto the expert committee in 1990 as it explicitly requests the analysis of taxobstacles in the Internal Market.
4. The overall economic framework has changed significantly since the early
nineties. An unprecedented wave of inte rnational mergers and acquisitions, the
emergence of electronic commerce and the increased mobility of factors with
29the growing development of "tax have ns" all change the scenery under which
European Member States levy taxes on company profits. These general globaldevelopments are still on-going and are particularly strong within the InternalMarket.
5. Most significantly, the Internal Market had not been established yet in 1990.
The same holds for Economic and Moneta ry Union. Both developments impact
on how the functioning of company tax systems within the EU has to beevaluated. As economic integration in the Internal Market proceeded, theeconomic, technological and instituti onal barriers to cross-border trade
continued to wane. At the same time, taxation systems adapted to this processonly very gradually. The pattern of international investments is therefore likelyto be increasingly sensitive to cross-border differences in corporate tax rules inan environment now characterised by full mobility of capital. Moreover, whileconsiderable progress has been made in the removal of the wide range ofbarriers to the establishment of the Internal Market (including the recentagreement on the European Company Statute), the tax impediments to cross-border activities within the Internal Market are becoming increasinglyimportant. These elements describe important specific EU dimensions on
company taxation which did not exist in the same way in 1990.
6. EU businesses are presently confronted with a single economic zone in which
15 different company tax systems apply. This causes losses of economicefficiency, generates specific compliance costs, and contributes to a lack oftransparency. The Internal Market and Economic and Monetary Union alsostrongly impact on the way EU companies carry out business in theCommunity and set the - intended - incentive to create effective pan-Europeanbusiness structures. This is because EU companies increasingly no longerdefine one Member State but rather the whole EU as their "home market". Theresulting structural changes lead to the EU-wide re-organisation andcentralisation of business functions w ithin a group of companies, many of
which were traditionally present in many or even all Member States. Such re-organisation can be achieved via inte rnal realignments, via mergers and
acquisitions or through the creation of foreign branches. These tendencies, in
turn, impact on the taxation of these companies. EU companies argue that theirperception of the EU as their "home market" generally does not correspond to a
tax reality, unlike the USA for US companies. Thus, a variety of legal and
economic factors define a specific "EU dimension" for analysing companytaxation.
The effective level of company taxation in the EU
7. From the point of view of economic e fficiency, tax systems should ideally be
"neutral" in terms of economic choices. In such an analytical framework, thechoice of an investment, its financing or  its location should in principle not be
driven by tax considerations. From this perspective, and in an internationalcontext, similar investments should not face markedly different effective levels
of taxation purely because of their country  location. Differences in the effective
levels of corporate taxation may in fact imply welfare costs because economicactivity may not take place in the lowest (pre-tax) cost location by the lowest
30cost producers. If the impact of differe nces in tax regimes favours one location
over another, or one producer over anothe r, then goods may be produced at a
higher pre-tax cost. Therefore, the size of these tax differentials and dispersions
deserves attention.
8. However, a full welfare cost assessment of differences in effective corporation
tax rates would require a broader analysis , taking into account the existence of
other taxes and other econo mic parameters, as well as national preferences for
equity and the provision of public goods. Mo reover, to the extent that there are
pre-existing distortions and/or imperfe ctions in the market economy (market
failures), taxes may be used to internalise these externalities (e.g. pollution),thereby enhancing economic efficiency. It is impossible to precisely quantifythe size of tax differentials needed to correct or mitigate market failures.However, the larger the tax differentials , the larger the market failure must be
unless there is to be a loss of efficiency  and welfare. It should be stressed that
this study has not attempted to quantify the size of any efficiency loss orwelfare cost that might be associated with existing differences in effectivecorporation tax rates in the European Union.
9. In any event, taxation ultimately invol ves a political choice and may entail a
trade-off between pure economic efficiency and other legitimate nationalpolicy goals and preferences. Furthermore, in the Community context, thesubsidiarity principle and Member States' competences in the field of taxationhave to be taken into account when asse ssing differences in effective tax rates
between Member States.
10. The purpose of the analysis of differences in the EU corporations' effective
level of taxation is twofold. First, it gives summary measures of the overallrelative incentive (or disincentive) pr ovided by each country's tax law to
undertake various types of investment s at home or in another EU Member
State. Second, it identifies the most im portant tax driver s influencing the
effective tax burdens, that is the weight of each of the most important elementsof the tax regimes in the effective tax burden.
11. The analysis does not provide evidence  of the impact of taxation on actual
economic decisions. Although empirical studi es show that there is a correlation
between taxation and location decisions, because of the weaknesses of theexisting methodologies and their limitations due  to lack of available data, it has
been considered that none of the existin g approaches could have been usefully
adopted in the current study without c onsiderably extending the range of the
work.
12. Taxation is, of course, only one of th e determinants of investment and
financing decisions. The existence and quality of economic infrastructures, the
availability of qualified work, as well as the short and medium-term outlook in
different markets and count ries are among the other important determinants of
investment behaviour. The geographical accessibility of markets, transportcosts, environmental standards, wage le vels, social security systems and the
overall attitude of government all play an important role too . Which of these
factors are relatively the more important  very much depends on the individual
31type of investment decision. Neverthele ss, as economic integration in the EU
proceeds in the context of the Economic  and Monetary Union and the Internal
Market, in an environment where capital is fully mobile, the pattern ofinternational investment is likely to be increasingly sensitive to cross-borderdifferences in corporate tax rules.
13. The study presents estimates of effective corporate tax rates on domestic and
transnational investments in the 15 EU countries (as well as the US and Canada
in certain cases) taking the tax syst ems in operation as of the year 1999. In
addition, it presents estimates of eff ective corporate tax rates on domestic
investments for the EU Member States in 2001. In view of the structure and
magnitude of the German tax reform approved in 2000, the effects of thisreform, as of the 1
st January 2001, are separately analysed. The calculations
consider primarily corpora tion taxes in each country, but also include the effect
of personal income taxation of divi dends, interest a nd capital gains.
14. The most commonly used indicators for analysing the impact of taxation on
investment behaviour are based on fo rward-looking approaches which permit
international comparisons and are especially tailored to provide an indicationof the general pattern of incentives to investment that are attributable todifferent national tax laws as well as on the most relevant tax drivers thatinfluence the effective tax burdens. In this study, the main body of thecomputation of the effective corpor ate tax burden builds on the methodology
involving calculating the effective ta x burden for a hypothetical future
investment project in the manufacturing sector. In technical terms, the analysis
relies on a revised and extended methodology of the so-called King &
Fullerton approach, set out by Devereux and Griffith (1998). This computation
is supplemented by data arising from the application of the "European Tax
Analyzer" model which utilises the model-firm approach set out by theUniversity of Mannheim and ZEW (1999). Considering that each methodologyis based on different hypotheses and rest rictions, the comparison of the results
of these approaches permits the tes ting and, possibly, c onfirmation of the
general trends arising from the computations.
15. The results of the application of th ese approaches depend heavily on the
assumptions underlying both the definiti on of the hypothetical investment in
terms of assets and financing or of the future firm  behaviour in terms of total
cash receipts and expenses, assets a nd liabilities over time and of the economic
framework. As far as the economic fram ework is concerned, the value of the
real interest rate is a crucial element. The existing studies based on theseapproaches assume different hypotheses in relation to the economic framework
and the definition of the investment. Th is study, for example, like the Ruding
report, calculates effective tax rates at a given post-tax rate of return, whereasother studies
1 compute the effective tax rate for a given pre-tax rate of return.
Differences in the assumptions underlying  the hypothetical investment and the
economic framework can give rise to somewhat different numerical results.
                                                
1see, for instance: Baker & McKenzie, Survey of the Effective Tax Burden in the EU, Amsterdam;
1999 and 2001
3216. These approaches do not permit, for methodological reasons, taking into
consideration in the computation all the relevant features linked to theexistence and functioning of different ta x systems. For instance, the effects of
consolidating profits and losses throughout the EU are not included because the
model assumes all investments are profitable. Neither is it possible to quantifyor include compliance costs. However, the most important features of taxationsystems such as the rates, major elements of the taxable bases and tax systemsare included. The results produced should therefore be understood assummarising and quantifying the esse ntial features of the tax system.
17. Effective tax rates can be calculated for a so-called "marginal" investment
(where the post-tax rate of return just equals the alternative market interestrate) or for a "infra-marginal" investment  project (i.e. one that earns an extra-
profit). This study has analysed both ma rginal and infra-marginal (average)
effective company tax indicators. These reflect different hypotheses related tothe underlying methodology, as well as to the domestic or internationallocalisation of the investment, the profitability of the investment or of the firmconsidered, and the size and behaviour of the companies. The computations
have been supplemented by "sensitivity analysis" which tests the impact ofdifferent hypotheses on the results.
18. The broad range of data computed does not intend to present "universally valid
values" for the effective tax burden in different countries, but rather to give
indicators, or illustrate interrelations, in a series of relevant situations. In fact,effective tax rates in a particular Member State depend on the characteristics ofthe specific investment project c oncerned and the methodology applied.
19. A number of general conclusions regardin g both the differences in the effective
tax burdens and the identifica tion of the most relevant tax drivers which
influence these tax burdens, can neverthe less be formulated on the basis of the
results. Therefore, explanations can be given on how Member States tax
regimes create incentives to allocate resources. A striking feature of thequantitative analysis is that, across the range of different situations, the relevantconclusions and interpretations remain relatively constant.
20. When domestic investments are consider ed, the analysis for 1999 suggests that
there is considerable variation in the effective tax burden faced by investors
resident in the various EU Member Stat es, depending on the type of investment
and its financing. However, the Member  States' tax codes tend to favour the
same forms of investment by assets a nd sources of finance. The range of the
differences in national effective cor porate taxation rates, when personal
taxation is not taken into account is around 37 points in the case of a marginalinvestment (between -4.1% and 33.2 %) and around 30 points in the case of
more profitable investments (between  10.5% and 39.1% when the hypothetical
investment methodology is  applied and between 8.3% and 39.7% when the
"Tax Analyser" model is applied). The introduction of personal taxation
substantially increases the effective ta x burdens and the observed differences.
Moreover, the analysis suggests that, in practically every situation analysed taxsystems tend to favour investment in intangibles and machinery and debt is themost tax-efficient source of finance.
33A recent study by Baker and McKenzie  conducted under different hypotheses
concerning the economic context and the applied tax codes, shows that in the
most similar economic situation to that cons idered in this study (pre-tax rate of
return of 6% as against a post-tax rate  of return of 5% considered in the
Commission study), the range of variation is 32 points in the case of a marginal
investment (from 4.9% to 36.8%). When the pre-tax rate of return is fixed at
10% (base case in the Baker and Mc Kenzie computation), the range of
variation is 23 points (from 6.8 to 30.1). This study also shows that the mosttax efficient method of finance is debt  and that the tax systems tend to favour
investments in intangibles and machinery.
21. Differences between the effective tax burden in the EU Member States may be
important for two reasons. First, differences in effective tax rates faced bycompanies located in different countries , but competing in the same market,
may affect their international competitiveness: two different companies,competing in the same market, may fa ce two different tax rates. Second, when
multinational companies face only the tax ra te of the country where the activity
takes place then differences in the effe ctive tax rates betw een countries could
also affect the location choice of individual activities. This can occur either as aresult of the provisions of internati onal tax codes, for example when the
repatriation of profits by way of dividend from a subsidiary to a parent results
in no further taxation because the dividend is exempt, or as a result of taxplanning. A multinational company may therefore face different tax rates,depending on where its activities are located. As indicated, this economic
reasoning is based on pure tax consid erations and cannot, on its own, explain
the actual behaviour of companies.
22. Clearly, the EU wide spread cannot be ex plained by one single feature of the
national tax system. However, the analys is of general regimes tends to show
that – leaving aside preferential tax regimes - the different national nominal taxrates on profits (statutory tax rates, surcharges and local taxes) can explainmany of the differences in effective corporate tax rates between countries.
Although tax regimes are designed as more or less integrated systems (in
general high tax rates on profits seem to correlate with a narrower taxable baseand vice versa), tax rate differentials te nd to outweigh the differences in the tax
bases. The quantitative analysis also shows that the relative weight of rates in
determining the effective tax burden of companies rises when the profitability
of the investment rises and that, conse quently, any compensatory effects of a
lower tax base on effective tax rates tend to disappear when the profitabilityrises. The study conducted by Baker and McKenzie c oncluded that, in general,
the composition of the tax base does not  have a great impact on the effective
tax burden and that the level of the tax rate is the truly important factor for thedifference in the tax burden.
23. When transnational investments are considered, the results for 1999 show
variations in the way each country treats investments in or from other
countries. Thus, the effective tax burden of  a subsidiary of a parent company in
one country depends crucially on where that  subsidiary is located. On the basis
of the assumptions considered in this study, the range of variations of the
effective tax burdens of subsidiaries lo cated in different host countries can rise
34above 30 points regardless of the method of financing of the subsidiary. This
provides an incentive for companies to choose the most tax-favoured locations
for their investment, which may not be  the most favourable location in the
absence of taxes. Similarly, subsidia ries operating in a given country face
different effective tax burdens dependi ng on where their parent company is
located. Even in this case the range of variation can reach more than 30 points.
24. The analysis of the effective tax burden of transnational inve stment also gives
an indication of the allocation effects of international taxation by capturing the
extent to which the tax treatment of transnational investments gives incentives
to undertake transnational, as opposed to domestic, investment. The data show
that, on average in the EU, outbound and inbound investment are more heavilytaxed than otherwise identical domes tic investments and, therefore, the
additional components of the transna tional system add somewhat to the
effective tax rates on investment.
25. But, to the extent that companies are free to choose the most tax-favoured form
of finance, then the international tax system works such that foreignmultinationals operating in a host country  are likely to face a lower effective
tax burden than domestic companies. This seems to be true even when thetreatment of multinationals is compared with the more favourable domestictreatment allowed for small and medium sized companies.
26. The spreads observed between the effective rates of taxation in the
international analysis are the results of complex interactions between differenttax regimes and cannot be explained by just one feature of taxation. However,
as was the case for the domestic investment, the analysis tends to show that themost relevant tax compone nt which provides an incentive to locate crossCorporate Tax Rates 1999 - Statutory, and Effective Average at pre tax returns of 20% & 40%
0,00%5,00%10,00%15,00%20,00%25,00%30,00%35,00%40,00%45,00%50,00%
Ireland
Finland SwedenUK
Denmark
Austria
Netherlands
Spain
Portugal
Luxembourg
France
Greece BelgiumItaly
GermanyEATR @ 20%
EATR @ 40%
Statutory Rate
35border and to choose a specific form of  financing is the overall nominal tax
rate. This is, in general, an important tax driver when the incentives of taxationto use particular sources of finance a nd specific locations are considered. The
tax base does however have a greater impact in specific situations when acountry applies, for instance, partic ularly favourable depreciation regimes.
27. It is worth noting that across the range of domestic and cross-border indicators
presenting the effective tax burden at the corporate level, there is a remarkableconsistency as far as the relative positi on of Member States, notably at the
upper and the lower ranges of the ranking, is concerned. In general, Germany,and France tend to show the highest tax burdens while Ireland, Sweden andFinland tend to be at the lower range  of the ranking. Only Italy's ranking
changes materially when the profitability of the investment changes. Due to theworking of the dual income system, marginal investments are, in fact,subsidised, whereas more profitable inve stments suffer an effective tax burden
which is in the middle range of the ranking.
28. When the domestic analysis is update d to take into account the 2001 tax
regimes, the overall picture is broadly unchanged in comparison to 1999.However, as a consequence of a pattern  of generally declining statutory tax
rates (albeit with relatively small reductions apart from Germany), moreprofitable investments benefited from reductions in effective tax rates in anumber of countries. As a result, the rang e of differences in domestic effective
tax rates in the case of a more profita ble investment decreased from 30 to 26
percentage points.
29. The German tax reform that entered into force at 1.1.2001 is a significant
reform which implies a substantial cut in the corporation tax rate and in incometax rates, partly financed by the broa dening of the tax base, including the
abolition of the split rate system and the imputation system. However, despitethese changes the German tax reform has only minor effects on the relativeposition of Germany in the EU country ranking and both the overall national
corporate tax rate and the effective tax burden remains among the highest inthe EU.
30. Simulating the impact of a hypothetical ha rmonisation of particular features of
taxation systems in isolation on effective tax rates shows that:
Introducing a common statutory tax rate in the EU would have a significant
impact by decreasing the dispersion - both between parent companies and
between subsidiaries - of marginal and average effective tax rates across theEU countries. To the extent that taxa tion matters such a scenario would be
likely to go some way in reducing locational inefficiencies within the EU.
By comparison, no other scenario would have such an impact. For example,
introducing a common tax base or a sy stem consisting in applying the
definition of the home country tax ba se to the EU-wide profits of a
multinational tends to increase the dispersion in effective tax rates if overallnominal tax rates ar e kept constant.
Moreover, two remarks have to be ma de concerning these results for a
36common tax base. First, the methodologie s applied do not pe rmit to take into
consideration all the elements of the tax bases. However, the "Tax Analysermodel", whose results are similar to those arising from the simulations ofhypothetical investment, doe s consider a more significant number of elements
of the tax bases. Second, benefits wh ich would arise under either a common
consolidated tax base or a home count ry tax base approach such as loss
consolidation and simplifie d transfer pricing cannot  be modelled using the
methodologies used in this report.
It is worth emphasising that these results are based on a static analysis and
cannot capture the dynamic effects and reactions induced by the harmonisation
of particular features of taxation in isolation.
31. The potential distortions in the allocation of resources reported in the analysis
of transnational investments indicate that there can be an incentive forcompanies to alter their behaviour in order to minimise their global tax burden.Therefore the study has considered some stylised examples of tax optimisationstrategy of companies by means of an intermediary financial company focusingthe attention on the likely effects of an abolition of these tax reducing financingstructures. However, the removing of these possibilities of optimisationstrategy will not contribute, per se, to solving the problem of tax-induced
resources mis-allocations. Since the main tax driver for effective tax ratedifferentials is the overall national tax rate, companies located in "high tax"countries will be able to compensate  for the removal of these financial
intermediaries by making greater use of differences in general tax rates andstructuring their investments to take advantage of lower rates.
Tax obstacles to cross-border economic activities in the Internal Market
32. The Council mandate also asks for a "highlighting [ of the ] remaining tax
obstacles to cross-border economic activity in the Internal Market" and callsfor the identification of "the main tax provisions which may hamper cross-border economic activity in the Single Market". For this purpose the presentstudy focuses on additional tax or comp liance burdens which companies incur
as a result of doing business in more than one Member State and whichtherefore represent a barrier to cross-border trade, establishment andinvestment.
33. The underlying cause of those additiona l tax and compliance burdens is the
existence within the Internal Market of 15 separate tax systems. First, the fact
that each Member State is a separate tax jurisdiction has a number ofconsequences. In particular:
– companies are obliged to allocate profits to each jurisdiction on arm’s
length basis by separate accounting, i.e. on a transaction by transactionbasis;
– Member States are reluctant to allow relief for losses incurred by
associated companies whose profits fall outside the scope of their taxingrights;
37– cross-border reorganisations entailing a loss of taxing rights for a
Member State are liable to give rise to capital gains taxation and othercharges;
– double taxation may occur as a result of conflicting taxing rights.
34. Moreover, each Member State has its own sets of rules, in particular laws and
conventions on financial accounting, rules for determining taxable profit,
arrangements for collection and adminis tration of tax and its own network of
tax treaties. The need to comply with a multiplicity of different rules entails aconsiderable compliance cost and represents in itself a significant barrier tocross-border economic activity. The costs and risks associated with complyingwith more than one system may in pa rticular discourage small and medium-
sized enterprises from engaging  in cross-border activity.
35. These fundamental problems hamper cr oss-border economic activity in the
Internal Market and adversely affect the competitiveness of Europeancompanies. In economic terms they result in a loss of potential EU welfare.The imminent enlargement of the EU makes it all the more urgent to findappropriate solutions.
36. To some extent the problems faced by  the EU reflect general difficulties in
taxing international activities, and the work of the OECD and its forerunnershas provided the basis for an extensiv e network of mainly bilateral double
taxation treaties between Member States. The OECD has also publishedguidance on a range of international tax issues, in particular concerning the
application of transfer pricing methods and on docum entation requirements. In
addition, the EU itself has taken several in itiatives with a view to removing tax
obstacles to cross-border co-operati on and activity: Directive 90/434 ("merger
directive"), providing for the de ferral of taxation on cross-border
reorganisation; Directive 90/435 ("parent -subsidiary directive"), eliminating
double taxation on cross-border divide nd payments between parent and
subsidiary companies; and the Arbitra tion Convention (90/436), providing for a
dispute resolution procedure in the area of transfer pricing. Although goingsome way to resolving the obstacles to cross-border activity they do notprovide a solution which keeps pace with the growing integration in theInternal Market.
37. A basic concern of companies operating within the Internal Market is the
removal of tax obstacles to income flows between associated companies. The
Parent-Subsidiary Directive abolishe s withholding taxes on payments of
dividends between associated companies of different Member States. However,
its effectiveness is reduced by the fact that it does not cover all companiessubject to corporation tax a nd applies solely to direct  holdings of 25% or more.
38. There is the further problem that - independent of the directive- certain systems
of company taxation have an in-built bi as in favour of domestic investment.
For example, under imputati on systems applied in a number of Member States
a tax credit is granted to resident (indivi dual or corporate) shareholders for the
tax paid on company level; that credit is usually not available to non-resident
38shareholders and is not nor mally granted in respect of foreign dividends. There
is evidence to suggest that such systems form a serious obstacle to cross-bordermergers within the EU and can have an  influence on related business decisions
(e.g. location of corporate seat).
39. Payments of interest and royalties between associated companies of different
Member States are often still subject to  withholding taxes that effectively
create situations of double taxation. Th e Commission has already presented a
proposal for a directive on this subject  [COM(1998)67], and it is expected that
this proposal will be adopted in the context of the "tax package".
40. In addition to obstacles to income flows, corporate restructuring can also be
affected by one-off costs more directly linked to the restructuring operationitself. The tax-cost induced by cross-border mergers, acquisitions and internalreorganisations in the form of capital gains tax and various transfer taxes isoften prohibitively high and forces companies to choose economically sub-
optimal structures. Such obstacles place existing EU companies at adisadvantage as non-EU companies as new entrants will generally be betterplaced to set up the most suitable structure.
41. The merger directive provides for deferr al of capital gains charges in a number
of situations. However, a number of problems remain:
– First, not all situations are covered. Like the Parent-Subsidiary Directive,
it does not include all companies subj ect to corporate tax. It does not
cover all types of tax charge (e.g. transfer taxes) that can arise upon a
restructuring. Moreover, it does not cover all types of operation which
may be involved in a restructuring, e.g. the centralisation of production
or other activities. Furthermore, the conversion of existing operations(subsidiaries) into branches may endanger the future absorption of taxlosses accumulated pre-conversion.
– Second, the directive's usefulness is re duced by the fact that currently
there is no EU company law framework for cross-border mergers.Companies are therefore obliged to have recourse to share for shareexchanges or transfers of assets. The recent agreement on the EuropeanCompany Statute will change this situation in one respect and allow, asfrom 2004, for companies to merge into a new legal structure.
– Third, the implementation of the directive differs significantly between
Member States. Even though such differences are to some extent intrinsic
to the legal instrument of a "directive", the study identifies significantdisparities which undermine the overall aims sought by the directive. In
particular Member States, in implementing the Directive, have imposedvarying conditions for the tax deferra l provided for under the Directive
with a view to preventing tax avoidance, in some cases significantlylimiting the scope of the Directive and leaving situations of double
taxation unrelieved.
3942. The study identifies particular difficulties in relation to cross-border loss-
compensation which, from a business perspective, constitute one of the most
important obstacles to cross-border economic activity. The current rules in
Member States generally allow only for the offsetting of losses of foreignpermanent establishments but not for t hose of subsidiaries belonging to the
same group but located in different EU  countries. If available, the loss
compensation often takes place only at the level of the parent company or isdeferred in comparison to domestic losses (which creates significant interestcost). The differences which exist in Member States’ domestic losscompensation arrangements also impact on business decisions.
43. The current loss compensation arrangem ents entail a risk of economic double
taxation where losses cannot be absorbed  locally. This situation provides an
incentive in favour of domestic investment  and of investment  in larger Member
States.
44. In the area of transfer pricing, the tax problems for cross-border economic
activity in the Internal Market have increased over the past years and are still
growing. The problems consist essentially in high compliance costs andpotential double taxation for intra-group tran sactions. A difficulty, according to
business representatives, is that the transfer prices which are calculated for taxpurposes often no longer serve any unde rlying commercial rationale in the
Internal Market. There is in particular an increasing practice among largercompanies to adopt, in EU intra-group trade,  standard "euro" transfer prices for
intermediate products, regardless of the production facility from which thegoods are purchased within the group.
45. There is also a tendency among Memb er States, fearing manipulation of
transfer prices, to impose increasingly onerous transfer pricing documentationrequirements. Moreover, the appli cation of the various methods for
determining the "correct" (i.e. "arm's length") transfer price for a determinedintra-group transaction is becoming increasingly complex and costly. Newtechnologies and business structures (which imply, inter alia , more emphasis
on intangibles) cause growing difficulties to identify the comparableuncontrolled transactions ofte n required for establishing the arm's length price.
In addition, there are substantial dive rgences in the detailed application of
transfer pricing methods between Member States. The same holds for their
implementation of the relevant OECD guidelines. EU businesses therefore face
uncertainty as to whether their transfer prices will be accepted by the taxadministrations upon a subsequent audit. The study indicates that the combined
effect of these difficulties for companies can be a significant increase incompliance cost for international activities.
46. Double taxation in transfer pricing occu rs when the tax administration of one
Member State unilaterally adjusts the price put by a company on a cross-borderintra-group transaction, without this adjustment being offset by acorresponding adjustment in the other Member State or States concerned.
While inquiries made by the Commi ssion services among Member States
suggest that the number of transfer pric ing disputes between Member States is
fairly limited, a survey of multinationa l companies published by the accounting
40firm Ernst&Young2 reports a significant number of instances of double
taxation arising from transfer pricing adjustments. This is consistent withrepresentations made by business representatives, who complain moreover thatthe cost and time relating to the current dispute settlement procedures are oftentoo high for enterprises with the result that it is often less costly to accept thedouble taxation. In this context the pres ent study finds that the Arbitration
Convention 90/436/EEC, which seeks to pr ovide a binding dispute resolution
procedure, is rarely used and that certain of its provisions may act as a
deterrent for taxpayers to make use of it.
47. In short, the study concludes that, while there is evidence for aggressive
transfer pricing by companies, there are equally genuine concerns forcompanies which are making a bona fide attempt to comply with the complex
and often conflicting tran sfer pricing rules of different countries. Such
concerns are becoming the most important international tax issue forcompanies.
48. The study also identifies the area of double taxation conventions as a potential
source of obstacles and distortions for cross-border economic activities within
the EU. Although the intra-EU network of double taxation treaties is largely
complete, there nevertheless remain some gaps. Most treaties within the EUfollow the OECD Model but there are significant differences in the terms of thevarious treaties and their in terpretation. There are also instances of divergent
application of treaties by the treaty pa rtners, leading to double taxation or non-
taxation. Business representatives also refer to the increasing complexity oftreaty provisions as a source of complian ce cost and uncertainty. What is more,
the study shows that tax treaty provi sions based on the OECD Model, in
particular non-discr imination articles, are not ade quate to ensure compliance
with the EU law principle of equal treatment. Moreover, the lack of co-ordination in the treaty practice of Member  States in relation to third countries,
for example regarding limitation of treaty benefits, is liable to give rise todistortions and partitioning of the Internal Market.
49. The study also notes that certain area s of taxation which do not form part of
company taxation may nevertheless entail significant obstacles to cross-bordereconomic activity in the EU. This notably relates to the taxation of fringebenefits and stock options, of supplemen tary pensions as well as VAT. It is
important to note that together with the company tax obstacles these difficulties
have a cumulative effect for the companies concerned. As regards VAT, this isparticularly true for small and medium-sized enterprises for which the nature ofthe various tax obstacles to cross- border economic activity is generally
identical but which suffer from di sproportionately - and sometimes
prohibitively - high compliance cost for dealing with them.
                                                
2Ernst-Young Survey: Transfer pricing 1999 Global Survey: Practices, Perceptions, and Trends for
2000 and beyond
41Remedies to the tax obstacles in the Internal Market
50. There are essentially two approaches wh ich could be envisaged for tackling the
company tax obstacles in the Internal Market:
– Targeted solutions which seek to remedy individual obstacles
– More comprehensive solutions which seek to address the underlying
causes of the obstacles.
51. A comprehensive approach providing EU businesses with a single common
consolidated tax base for their EU activities would address most of the taxobstacles to cross-border economic activity that have been identified. Apiecemeal approach only is unlikely to achieve this in a comparable manner. Itshould also be noted that clearly a ll proposals raise a number of technical
issues which would need to be explored in greater detail.
52. Regardless of the basic approach of remedies, it is important to note that in the
absence of political solutions taxpayers have been compelled to have recourseto the legal process to overcome discriminatory rules and other obstacles. Inconsequence, the European Court of Justice (ECJ) has developed a large body
of case law on the compatibility of national tax rules with the Treaty. Nationalcourts are also increasingly being asked to give rulings in this area. While theECJ has made a significant contribution to the removal of tax obstacles for
companies, it is unlikely that the interpretation of the Treaty is sufficient toaddress all tax obstacles to cross-border activity. Moreover, ECJ rulings areconfined to the particular case put to it and may therefore relate solely toindividual aspects of a more general i ssue. The implementation of ECJ rulings
is left to Member States, who often fail to draw the more general consequenceswhich flow from them. There therefore seems to be scope for introducing a
Community framework for exchanging view s of the implications of significant
ECJ rulings.
53. One important example for the aforementi oned principle is the problem of the
bias in favour of domestic investment in certain systems of company taxation,
notably imputation systems, for which th e case law of the Court has particular
significance. Recent rulings, such as Safir,  Verkooijen and Saint-Gobain ,
suggest that tax systems which provide a disincentive to cross-border activityor investment may be contrary to the Treaty provisions on the fundamental
freedoms. Such rulings raise important issues for the design of Member States’
tax systems for which more guidan ce on EU level would be desirable.
Targeted remedial measures
54. The various problems relating to the di vergence of application of (both the
existing and future) EU Taxation Directives across Member States could betackled via a regular exchange of best-practices and/or some form of peerreview. This could also give the opportunity to develop a more common
understanding of important concepts in EU company taxation, notably taxavoidance. Ensuring a more uniform app lication of EU tax law is an important
42step in order to reduce compliance costs and increase the efficiency of EU
company taxation. At the same time, the need for litigation would be reduced.
55. The shortcomings identified in the Merger Directive and the Parent-Subsidiary
Directive suggest the need for amendment of those directives. The Commission
has already presented proposals for amendm ent of the directives suggesting, in
essence, that their scope be extended to cover other entities subject to companytaxation [COM(93)293]. In addition to this  and with a view to clarifying the
scope of certain important provisions  in the directives, notably those
concerning avoidance and abuse, furthe r amendments to the Directive and/or
more detailed guidance on how those pr ovisions should be implemented could
help.
56. As regards the merger directive, the study also identifies certain other areas
where further amendments would facilitate cross-border restructuring. Withinthe logic of the existing Directive, it could first be examined to which extentspecific transfer taxes arising on cross- border restructuring operations (notably
on immovable property) could be taken into account. Second, the Directive
could be clarified to make it clear th at instances of economic double taxation
should be avoided. One example for this c ould be to prescribe that capital gains
arising on the sale of shares received in exchange for shares or assets arecalculated on the basis of the market value at the time of the exchange, thusresolving previously accumulated "h idden reserves" without immediate tax
consequences. A more radical change to  the Directive would be to extend its
scope so as to defer the triggering of  tax charges where assets are moved to
another Member State while preserving Member States’ tax claims. Theparent-subsidiary directive could be am ended to cover both direct and indirect
shareholdings or, alternatively, provide for a lower minimum holding
threshold.
57. Finally, it may be noted that the recent agreement on the European Company
Statute will provide a company law framework for cross-border mergers theabsence of which has hitherto undermined  the utility of the Merger Directive.
58. As regards cross-border offsetting of  losses, the Commission in 1990 presented
a proposal for a directive [(COM(90)595] allowing parent companies to take
into account the losses incurred by perm anent establishments and subsidiaries
situated in another Member State. Th e Council failed to adopt the proposal and
has ceased discussion of it. A review of  the proposal conducted as part of the
present study suggests that a number of  technical amendments could be made
to the proposal. For example, it coul d be envisaged calculating losses
according to the rules of the State of the parent company rather than that of thesubsidiary as under the proposal.
59. Alternatively, a similar result from the company's perspective could be
achieved by devising a scheme similar to the Danish system of 'joint taxation'.In essence under the Danish arrangemen ts a group of companies with a Danish
parent company is taxed as if it were organised as a branch structure so that
Denmark taxes the consolidated results  of the group. The advantage of this
43approach over the Commission proposal lies in the greater symmetry between
the taxation of profits and the offset of losses.
60. There are a variety of measures available that would help remedy the various
transfer pricing problems. The practical application of the Arbitration
Convention could certainly be improve d and its provisions made subject to
interpretation by the Court. Moreover, Member States could be encouraged to
introduce or expand bilateral or multilateral Advance Price Agreementprogrammes; such instruments, although costly, are an effective means ofdealing with the uncertainty relating to transfer pricing. Subject to safeguards
to prevent aggressive tax planning, a framework for prior agreement orconsultation before tax administrations enforce transfer pricing adjustmentscould also be considered.
61. More generally, the compliance costs a nd the uncertainty could be reduced by
better co-ordination between Member States of documentation requirements
and of the application of the various methods, for example by developing best
practices. Such co-ordination could take place in the context of an EU workinggroup and should build upon and complement  the OECD activities in this field.
It would be possible to develop that proc ess further in order also to address the
concerns of business. The establishment by the Commission of a Joint Forumon transfer pricing comprising representatives of tax authorities and businessmight allow the currently conflicting perspectives of the two sides to bereconciled. While on the one hand tax administrations view transfer pricing asa common vehicle for tax avoidance or evasion by companies and as a sourceof harmful tax competition between Member States, business on the other handconsiders that tax authorities are imposing disproportionate compliance costs.The study finds that both sides have legitimate concerns to which it isnecessary to seek a balanced solution through a dialogue on EU level. A moreuniform approach by EU Member States  would also contribute to a stronger
position in relation to third countries.
62. The filling of the few remaining gaps  in the existing network of double
taxation treaties within the EU would be helpful. Moreover, the current tax
treaties of Member States could be improved in order to comply with the
principles of the Internal Market, in particular in relation to access to treatybenefits. Better co-ordina tion of treaty policy in relation to third countries
would also help. In addition, the stud y identifies a possible need for binding
arbitration where conflicts arise between treaty partners in the interpretationand application of a treaty, leading to possible double taxation or non-taxation.
The most complete solution to such problems would be the conclusion under
Article 293 of the Treaty of a multilatera l tax treaty between Member States,
conferring interpretative jurisdiction on the Court. Another possibility, leavingintact the existing bilateral system, would be to elaborate an EU version of theOECD model convention and commentary (or of certain articles) which met
the specific requirements of EU membership.
63. Despite the fact that tax compliance costs are regressive to the size of the
company, the study finds that the nature of the obstacles is essentially the samefor all companies. Therefore specific tax initiatives for small- and medium-
44sized enterprises do not seem to be ju stified. There are however exceptions to
this basic approach which could be usef ully addressed mainly at Member State
level. For instance, the adminis trative tax formalities, bookkeeping
requirements etc. for small- and medi um-sized enterprises should be less
demanding than for bigger companies,  also in cross-border situations.
Moreover, the difficulties with the cross-border offsetting of losses hit small-and medium-sized enterprises particularly  hard and therefore seem to deserve a
specific remedy.
Comprehensive approaches on EU company taxation
64. The study also examines more general remedial measures aimed at minimising
or removing the obstacles in a more comprehensive manner and analyses anumber of comprehensive approaches that have been presented to the
Commission. All aim to address the va rious tax obstacles by providing
multinational companies with a common consolidated tax base for their EU-wide activities:
– Under the mutual recognition approach  of "Home State Taxation" the tax
base would be computed in accordance with the tax code of the
company's home state (i.e. where the he adquarter is based), thus building
on the existing tax systems and th e related experience and knowledge.
This approach is conceived as an optional scheme for companies inMember States with a sufficiently similar tax base.
– Another possibility would be to devise completely new harmonised EU
rules for the determination of a single tax base on European level. Thisagain would be an optional scheme for companies existing as a parallel
system alongside present national rules. Generally known as "Common
(Consolidated) Base Taxation", this a pproach is advocated in particular
by some business representatives.
– A further model suggested in some  literature would be a "European
Corporate Income Tax". This, alt hough originally conceived as a
compulsory scheme for large multinationals, could also be an optionalscheme operating alongside national rules. Under this model the taxcould be levied at the European le vel and a part or all of the revenue
could go directly to the EU.
– Finally, the more ‘traditional’ appr oach would be to harmonise national
rules on company taxation by devising a single EU company tax base and
system as a replacement for existing national systems.
65. The most important fundament al advantages of providi ng EU businesses with a
single consolidated tax base for th eir EU-wide activities, under whichever
form, are as follows:
– The compliance cost resulting from the need to deal with 15 tax systems
within the Internal Market would be significantly reduced.
45– Transfer pricing problems within  the group of companies would
disappear, at least within the EU.
– Profits and losses would, in principle,  be automatically consolidated on
an EU basis.
– Many international restructuring opera tions would be fiscally simpler and
less costly.
66. The business representatives of the expert panel assisting the Commission
emphasised these fundamental points. Under a comprehensive approach of
whatever precise design compliance cost  would be reduced, many situations of
double-taxation would be a voided and many discriminatory situations and
restrictions would be removed.
67. By definition, an essential element of a ll the solutions is that there should be
group consolidation on an EU-wide basis.  At present not all Member States
apply that principle even at the domestic  level and only two at the international
level. Under all approaches (with the possible exception of the European
Corporate Income Tax) Member States would retain the right to set companytax rates.
68. To a varying extent, all comprehens ive approaches could potentially be
designed such that not all Member States would have to participate. In thiscontext, it is important to note that the Treaty of Nice extended the possibilityfor enhanced co-operation by a group of  Member States where agreement by
all 15 is not possible. This may be pa rticularly appropriate for Home State
Taxation, which presupposes the participati on solely of Member States with a
fairly close tax base. However, a group of Member States could equally take
advantage of this mechanism in order to  introduce any of the other approaches.
69. A further key element of all the compre hensive approaches is a mechanism for
allocating the common consolidated tax base to the various Member States. Forthis purpose the USA and Canada use a formula apportionment system which
allocates the tax base according to a ke y composed of factors such as payroll,
property and/or sales. Another soluti on available to the EU would be to
apportion the tax base according to the (a djusted) value-added tax base of the
companies involved. Under all of these Member States would be allocated a
specific share of the overall tax base according to apportionment keys andapply their national tax rate to that share.
70. All the above models would meet the c oncerns inasmuch as they remove the
need to comply with up to 15 different tax systems, largely eliminate thetransfer pricing problems arising from separate accounting and effectivelyprovide for cross-border loss compensa tion. They would also provide a tax
solution for the European Company. An appraisal of the various models should
take account of their respective characteristics.
71. An important point to note is that  Home State Taxation does not require
Member States to agree on a new common EU base because it is based on the
46principle of mutual recognition by Memb er States of each other’s tax codes.
The other approaches all entail agreement on an entirely new tax code.
72. By contrast with a compulsory ha rmonised base, Home State Taxation,
Common (Consolidated) Base Taxation a nd European Corporate Income Tax
operate alongside and do not fully replace existing national systems. In certaincircumstances however this can have the disadvantage that competingenterprises in other Member States are subject to different taxation rules. Forexample, under Home State Taxation thr ee competing retail shops in Germany
would compute their tax base under Belgia n, French or German rules according
to whether the home state of the group to which they belonged was Belgium,France or Germany. However, the differences may be relatively small giventhat an underlying assumption of the Home State Taxation model is thatparticipating States will have similar tax bases. Under Common (Consolidated)Base Taxation or European Corporate Income Tax competing businesses maybe subject to either local or Common (Consolidated) Base Taxation / European
Corporate Income Tax rules, which may be quite different. It may however be
possible to permit local companies to opt into the scheme, for example, wherethere are competition issues.
73. In addition the solutions based on a parallel rather than a single compulsory
system raise a number of technical issu es requiring further study. Among the
main issues are those relating to re structuring, foreign income and double
taxation treaties, and minority interests.
– First, as regards restructuring,  since under Home State Taxation a
company’s tax base is determined in accordance with the rules of itsparent’s state, each time the ownership of a company changes and itsshares are sold the method by whic h it computes its tax base could
change. This equates in current terminology to a potential change ofresidence and is potentially very cost ly. For example a Belgian subsidiary
sold by its German Home State Taxati on parent to a French parent could
find its tax base changing from German  to French, or if France were not
participating in Home State Taxation, b ack to a Belgian base. In contrast,
as under Common (Consolidated) Base Taxation there would only be onetax base such a sale within the Common (Consolidated) Base area wouldnot involve such a change, and even if a company were sold to a new
parent from a non participating state treatment under the Common
(Consolidated) Base system could perhaps be maintained.
– Second, the treatment of foreign income under Home State Taxation,
Common (Consolidated) Base Taxation or European Corporate IncomeTax is complicated by the current situation of bilateral double taxation
agreements, the co-existence of exemption and credit relief tax systemsand the need for a system of alloca tion. For example, a subsidiary in a
state which operates the credit system, with a 3
rd country branch may be
entitled under its DTA to a credit for foreign tax paid by the branch. Thiscould give rise to a claim under the DTA for the foreign tax credit eventhough the foreign income had been  exempted under the Home State
Taxation rules.
47– Third, minority shareholders might find themselves receiving dividends
under a taxation system which is inco mpatible with their existing local
personal tax system. For example a minority shareholder might receive
dividends paid under a Common (Consolidated) Base Taxation orEuropean Corporate Income Tax imputation system whereas previouslydividends had been paid under the lo cal classical system. This can only
be avoided if the payment of divi dends by subsidiaries to minority
shareholders remains subject to the local tax code which is the approachenvisaged under Home State Taxati on. This would imply additional
record keeping.
74. These issues would not arise if Member States were to agree on the more
traditional solution of a single harmonised company tax system, i.e. a commonconsolidated base with an agreed a llocation system and method of dividend
distribution. Nevertheless, de spite their drawbacks, the other solutions meet the
objectives of removing obstacles to cross-border activity without requiring
such fundamental change. More generall y, all the solutions would have the
potential to contribute to greater efficiency, effectiveness, simplicity andtransparency in EU company tax systems and remove the hiatuses betweennational systems which provide fer tile ground for avoidance and abuse.
75. The assessment of tax obstacles in the Internal Market reveals that many of the
factors causing compliance cost also tend to increase the administrative cost fortax administrations. This is particularly evident with a view to transfer pricing.Moreover, the co-existence of 15 company tax systems in one Internal Marketopens considerable room for tax evasi on and tax avoidance. Therefore, many
remedial measures will also to some extent benefit the efficiency andeffectiveness of tax administrations. Finally, almost all remedial measures,targeted or comprehensive, call for more mutual assistance and administrativeco-operation between Member States  which provides reliable means for
ensuring that tax audits will continue to be made in an appropriate way and thatnone of the remedies under considerati on results in illegitima te and/or illegal
tax evasion.
76. In short, the report concludes that there are potentially significant benefits to be
derived from providing, via a genuinely  comprehensive solution, companies
with a common consolidated tax base for the EU-wide activities. However, its
findings are based mainly on the current stage of development of the research
and further work would be necessary to  implement any of the comprehensive
approaches. Any solution going in this direction must obviously also take intoaccount the competition rules laid down in the EC Treaty, in particular those
concerning State Aids. Moreover, as  already noted, the results of the
quantitative analysis suggests that that the overall national tax rate is animportant factor in determining the effective tax rate, and it is clear that asingle or common base without furthe r adaptations in practice would almost
'mechanically' accentuate this.