Tax treatment of losses in cross-border situations
This Communication deals with the coordination of Member States' tax systems as regards cross-border relief for losses sustained by businesses. The Commission is proposing a coordinated approach by Member States that would result in a minimum standard for relief for cross-border losses sustained by companies and groups of companies.
Communication from the Commission to the Council, the European Parliament and the European Economic and Social Committee of 19 December 2006 - Tax Treatment of Losses in Cross-Border Situations [COM(2006) 824 - Not published in the Official Journal].
This Communication, which forms part of a coordinated approach to Member States' direct tax systems, focuses on the coordination of Member States' tax systems as regards cross-border relief for losses sustained by businesses.
In most Member States, relief for domestic losses can come from other profits realised in the same Member State. However, there is generally no provision for such relief as regards losses sustained in other Member States. In the absence of cross-border loss relief, the profits and losses of companies and groups of companies may be placed under different jurisdictions. As a result, relief for losses sustained by companies and groups is limited to the profits realised in the Member State in which the investment was made, meaning that companies and groups may have to pay tax on an amount in excess of their real results at EU level.
This shortcoming in Member States' legislation constitutes a barrier to accessing other markets and therefore has a negative impact on the international competitiveness of European businesses.
The Commission is planning to propose a coordinated approach by Member States that would result in a minimum standard for cross-border loss relief. This Communication proposes methods for providing cross-border relief for losses sustained:
- within a single company (i.e. by a branch or permanent establishment in another Member State);
- within a group of companies (i.e. by a member of the group in another Member State).
Losses sustained within a company
Relief for losses resulting from domestic operations within a single company is automatically granted in all Member States. However, once a company sets up operations in another Member State via a permanent establishment, the taking into account at company head office level of any potential losses sustained by the permanent establishment depends mainly on the method chosen to avoid double taxation in the double taxation agreements concluded between the Member States in question.
The credit method (applied by 12 of the 27 Member States) is characterised by the taking into account of all losses when establishing the worldwide income in the company's home State.
The exemption method excludes foreign income taxed in the source country from the tax base of the head office:
- without deduction of the losses at head office level (applied by 9 of the 27 Member States);
- with (temporary) deduction of the losses of a permanent establishment located in another Member State (applied by 5 Member States).
The Commission strongly encourages those Member States that do not permit the taking into account of losses sustained by permanent establishments in other Member States to review their tax systems in order to promote the freedom of establishment provided for by the EC Treaty.
Losses within a group of companies at domestic level
Since losses are not automatically taken into account within a group of companies in purely domestic situations, 19 Member States have a domestic group taxation scheme in order to treat them as a single economic unit. However, there are eight Member States where there is no such provision.
On the domestic level, there are three different group taxation schemes:
- a system of "intra-group loss transfer" (seven Member States);
- a system of "pooling" of tax results of a group, which involves aggregating all individual tax results (i.e. profits and losses) (eleven Member States);
- full tax consolidation. The results of the group are determined on the basis of a single profit and loss account (one Member State).
Cross-border loss relief within a group of companies
Of the 19 Member States with a domestic system, only four apply a system that allows for cross-border losses to be taken into account.
In the "Marks & Spencer" case, the European Court of Justice was called on to give a judgment on the question of the taking into account of losses sustained by a subsidiary established in another Member State.
The Commission describes three possible options for ensuring a minimum level of cross-border loss relief. However, in practice, only the second and third options seem more likely to be retained:
- "intra-group loss relief", which would involve the definitive transfer of losses or benefits without recovery and without taking future profits into account;
- "deduction/reintegration", which would involve the temporary transfer of losses. The losses of a subsidiary located in another Member State which have been deducted from the results of the parent company are recovered later when the subsidiary becomes profitable again;
- a "system of consolidated profits", which involves loss relief via current taxation of the subsidiary's results. The losses and profits realised during a particular tax year by a member of the group are taken into account for a given period at the level of the parent company. The system would be set up so as to include certain selected subsidiaries of the group (selective system) or all of the group's subsidiaries (complete system).
The Commission's conclusions
The Commission calls upon the Member States to:
- review their tax systems to allow for cross-border loss relief within companies in order to promote the freedom of establishment provided for by Community law;
- introduce and apply domestic tax systems for loss relief within groups of companies, ensuring treatment equivalent to that in place for loss relief within an individual company;
- increase the possibilities for cross-border loss relief within groups of companies.
Further information is available on the European Commission Taxation and Customs Union DG website.