The European Commission has concluded that Ireland gave illegal tax benefits to technology giant Apple that were worth up to €13 billion (roughly $14.6 billion U.S). It says the tax breaks were unlawful because they allowed Apple to pay substantially less tax than other businesses and Ireland must now recover “the illegal aid.”

“Member States cannot give tax benefits to selected companies. This is illegal under EU state aid rules,” Commissioner Margrethe Vestager, in charge of competition policy, said in a statement. “This selective treatment allowed Apple to pay an effective corporate tax rate of 1 per cent on its European profits in 2003, down to 0.005 per cent in 2014."

Following an in-depth state aid investigation launched in June 2014, the European Commission concluded that two tax rulings issued by Ireland to Apple “substantially and artificially lowered” the tax paid by Apple in Ireland since 1991. The rulings endorsed a way to establish the taxable profits for two Irish incorporated companies of the Apple group (Apple Sales International and Apple Operations Europe), “which did not correspond to economic reality.”

The tax treatment in Ireland enabled Apple to avoid taxation on nearly all profits generated by sales of Apple products in the entire EU Single Market, due to the company’s decision to record all sales in Ireland rather than in the countries where the products were sold. “This structure is however outside the remit of EU state aid control,” a Commission statement says. If other countries were to require Apple to pay more tax on profits of the two companies over the same period under their national taxation rules, this would reduce the amount to be recovered by Ireland.

The Commission can order recovery of illegal state aid for a ten-year period preceding its first request for information in 2013. Ireland must now recover the unpaid taxes in Ireland from Apple for the years 2003 to 2014 of up to €13 billion, plus interest.

Think different (about taxes)

The European omission report dissects the tax-sheltering arrangement in detail.

Apple Sales International and Apple Operations Europe are two Irish incorporated companies fully-owned by the Apple group, ultimately controlled by the U.S. parent, Apple Inc. They hold the rights to use Apple's intellectual property to sell and manufacture Apple products outside North and South America under a “cost-sharing agreement” with Apple Inc. Under this agreement, Apple Sales International and Apple Operations Europe made yearly payments to Apple in the U.S. to fund research and development efforts conducted on behalf of the Irish companies in America. Te payments amounted to approximately $2 billion (U.S.) in 2011 and significantly increased in 2014.

The expenses, mainly borne by Apple Sales International, funded more than half of all research efforts by the Apple group in the U.S. to develop its intellectual property worldwide. They were deducted from the profits recorded by Apple Sales International and Apple Operations Europe in Ireland each year.

The taxable profits of Apple Sales International and Apple Operations Europe in Ireland are determined by a tax ruling granted by Ireland in 1991, which in 2007 was replaced by a similar second tax ruling. This tax ruling was terminated when Apple Sales International and Apple Operations Europe changed their structures in 2015.

Apple Sales International is responsible for buying Apple products from equipment manufacturers around the world and selling these products in Europe (as well as in the Middle East, Africa and India). “Apple set up their sales operations in Europe in such a way that customers were contractually buying products from Apple Sales International in Ireland rather than from the shops that physically sold the products to customers,” the Commission wrote. “In this way Apple recorded all sales, and the profits stemming from these sales, directly in Ireland.”

The two tax rulings issued by Ireland concerned the internal allocation of these profits within Apple Sales International (rather than the wider set-up of Apple's sales operations in Europe). Specifically, they endorsed a split of the profits for tax purposes in Ireland. Under the agreed method, most profits were internally allocated away from Ireland to a “head office” within Apple Sales International.

The Commission says that this “head office” was not based in any country and did not have any employees or own premises. Its activities consisted solely of occasional board meetings. Only a fraction of the profits of Apple Sales International were allocated to its Irish branch and subject to tax in Ireland. The remaining vast majority of profits were allocated to the "head office", where they remained untaxed. Only a small percentage of Apple Sales International's profits were taxed in Ireland, and the rest was taxed nowhere.

Under provisions of the Irish tax law no longer in force, Apple only paid an effective corporate tax rate that declined from 1 percent in 2003 to 0.005 percent in 2014 on the profits of Apple Sales International. In 2011, for example, Apple Sales International recorded profits of U$22 billion (U.S.), but only €50 million was considered taxable in Ireland.

Apple Operations Europe benefitted from a similar tax arrangement over the same period of time. The company was responsible for manufacturing certain lines of computers for the Apple group. The majority of the profits of this company were also allocated internally to its "head office" and not taxed.

Beyond comfort letters

“Tax rulings as such are perfectly legal,” the Commission wrote. “They are comfort letters issued by tax authorities to give a company clarity on how its corporate tax will be calculated or on the use of special tax provisions.” The role of EU state aid control, however, “is to ensure Member States do not give selected companies a better tax treatment than others, via tax rulings or otherwise.”

The Commission can only order recovery of illegal state aid for a ten-year period preceding the Commission's first request for information in this matter, which dates back to 2013. The recovery period stops in 2014 because Apple changed its corporate structure in Ireland as of 2015 and the 2007 ruling no longer applied.

Since June 2013, the Commission has been investigating tax ruling practices and extended inquiries to all Member States in December 2014. In October 2015, the Commission concluded that Luxembourg and the Netherlands had granted selective tax advantages to Fiat and Starbucks, respectively. In January 2016, it concluded that selective tax advantages granted by Belgium to least 35 multinationals under its "excess profit" tax scheme were illegal under EU state aid rules. The Commission also has two ongoing in-depth investigations into concerns that tax rulings in Luxembourg for Amazon and McDonald's may give rise to state aid issues.

Penning an iProtest

In an open letter posted to Apple’s website, CEO Tim Cook protested the decision.

“The European Commission has launched an effort to rewrite Apple’s history in Europe, ignore Ireland’s tax laws and upend the international tax system in the process,” he wrote. “The opinion issued on Aug. 30 alleges that Ireland gave Apple a special deal on our taxes. This claim has no basis in fact or in law. We never asked for, nor did we receive, any special deals. We now find ourselves in the unusual position of being ordered to retroactively pay additional taxes to a government that says we don't owe them any more than we've already paid.”

The Commission’s move is “unprecedented and it has serious, wide-reaching implications,” Cook added. “It is effectively proposing to replace Irish tax laws with a view of what [it] thinks the law should have been. This would strike a devastating blow to the sovereignty of EU member states over their own tax matters, and to the principle of certainty of law in Europe. Ireland has said they plan to appeal the ruling and Apple will do the same. We are confident that the Commission’s order will be reversed… Using [its] theory, every company in Ireland and across Europe is suddenly at risk of being subjected to taxes under laws that never existed.”

The tax ruling has created political ripples in the U.S.

“This decision is awful,” House Speaker Paul Ryan (R-Wis.) said in a statement. “Slamming a company with a giant tax bill—years after the fact—sends exactly the wrong message to job creators on both sides of the Atlantic. It's also in direct violation of many European countries' treaty obligations. This is precisely the kind of unpredictable and heavy-handed taxation that kills jobs and opportunity.”

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