European Union, Apple, and Ireland tax

At the end of August the European Commission—the EU’s executive body—ordered U.S. technology giant Apple to pay the Irish government €13bn (U.S. $14B) for a decade’s worth of back taxes, a sum equivalent to all of the country’s healthcare budget, or two-thirds of its annual social welfare bill.

Unsurprisingly, Apple does not want to pay (though with estimated cash reserves of U.S. $200B it can easily afford to). More surprisingly—the Irish government doesn’t want the money anyway.

As Apple CEO Tim Cook duly noted: “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.”

Apple had been in the Commission’s sights even before June 2014, when it launched its investigation into whether Ireland’s tax treatment of the company was effectively tantamount to state aid, which is illegal under EU rules. On 30 August the Commission confirmed that it was.

Commissioner Margrethe Vestager, in charge of competition policy, said that Ireland had granted illegal tax benefits to Apple, which enabled it to pay substantially less tax than other businesses for decades. In fact, this selective treatment allowed Apple to pay an effective corporate tax rate of 1 percent on its European profits in 2003—down to 0.005 percent in 2014.

"Member States cannot give tax benefits to selected companies—this is illegal under EU state aid rules,” said Vestager.

The Commission concluded that two tax rulings that Ireland issued to Apple in 1991 and 2007 helped to “substantially and artificially” lower the company’s tax bills for 22 years (at least). The rulings allowed Apple to channel all of its profits from EU sales (as well as sales from the Middle East, Africa, and India) to its two Irish incorporated companies (Apple Sales International and Apple Operations Europe). These companies then allocated the vast majority of the profits to a “head office”—which the Commission found “existed only on paper.” These profits were not subject to tax in any country under specific provisions of the Irish tax law—a technique known colloquially as “double Irish with a Dutch sandwich”—that were then in place but which since 2015 are no longer in force. Companies that used such provisions will have until 2020 to come up with an alternative.

“Member States cannot give tax benefits to selected companies—this is illegal under EU state aid rules.”

Margrethe Vestager, Commissioner, European Commission

Consequently, only a small percentage of Apple Sales International’s profits were taxed in Ireland—the rest were taxed nowhere, and so escaped taxation altogether. According to figures released at U.S. Senate public hearings in 2013—which alerted the Commission to the problem—Apple Sales International recorded profits of €16bn (U.S. $17B) in 2011, but under the terms of Ireland’s tax ruling, only around €50m (U.S. $54M)was considered taxable, leaving €15.95bn (U.S. $17.35B) of profits untaxed. As a result, Apple Sales International paid less than €10m (U.S. $10.87) of corporate tax in Ireland for that year—an effective tax rate of about 0.05 percent on its overall annual profits. This decreased further to only 0.005 percent in 2014. The usual corporate tax rate for every other company in Ireland is 12.5 percent—some 2,500 times more.

However, Apple’s CEO is adamant that the company pays its fair share. “As responsible corporate citizens … we have become the largest taxpayer in Ireland, the largest taxpayer in the United States, and the largest taxpayer in the world.”

Not everyone agrees—especially in Europe. Professor Arturo Bris, director of Switzerland-based business school IMD’s World Competitiveness Center, finds it “outrageous that Apple’s tax rate in 2015 was 0.005 percent,” adding that the company’s tax rate is “infinitesimal compared to the personal tax rates faced by any of its customers or employees.” “Apple and other multinationals … are clearly avoiding taxes to increase their competitiveness all at the expense of the countries where they operate,” he says.

APPLE V. THE EUROPEAN COMMISSION

At the core of the argument between Apple and the European Commission is the notion of which countries should receive the company’s tax payments.
Apple believes that a company’s profits should be taxed in the country where the value is created: in Apple’s case, nearly all of its research and development takes place in California, so the vast majority of the company’s profits, it says, are taxed in the United States. The Commission, on the other hand, believes that companies must pay tax where they make their profits.
The Commission has been pushing for more tax transparency in recent years, including country-by-country reporting for corporates to follow, and better information sharing between governments.
—Neil Hodge

It is not hard to see why the Commission took a bite out of Apple. The tax treatment that Apple received in Ireland enabled the technology company to avoid taxation on almost all profits generated by sales of its products throughout the entire European Union.

In some respects, Apple got off lightly: The tax bill could have been a lot more. The Commission can only order recovery of illegal state aid for a ten-year period preceding the Commission’s first request for information in 2013. Since Apple had enjoyed the benefits of a tax ruling from 1991, there was potentially another 12 years of unpaid tax it could have been liable for.

Tax rulings as such are perfectly legal. They are comfort letters issued by tax authorities to give a company clarity on how its corporate tax will be calculated, or how special tax provisions can be used. This decision does not call into question Ireland’s general tax system or its corporate tax rate, says the Commission.

Furthermore, there are no fines under EU state aid rules and recovery does not penalise the company in question—it simply restores equal treatment with other companies. As a matter of principle, EU state aid rules require that incompatible state aid is recovered “in order to remove the distortion of competition created by the aid.”

Ireland can appeal the Commission’s decision—and the government has said it intends to—but it must still recover the illegal state aid in the meantime pending the outcome of the EU court procedures.

Ireland’s generous tax treatment of Apple is not the only case that the Commission has investigated. In October 2015 the Commission concluded that Luxembourg and the Netherlands had granted selective tax advantages to Fiat and Starbucks, respectively. In January 2016 the Commission found that Belgium’s award of selective tax advantages to at least 35 multinationals (mainly from the European Union) under its “excess profit” tax scheme are illegal under EU state aid rules.

The Commission also has two ongoing investigations over whether tax rulings regarding Amazon and McDonald’s may give rise to state aid issues in Luxembourg.

The Commission’s verdict has a number of ramifications for Apple. Firstly, its tax affairs are firmly under the global spotlight, and secondly, there is the possibility that even if Ireland wants to appeal the decision—which it does—other countries could claim part of the €13bn (U.S. $14B) tax pot if they can show that the company’s sales (and other activities) “could have been recorded in their jurisdictions.” This could even include the United States, which could force Apple to pay more back to the parent company. Therefore, Apple is still likely to take a multibillion dollar hit while probably waiting years for another decision.

Apple attacked the verdict immediately. CEO Tim Cook wrote in an open letter on 30 August that “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 added that the Commission’s move is “unprecedented” and has “serious, wide-reaching implications” that effectively propose to “replace Irish tax laws with a view of what the Commission thinks the law should have been.” Cook believes that 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.”

“Beyond the obvious targeting of Apple, the most profound and harmful effect of this ruling will be on investment and job creation in Europe,” says Cook. “Using the Commission’s theory, every company in Ireland and across Europe is suddenly at risk of being subjected to taxes under laws that never existed.”

Apple has engaged law firm Freshfields to help appeal the Commission’s decision.

Other influential political and corporate bodies have also waded into the argument, which has turned into another EU vs U.S. spat. The U.S. Treasury has said that retroactive tax assessments by the European Union are “unfair” and has warned that the ruling could undermine foreign investment in Europe. The White House has said that the decision amounts to “a transfer of revenue from U.S. taxpayers to the EU.”

John Engler, president of Business Roundtable, an association of CEOs of leading U.S. companies such as General Electric, JP Morgan Chase, Exxon Mobile, and Johnson & Johnson, released a statement calling the Commission’s finding “the latest act of aggression by the EU against a law-abiding U.S. company and sovereign government.”

The statement went on to say that “following the law is no longer enough for globally engaged American companies; a unilateral decision from a European regulator now has the potential to leave them with a ‘retroactive’ tax burden that they were never required to pay in the first place.”

Engler then warned that “the European Commission must cease this reckless and dramatic overreach that constitutes a new and dangerous form of protectionism, which will have a chilling effect on global investment across Europe.”

The Commission’s finding against Apple has also afforded the Business Roundtable and other U.S. business groups to take a swipe against the U.S. tax regime as well. Engler’s statement says that the U.S. tax system “excessively raises the costs for U.S. companies when they seek to bring profits from foreign sales back to the United States,” as tax is payable at 35 percent when profits are repatriated—which is why many U.S. companies leave them overseas.

The Irish government is also nervous about how the Commission’s ruling may impact the country’s reputation for being business-friendly, especially as it is home to other large technology firms such as Twitter, Facebook, and Google. The country has faced accusations in the past of acting like a tax haven. Finance Minister Michael Noonan “profoundly disagrees” with the Commission’s decision and has said that Ireland would appeal the ruling “to defend the integrity” of the country’s tax system.

French Caldwell, chief evangelist at MetricStream, an IT software provider that specialises in governance and compliance, believes that the ruling could have a detrimental impact on some companies based in Ireland. “Other companies are likely to be affected by the decision. The Commission’s ruling sets the law for now, even while appeals are in progress, and it’s not known which other companies the Irish government has similar arrangements with.”

Crawford Spence, Professor of Accounting at Warwick Business School in the United Kingdom, says that “tax rates in Ireland are still very low, so that is still attractive for companies,” adding that not many businesses will be put off from investing there due to the Commission’s ruling because “it is unlikely that such privileges would have been extended to large numbers of companies.” He warns, however, that it will be “less likely that big companies set up big operations there” given that “special sweetheart deals are now more difficult to strike.”

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