Where to Locate your Treasury Centre in the Extended European Union
The location of a treasury centre of an international grouping is a very strategic and hence important matter. Indeed, various parameters come into play when being confronted with this decision process, such as the corporate tax treatment in the hands of the treasury centre itself, the applicable withholding tax rates and corresponding eligibility to foreign tax credits. Coming to a common denominator of compliance with the transfer pricing rules and documentation requirements of all jurisdictions involved also needs to be considered, as does the appropriate management of thin capitalization rules to make sure a full interest corporate tax deduction in all jurisdictions is safeguarded. Companies must also make sure no adverse impact of certain Controlled Foreign Corporation (CFC) rules arise, and they must look into relevant VAT rules to preserve a maximum input VAT recovery ratio.
It goes without saying that non-tax drivers play an important role as well. Key issues to consider are applicable foreign exchange regulations (including accounting and tax treatment of foreign exchange results, cross-border payment restrictions and/or reporting requirements) and also the presence of sufficient sophisticated personnel and management.
Some recent evolutions clearly affect the decision-making process as regards the location of a treasury centre. For example there is increased EU scrutiny on harmful tax competition (e.g. regarding the tax treatment of Belgian co-ordination centres, Dutch finance companies, Irish international financial services centres (IFSCs), etc.). There is also increased importance placed on the European Court of Justice case law regarding the compliance of EU member states’ legislation with the fundamental EU freedoms (e.g. the various changes to German tax law, especially with respect to thin capitalisation rules). There are some new very relevant EU directives (e.g. the Interest and Royalties Directive and the Amending Directive on Mutual Assistance, e.g. regarding cross-border tax audits) and the fact that – in the light of the discussions governing the Savings Directive – Switzerland is in the process of obtaining access to EU directives as well (as if it was an EU member state). There are also various international efforts to come to a common tax base. Below we will come back to some of these matters and their relevance when choosing a treasury centre location.
As to the essence of a group’s treasury centre, its purpose basically is to use the group’s own funds to finance shortfalls among group members. This can result in various tax benefits. Specifically, to be tax-efficient, interest should be tax-deductible in the hands of the borrowing group members. For this, the requisite documentation has to be available in order to underpin the business nature of the expenses. Furthermore, the documentation also has to demonstrate that the rate of interest is in conformity with open-market conditions. Internal group financing has the advantage that the interest payments (i.e. the cash) remain within the group. Careful upfront planning of a financing structure may result in local withholding tax exemptions on inter-company interest payments. Here, for example, we refer to the EU Interest and Royalty Directive abolishing tax on payments of interest and royalties between associated undertakings from different member states if certain conditions are met. One of the conditions is a minimum shareholding condition of 25 per cent. Note however that some countries are more flexible in implementing this condition in their local tax law. Belgium, for example, allows direct and indirect shareholdings, hence allowing more area for withholding tax optimisation. Also, certain EU accession countries (such as Poland) have negotiated transit periods of up eight years prior to effectively applying exemptions at source. Needless to say this is a very important, since cash-flow driven, element to bear in mind when setting up a treasury scheme.
As regards the preferred country to locate a treasury centre within the extended European Union, note that there is no universal answer to this question and that every case needs to be analyzed taking into consideration its specific context and characteristics. Not the least concern is that employees (with families) who are not relocated from one day to another. Obviously, certain EU accession countries are promoting some valid treasury centre location options. Malta, Cyprus and Hungary (where a deemed interest deduction can be available) are worthwhile to consider. Still, the European Commission has not yet always formally signed-off that these tax regimes are fully compliant with harmful tax competition rules.
In addition, there are a number of traditional examples where the local tax regime offers planning opportunities, such as Ireland, Luxembourg or Switzerland. As treasury management by nature is a cross-border issue, all the various tax legislations of different countries are to be looked into. In order to move (treasury) people today, a swift ruling practice (e.g. Belgium, the Netherlands) may allow keeping back-office services to remain in place while other functions are transferred to another country. Again, a robust structure depends on both careful planning and implementation, embedded with tax-efficient exit strategies.