Novel EC ruling won’t scare away international businesses but has reignited debate on how to tax them

The European Commission decision on Apple has effectively disregarded Irish tax law. But it is only the beginning of a lengthy legal process, writes William Fogarty

THE European Commission’s conclusion that Ireland must recover unpaid tax from Apple — up to €13bn, plus interest — is the result of a political and economic battle between the world’s two largest trading blocs, with Ireland caught in the middle. The decision has been described by Apple’s CEO Tim Cook as an effort to rewrite Irish tax law and upend the international tax system. The Irish Revenue Commissioners have said the decision defies common sense. However, at its heart, it is ultimately a legal question as to whether the Commission is correct when it makes findings of this nature.

The starting point, from an Irish legal perspective, is that Apple was subject to Irish tax under the rules as they stood at the time. The Commission has decided that Ireland’s tax rules, and how it implemented them, were illegal. As a result, they have effectively disregarded Irish tax law and restated Apple’s Irish tax bill.

The Commission’s decision is principally about transfer pricing. These are rules developed by the OECD and implemented into the national laws of many countries.

Under transfer pricing, companies which trade with other members of the same corporate group calculate their taxable profits using prices which are equivalent to those charged by independent third parties (the ‘arm’s length’ basis of pricing).

This is intended to prevent groups from using internal arrangements to divert their profits towards low-tax countries. Prior to 2010, Ireland did not have such rules.

In 1991 and 2007, Ireland agreed to tax Apple under the applicable Irish rules. Apple’s only Irish income was the relatively small amount generated by the Apple branch in Cork. As the remainder of Apple’s income was (and continued to be) generated outside Ireland, it was not subject to tax here.

In determining the profits of the Cork branch, Ireland did not subject Apple to a formal transfer pricing exercise. Such rules did not exist in Ireland.

They were not applied in the case of Apple or any other company operating in Ireland. This was not a secret and could be learned in the first few pages of any Irish tax guide. The Commission has now decided that Irish law, as it applied to Apple, was contrary to EU law. Ireland should have calculated Apple’s taxable income for the last 25 years using a formal transfer pricing regime. The obscure art of transfer pricing is elevated to a core requirement of EU membership. The Commission has calculated that about 60pc of Apple’s non-US profits should be attributed to, and taxed, in Ireland. Ireland’s failure to collect this tax constituted illegal State aid and this must be recovered from Apple. The retrospective nature of the fine has led to the Commission being accused of imposing taxation under the guise of the EU competition law.

The clarity and certainty of the Commission’s press release belies the novelty of its position. Transfer pricing is not referred to in the EU treaties. Based on other decisions, the Commission appears to justify its view by reference to two paragraphs from a 2006 European Court of Justice decision which involved Belgian back-office hubs or “coordination centres”.

In 2016, those brief extracts have morphed into the Apple decision. It is something which practitioners, governments, tax authorities and companies would have struggled to comprehend during the periods for which Apple’s tax position is being reviewed.

To illustrate this point, imagine that the Irish Revenue had contacted the Commission in 1991 and asked, “can you tell us how to apply transfer pricing please? We don’t appear to have any Irish rules on it.” They would have been met, at best, with a mystified response.

There is a risk that this issue is viewed as being an Irish story. It isn’t. The decision in

relation to Apple is one of a series emerging from a European Commission investigation into tax rulings.

Initially this focused on whether countries offered “secret deals” to multinationals. However, Ireland, Luxembourg, the Netherlands and perhaps other countries, are finding that key parts of their tax laws, which were considered an issue of national sovereignty, breach EU competition law.

Unsurprisingly, arguments over retrospective tax, national sovereignty and logic are being employed by other countries in their appeals before the European Courts.

One final question is how this could impact other technology companies in Ireland. It is important to say that these are EU competition law investigations, not investigations into the general Irish tax regime.

This is not a direct challenge to Ireland’s general taxation regime, or the 12.5pc corporate tax rate.

In the Commission’s own words “…the decision does not call into question Ireland’s general tax system or its corporate tax rate.”

In addition, the structure involved in the Apple case is being consigned to the history books. According to the Commission’s decision, Apple itself ceased to use the structure in 2014 and, as a result of unilateral changes to the Irish tax code, it is unavailable to new companies and is being phased out.

Ireland’s attractions as a low-tax and business-friendly economy should remain, and although we face challenges, it is encouraging that new international business continues to establish and expand their operations here.

In summary, there is much about the Apple decision which appears novel and controversial as a legal matter.

This is not the end of the road. It is only the beginning of a lengthy legal process. At the time of writing, the Commission has not yet made its written decision publicly available. That alone could take several months. The European Court of Justice will take several years to provide its view on any appeal.

The direct impact of the case on other Irish companies is likely to be small. However, the political and economic debate between the EU, the US and other countries as to how best to tax international business has certainly been reignited.

William Fogarty is a tax partner at Maples and Calder with extensive cross-border experience in corporate and finance transactions. The views expressed are those of the author and no other person