The Interest Limitation Rule under the Anti-Tax Avoidance Directive

ATAD and BEPS:
In 2016, the European Union adopted the Anti-Tax Avoidance Directive ("ATAD") to combat "aggressive tax planning" as part of the Anti-Tax Avoidance Package. Article 4 of the ATAD includes an Interest Limitation Rule ("ILR") based on the recommendations set forth in Action 4 of the OECD's Base Erosion and Profit Shifting ("BEPS") project.

Article 4 of the ATAD
Under Article 4 of the ATAD, exceeding borrowing costs of corporate taxpayers (entities subject to corporate income tax in an EU Member State) are deductible in the tax year they incurred up to 30 % of the taxpayer's earnings before interest, tax, depreciation and amortisation (EBITDA). However, up to EUR 3 million of such costs remain fully deductible. For the purpose of the ATAD, "exceeding borrowing costs" is defined as the amount by which the deductible borrowing costs of a corporate taxpayer exceed taxable interest revenues and other economically equivalent taxable revenues that the taxpayer receives according to national law.

Aim of Article 4
The main goal of the ILR is to prevent groups of companies engaging in BEPS through excessive interest payments by limiting interest deductibility. That way it should no longer be possible to shift borrowing costs to high-tax countries (to reduce the taxable profits) while at the same time shifting profits to countries with low tax rates.

Calculation of EBITDA under ATAD
Article 4 para 2 of the ATAD provides a calculation mechanism for EBITDA using amounts that are adjusted for tax purposes. These amounts differ from the amounts determined for accounting purposes.

Carry-forward / Carry-back
EU Member States may implement different regimes to carry forward and/or back exceeding borrowing costs which cannot be deducted in the current tax year. Since Austrian tax law generally does not provide carry-back options, Austria is likely to choose a carry-forward option when implementing the ATAD.

Effective date
Member States must implement the ATAD's interest limitation rules into domestic law by 31 December 2018 at the latest, so that they are effective from 1 January 2019. Countries that already have national rules that prevent BEPS and are equally effective to the ATAD's ILR, may delay implementation until 1 January 2024.

Situation in Austria
Austrian tax law currently prohibits the deduction of interest and royalty payments made to group companies in low-tax countries, i.e. ones with an effective tax rate lower than 10 % (sec 12 para 1 no 10 of the Austrian Corporate Income Tax Act – "CITA"). While the Austrian provision only applies to payments made to affiliated companies, the ATAD covers payments made to external companies as well. As Austria considers this prohibition to be of equal effect to the ATAD's ILR, implementation of Article 4 may – subject to the European Commission's pending approval – be delayed until 2024.

Possible changes to Austrian legislation
The prohibition on the deduction of interest and royalty payments under the CITA also covers situations where low taxation is achieved by way of a tax deduction or tax refund. Despite such payments being generally non-deductible, they can still be deducted retrospectively in case no tax reduction or refund took place within five financial years after the payments were made, irrespective of a tax deduction or refund taking place after that five-year period. In order to impede tax abusive structuring, this period will soon be extended to nine years.

ATAD and fundamental freedoms
The ATAD allows EU Member States to introduce exceptions to the ILR, where the taxpayer is part of a group. This exception applies to domestic groups only, which may lead to the adoption of national laws contrary to the fundamental freedoms of the EU, especially the freedom of establishment. It remains to be seen how national laws implementing this exception will be interpreted by the CJEU.

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This article was up to date as at the date of going to publishing on 10 December 2018.