In this article, Aki Corsoni-Husain and Andrew Knight look at the movement by the Cypriot government towards implementation of DAC 6, and discuss the features of the draft bill currently in progress.
European Council Directive 2018/822/EU of May 25, 2018 (DAC 6) represents the biggest shake-up of rules on automatic exchange of information (AEOI) in the EU since the imposition of the Common Reporting Standard (CRS) back in 2014. However, unlike the CRS which targets financial institutions, DAC 6 has its focus on mandating disclosure from “intermediaries” involved in cross-border tax arrangements with their clients.
Many intermediaries, including law firms, accountants and auditors, have until now broadly not needed to report tax information periodically since they fall outside the “financial institution” definition under the CRS. That time is about to end. The European Commission has made it clear that it sees intermediaries at the heart of aggressive tax planning.
What is DAC 6?
“DAC 6” stands for the Directive on Administrative Cooperation in (direct) taxation in the EU, volume 6. It operates as the sixth amendment to the long-running series of directives designed to encourage cross-border information exchange in the EU. The CRS, for example, was implemented in the EU in 2014 under “DAC 2.”
DAC 6 is the part of the DAC series which provides for mandatory disclosure of reportable cross-border tax arrangements (RCBAs).
The background for the implementation of DAC 6 by the EU is of course the ongoing international tug-of-war between the Organization for Economic Co-operation and Development (OECD) under its framework on Base Erosion and Profit Shifting (BEPS), in particular Action Plan 12, and the ever-growing prominence of low or no tax international finance hubs that look to the increasing commoditization of international finance.
Where Does Cyprus Fit in this Puzzle?
Despite being the third smallest member state in the EU in terms of landmass and population (only Luxembourg and Malta are smaller) Cyprus punches well above its weight in any discussion about international finance and cross-border tax planning arrangements. This is mostly due to Cyprus’s continued position as the prime location in the EU for cross-border investment flows from the former eastern bloc and Middle East. Its corporate income tax, at a flat rate of 12.5%, continues to be one of the lowest in the EU. As such, when the Cypriot government moves to implement BEPS rules—including DAC 6, the regional and EU financial services industry listens intently.
Has Cyprus Implemented DAC 6?
Not yet, is the short answer.
Standard principles of EU law require that EU directives be implemented by member states through local laws in order to be locally applicable. In Cyprus such laws are typically implemented through the passing of primary legislation. Indeed, “DAC 1” was implemented in Cyprus through the predictably named Administrative Cooperation in the Field of Taxation Law 2012 (the AC Law). DACs 2–5 were also predictably implemented in Cyprus through amendments to the AC Law from 2014 to 2018. DAC 6 is expected to be implemented as the latest exciting edition to the AC Law, namely under the Administrative Cooperation in the Field of Taxation (Amendment) Law 2019 (AC19 Law).
The Cypriot Tax Department, a division of the Ministry of Finance, launched a public consultation on the AC19 Law on October 21, 2019. As part of the consultation, a draft bill was put into public circulation, albeit only in Greek, with a request for comments to be submitted to the tax department by November 12, 2019. In spite of the government’s intention to have the AC19 Law passed within the deadline for transposition of DAC 6, namely by December 31, 2019, it did not meet that deadline and at the time of writing, the law remains to be enacted. It is the understanding of the authors, that the bill is expected to come onto the statute books in Cyprus towards the end of January 2020.
Does DAC 6 have any Practical Effect yet?
Although the AC19 Law, when passed, will not be formally in play until July 1, 2020, in reality DAC 6 is, sort of, already in force across the EU, as of June 25, 2018, which was the 20th day following publication of DAC 6 in the EU’s Official Journal.
This is an interesting take on the concept of the implementation of EU directives: whilst the precise way in which DAC 6 is implemented has yet to be finalized, the actual date of effective implementation has already occurred. Intermediaries subject to the directive’s mandatory disclosure rules will be required to consider whether a cross-border tax arrangement that has existed since June 25, 2018 might be reportable—even though, bizarrely, the precise rules on which to determine this at member state level are not in force.
In practical terms, the best way to think about this is that DAC 6 implementation is retroactive in application, although that is disputed by the European Commission.
What is the Disclosure Requirement under DAC 6/Draft AC19 Law?
Under DAC 6 “intermediaries” are subject to reporting requirements. An intermediary is any person:
- that designs, markets, organizes or makes available for implementation or manages the implementation of an RCBA); or
- that provides, directly or by means of other persons, aid, assistance or advice with respect to designing, marketing, organizing, making available for implementation or managing the implementation of an RCBA.
Intermediaries that are involved in that way with RCBAs must report information on the RCBA to their tax authorities: it is here that DAC 6 resembles a form of AEOI similar to the CRS. There will then be automatic exchange of that information with other EU tax authorities.
In certain situations, the obligation to report can fall on the taxpayer itself, such as where an intermediary is a non-EU person (which is narrowly defined), where no intermediary is involved—such as where an RCBA is arranged in-house—or where an intermediary does not disclose owing to legal professional privilege.
What is a Reportable Cross-Border Arrangement?
An arrangement will be considered “cross-border” where at least one of the participants is based in the EU (and regardless of the location of other participants).
An arrangement may be “reportable” where it contains at least one of the “hallmarks” outlined below. These are loosely designed as indicators of presumed aggressive tax avoidance by the EU. The hallmarks are themselves broken down into five sub-categories:
- Hallmark category “A”: arrangements whose tax benefits are subject to confidentiality arrangements, that give rise to performance fees or mass marketed schemes;
- Hallmark category “B”: arrangements such as the contrived acquisition of loss-making companies, the conversion of income into capital or other forms of income, or so-called circular transactions;
- Hallmark category “C”: arrangements that give rise to tax deductions without a corresponding amount of taxable income, to certain double reliefs or deductions, or other mismatches;
- Hallmark category “D”: arrangements that have the effect of undermining the CRS or the rules on identification of beneficial ownership;
- Hallmark category “E”: arrangements concerning transfer pricing.
Certain hallmarks will only be satisfied if an additional “main benefit test” is satisfied. To satisfy the test, one of the main objectives of the arrangement must be to obtain a tax advantage.
As will be appreciated, the above tests are not only imprecisely drafted but require a significant degree of judgment to determine if they apply. Multiply the possibility of national competent authorities across the EU taking different views, and it is inevitable that there will be a patchwork approach to enforcement.
What Happens if there are Multiple Intermediaries?
This will frequently be the case, and spanning more than one EU country. DAC 6 has painted a picture of an ideal world where all the intermediaries cooperate with one another and take the same view on what is reportable, and where a single intermediary is charged with the reporting. Unfortunately, unless the client or its trusted adviser takes a strong lead in coordinating the DAC 6 exercise, the presence of multiple intermediaries is likely to lead to multiple reporting.
Are there any Special Features of Cypriot Implementation?
In line with Cypriot public policy, DAC 6 is being implemented under the AC19 Law on a “copy-out” basis. That means no super-equivalence or “gold-plating” should exist. Based on the draft AC19 Law in circulation:
- Domestic tax planning arrangements will be out of scope. For an arrangement to be caught, it will need to have a cross-border element.
- Only direct taxation, such as income tax, is relevant for the purposes of determining tax planning arrangements within scope. For example, tax planning in relation to value-added tax would remain out of scope.
- Legal professional privilege (LPP) is adopted fully as a limitation on the disclosure obligation. LPP in Cyprus is broadly determined in line with English common law principles.
Detail aside, perhaps the most striking difference between the implementation in Cyprus and other member states is that the penalties for non-compliance are set at a relatively very low level of around 20,000 euros ($22,300) (per transaction/arrangement). Penalties in other member states can easily reach six- or even seven-figure numbers.
DAC 6 intends the disclosure of information on arrangements in the EU to occur in a harmonized way. However, much of DAC 6 may draw in disclosures which have little, if anything, to do with tax planning and the breadth of subjectivity and ambiguity of underlying concepts make harmonization seem somewhat aspirational.
However, criticisms aside, DAC 6—as with the CRS before it—is here to stay. Intermediaries will require robust corporate governance policies to be put in place. The clock continues to tick loudly.
Reproduced with permission from Daily Tax Report: International, Published 17 January 2020. Copyright _ 2020 by The Bureau of National Affairs, Inc. (800-372-1033) bna.com.