There is a clear need for more European tax coordination and harmonisation, argues Markus Ferber

In a Single Market based on cross-border economic activity, tax policy decisions taken by one Member State can have major implications for other Member States, says FISC Committee vice chair

By Markus Ferber MEP

Markus Ferber (DE, EPP) is a vice chair of the European Parliament’s Subcommittee on Tax Matters (FISC)

21 Dec 2021

In the European Union’s multi-level governance structure, tax policy is primarily a prerogative of Member States.

Nonetheless, in a Single Market that is based on the idea of cross-border economic activity, tax policy decisions taken by one Member State can have implications for other Member States or at the very least for economic actors that operate cross-border.

A certain degree of policy coordination or even harmonisation is therefore desirable to prevent problems such as legal uncertainty, red-tape, double taxation and difficulties claiming tax refunds, all of which can ultimately dissuade companies and citizens from engaging in cross-border economic activity.

At the same time, tax policy fragmentation combined with a lack of cooperation among tax authorities might facilitate arbitrage possibilities and aggressive tax planning to the detriment of European taxpayers.

Small and medium-sized enterprises (SME) suffer the most from a lack of tax policy coordination. Tax compliance costs do not fully scale with an enterprise’s overall growth and are therefore significantly more noticeable for smaller companies than for larger ones.

Some Member States attempt to compensate SMEs for the challenges they face in relation to higher tax compliance costs by setting up favourable tax regimes for smaller companies.

"A certain degree of policy coordination or even harmonisation is therefore desirable to prevent problems such as legal uncertainty, red-tape, double taxation and difficulties claiming tax refunds, all of which can ultimately dissuade companies and citizens from engaging in cross-border economic activity"

While support to SMEs is generally welcome, such measures come with a certain risk of potentially introducing new distortions, such as incentivising companies to stay small.

Therefore, the benefits of such preferential regimes need to be carefully weighed against any potential downsides.

Another option aimed at facilitating cross-border economic activity is harmonising the tax base as put forward in the European Commission proposal for a Common Consolidated Corporate Tax Base (CCCTB)) as well as the upcoming Commission initiative ‘BEFIT - Business in Europe: Framework for Income Taxation’.

While there is a clear case for better tax policy coordination across the EU, the EU primarily has ‘soft law’ instruments available to establish tax policy coordination.

The most important ones are the Code of Conduct Group for Business Taxation, country-specific recommendations in the context of the European Semester as well as legislative procedure subject to unanimity voting in the Council.

While the EU’s toolkit is somewhat limited, the ideal level for tax policy coordination is the global level. If history is any guide, policy proposals emanating from OECD discussions often have a higher likelihood of being adopted in the Council.

We can only hope that this applies equally to the agreement just reached at OECD level that introduces both, a minimum corporate tax rate of 15 percent and a new system for the distribution of tax revenues that should factor in the challenges of the digital economy.

However, there is clearly a need for tax policy reform that goes beyond the topics raised by the OECD.

"Sometimes, the difficult legislative procedure is the only way to get there, but in other cases, the European Commission could already achieve a lot by delivering clear guidance. Either way, there is a clear case for the Commission to step up its game around tax policy"

One challenge is certainly the infamous debt-equity bias: The corporate tax systems in most Member States are set up in a way that allow for generous tax deductions of debt-servicing costs, while having no similar mechanism for deducting equity financing costs, thus making debt-financing comparatively more attractive than equity financing.

The different tax treatment of contrasting financing channels might incentivise companies to overleverage making them less resilient in a crisis. To counter that problem, some Member States have introduced an allowance for corporate equity. However, a European approach would perhaps be more sensible to avoid distortions across the Single Market.

Another area that deserves some attention is that of tax incentives for research and development. Research and development spending comes with obvious benefits for society and the economy as it encourages innovation and ultimately results in more competition, falling prices and more choices.

Considering the envisaged transition towards climate neutrality, we need more research and development in Europe. Many Member States have attempted to stimulate additional investments in research and development by providing tax incentives.

However, there are doubts that all tax incentives in this area are equally effective. IP box and patent box low-tax regimes in particular have historically done little to boost additional research and development spending, but have, on the contrary, introduced new distortions to the Single Market.

A joint understanding of Member States how to handle tax incentives for research and development would therefore be worthwhile.

As the above examples illustrate, there is a clear need for more European tax coordination and harmonisation in order to avoid the adverse effects of national tax reforms on the Single Market.

Sometimes, the difficult legislative procedure is the only way to get there, but in other cases, the European Commission could already achieve a lot by delivering clear guidance.

Either way, there is a clear case for the Commission to step up its game around tax policy.

Read the most recent articles written by Markus Ferber MEP - EU must step up the fight against dirty money

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