Fiscal Apartheid

When the Netherlands had transformed its tax ruling regime (see previous blog), the job was not over yet. The OECD and EU also targeted ring-fenced regimes. Ring fencing is the tax equivalent of Apartheid: one set of rules for favoured companies, another set of rules for the rest. It happened that the Netherlands had just introduced an outright discriminatory tax regime on Christmas Eve of 1996, and this of course fell foul of the new criteria.

It so-called the Group Financing Activities regime was a terribly complex, as if it was designed to generate work for tax advisors. It was open only to multinationals present in at least two continents and offered an effective tax rate on interest and royalty income that could be as low as 7%. Nowadays, firms like Google or Über would laugh at that and use another trick to get closer to zero. At the time, however, it was quite attractive for tax-aggressive multinationals.

Because the regime came under fire from the EU after a few years, only some 90 firms were ever admitted to it. Many of those were Dutch multinationals, and the largest ones, such as Ahold and Wolters Kluwer, saved tens of millions of euros per year this way. Ahold panicked when the EU started to scrutinize the regime and immediately moved its treasury centre to Switzerland. Others put up a fight. It took until 2003 before the Dutch government decided to close the regime and officially got rid of its last harmful tax practice.

That was not the real end of it, though. For firms that were already using the regime, it remained in existence until 31 December 2010. So with hindsight, Ahold panicked too soon. The slow phasing out was a bit bizarre, if you think of it. Just imagine the EU forces a member state to abolish forced labour by prisoners, because it considers that a harmful practice. Yet privately owned prisons that are already exploiting inmates can continue to do so for seven more years, otherwise it would be unfair for those prison owners…

Last September, it turned out the Dutch fiscal Apartheid regime had a terrible by-effect. This came to light when a special investigation committee of the European Parliament requested Jean-Claude Juncker, the former prime minister of Luxembourg, to release the complete so-called Krecké report. This report dates from 1996 and contains sensitive information about Luxembourg’s tax ruling system. At first, one page of the report was missing. Two weeks later, Juncker magically produced the missing page, which referred to tax competition with other European countries and explicitly highlighted the Group Financing Activities regime that was being introduced in the Netherlands.

This prompted Luxembourg to set up its harmful tax ruling practice, which provided secret tax advantages to hundreds of large firms until the practice was uncovered through Luxleaks two years ago. (Apparently, the OECD and EU overlooked this practice when they produced their lists of harmful tax practices in 1999-2000. Oops!)

The shocking truth: it is very well possible that if the Netherlands had not introduced its Group Financing Activities regime, Luxembourg would not have started making secret sweethart tax deals.

Read what replaced the Group Financing Activities regime in the following blog: Dutch tax innovation