The Taxation Cuts and Issue of Tax-Avoidance in the Netherlands

Introduction

The Netherlands is notorious for awarding generous tax cuts to large multinational enterprises (MNEs). Firms are able to move their profits through Dutch subsidiaries to lower their payable taxes. The European Headquarters of MNE Nike based in Hilversum, takes advantage of this very benefit (Ewing, 2018). In an interview with its financial director, Starbucks admitted to having a special tax agreement with the Dutch government; which has made it very attractive for the company to operate there (HMRC, 2012). Consider how smaller businesses and ordinary citizens are hammered by these tax benefits given to large corporations. If multinationals are able to puppet governments into offering smaller taxes, ordinary citizens and smaller businesses have to bear the cost. In the Netherlands, it is estimated that some middle-class citizens pay more than fifty percent of tax on income. An interesting school for thought is where governments draw the line on taxation. On the one hand, they want to attract multinationals as to benefit the economy with more jobs and investment, but at the same time not damage its relationship with citizens and smaller businesses (Ewing, 2018). To give some idea of the scale of tax-avoidance, therefore warranting its relevance, the HMRC in its most recent report estimated the tax gap for 2016-2017 at £33 billion (HMRC, 2018).

One solution to prevent tax-avoidance is that multinationals should pay taxes in the countries to which they conduct business (Downling, 2013). Under its new proposals, the Dutch government plans to impose levies on profits being stashed into its jurisdictions by large corporations (Ewing, 2018). There is also the possibility to embarrass multinationals by disclosing how much tax they pay (Kobetsky, 2013). A second proposal that will be discussed is a greater simplicity of the tax system (Piper, 2013; Kabinga 2016). The greater the degree of complexity, the greater the opportunity for tax avoidance (Bowler, 2009). These considerations will form the basis of my research question; which will determine ways in which European Union and its jurisdictions such as those in the Netherlands have made progress in stopping tax avoidance.

In arriving to this conclusion, my research will be structured by academic papers and journals. By doing this a cross-country analysis will be used, given the extent of research that exists surrounding this issue. The first section will explain the principles of taxation and introduce how tax-avoiding activities are used by MNEs. An elaboration of both solutions will be discussed, and an explanation for the difficulties in achieving these. Key definitions will also be given; those of tax, tax avoidance and tax-evasion. The second section will consider articles in favour of tax-avoidance. A comparison will be made between tax avoidance and tax evasion, as this is a commonly mistaken idea. The idea that some governments may make it more attractive to engage in tax-avoidance than others, for purposes of investment and economic growth will be given. The third section will focus on progress already made to stop tax-avoidance and a further analysis of the two discussed proposals. Finally, the paper will draw on its final conclusion by considering whether society can expect any big changes in the coming future.

Theoretical Framework

A tax in simple terms can be defined as a levy or contribution to state revenue. Taxes have a number of roles which include the redistribution of income/wealth and raising revenue for government. Its counterpart - tax avoidance - sets out to undermine these principles. This can be defined as an artificial attempt of taxpayers to move themselves outside of the scope of a given tax (Piper, 2013). This will be distinguished from tax evasion. Tax avoidance describes activities which are within the boundaries of the law, whereas tax evasion is illegal. Although the general consensus amongst ordinary citizens is that we must stop tax-avoidance (Ewing, 2018), one article claims that by reducing the complexity of the tax system and encouraging greater simplicity; this can lead to more tax evasive activities. Tax evasion is often substituted for the decreased possibilities of tax avoidance (Neck, Wachter, & Schneider, 2011). In drawing a conclusion from this, a greater simplicity of the tax system to reduce tax avoidance (Piper, 2013) may well lead to more damaging, illegal, tax evasive activities.

The complexity concerned with tax avoidance grows when corporations have operations that cover multiple jurisdictions. The European Union’s 28 member states alone, have 76 differents rates of VAT (Piper, 2013). The question that then occurs is where the payment of tax should occur; whether the profit is to be made at the point of sale, or the jurisdiction with the lowest tax rate (Dowling, 2013). Governments can theoretically only control what happens inside of their own borders, and are therefore unable to intervene with profits that are bundled; for example, into tax havens. An example of this is in the Bahamas and Cayman Islands. This lack of transparency is considered a main barrier to the tax authorities, where the island’s can refuse to cooperate with tax officials (Constantin, Constanta, 2015). Within the EU, Multinational corporation Starbucks - reputable for its tax-avoidance - engages in transfer pricing and other accounting tricks to minimize its payable taxes. Such accounting activities include its interaction with entities in Switzerland and the Netherlands (Campbell, Helleloid, 2016).

In the EU, tax avoidance limits member states from collecting revenues to achieve their social and economic policies. It is estimated that some tens of billions of euros are lost each year. This money could otherwise be used for increased public spending in healthcare and education and for lowering tax-burdens amongst abiding tax payers (Mathe et al., 2017). The problem that legislators face are difficulties in amending the tax system. Not only must new proposals align with existing tax rules, and so sit amongst all other taxes by not contradicting one another; but it must further be well-understood by taxpayers and adhere to simplicity. Taxpayers are more likely to avoid tax rules where there is a fertile ground for complexity. Lack of simplicity and neutrality in a tax system encourages tax avoidance (Piper, 2013). Greater complexity brought about by new legislation can create more loopholes in the existing tax system, and so create a cat and mouse chase between taxpayers and tax collectors (Mirrlees et al., 2010).

In the past, campaigners against tax-avoidance have engaged in tax-shaming schemes which target firms who have allegedly avoided taxes. This scheme shames large-corporations by disclosing how much taxes they pay which attempt to damage their reputation (Lanis, Richardson, Liu & McClure 2018). Although taxes are seen by some as unfair and disproportional, it is important to consider their premise which seeks to benefit all stakeholders (Kerr, 2017). Corporation tax contributes to public sector spending. It is possible that without a strong legal system for collecting taxes, investor confidence in the economy will fall. Therefore tax-avoidance having multiple effects.

For corporations, minimizing tax contributions encourages greater investment and growth (Kerr, 2017). Within any firm, CEOs can be removed for paying higher taxes compared to industry peers (Lanis et al., 2018). Smaller taxes lead to greater revenues and dividends for shareholders. It is argued that by not participating in tax-avoidance, firms operate at a competitive disadvantage (Kerr, 2017). If firms are more tax-efficient then other firms will engage in similar activities creating a domino effect. When there are jurisdictions that offer better tax-deals or safe-havens for corporations, so will tax-avoidance continue to exist.

Tax-avoidance is said to be home to two industries which work together to protect MNEs from paying high taxes. The second of these is tax specialists whom are employed to exploit tax-legislative loopholes and shelter company revenues. Enron by paying $88 million in fees to its tax advisers avoided a check of $2 billion in US taxes (Dowling, 2013). Although one conception is that by employing tax-specialists, lowering company taxes has the ability to create more jobs; in a study of 1000 Australian companies, one scholar concluded that company’s paying less than 25% of corporation tax shed jobs, whilst those paying more than 25% were the job creators (Leigh, 2018).

In the EU, each member state has the ability to employ its own tax system. MNEs within the EU are often granted special tax-preferences which does not extend to domestic firms. This can be seen in Belgium, which offers tax-benefits to MNEs who base their operations there. Because of the nature of their tax base, effective tax rates are close to zero for these benefiting corporations (Bucovetsky, Haufler, 2008). Whilst the discussed tax-discrimination is one form of avoidance, earlier introduced were tax-havens. The purpose of a tax-haven is to attract greater investment and stimulate economic activity within a nation. Countries such as Ireland have benefitted from this given its high inflow of foreign investment. Through empirical analysis, over 1982-1999, countries labelled as tax-havens collectively accounted for 3.3% of annual GDP, whist the world average fell short of 1.4% over the same period. Tax-havens can therefore be seen as outperforming economies with normal tax-bases (Hines, 2005). It is important however to remain cautious when analyzing statistical data, therefore cannot be relied on for complete integrity.

A levied cause for concern is that tax-havens are diverting revenues away from countries offering less attractive tax-benefits to MNEs and large corporations, which will be damaging to economies that abide by fair tax rules and regulations. However, it is important to consider that not all corporations and investors are able to benefit from relocating to tax-havens. For example, firms may simply not earn enough money in order to benefit from low-tax rates. Tax-havens may further exhibit poor economic conditions which make them unable to support anything other than small levels of foreign investment (Hines, 2005). Earlier introduced was the idea of tax-shaming corporations for their tax-avoision activities (Lanis, Richardson, Liu & McClure 2018). It is possible to extend this idea of tax-havens to ordinary taxpayers or citizens, whom may avoid firms altogether should they actively engage in such tax-avoision activities.

Analysis

This section will give a critical analysis of the discussed proposals and the progress that has already been made by jurisdictions such as those in the Netherlands to stop tax-avoidance. This will be aided by concepts given in the theoretical background above. In their conclusions, Kerr (2017) and Piper (2013) propose a simplifying of the tax-system and reduction of complexity to ensure the removal of loopholes in tax-legislation and reduce the potential for creative accounting by tax-specialists. It is by enforcing existing laws, cracking down on tax-avoiders and taking stricter action against MNEs and large corporations that abuse of the system will be deterred. This can be achieved by greater global cooperation between nations, although this is yet to be witnessed.

Vandenhende (2017), discusses a tax reform called Common Consolidated Corporate Tax Base (CCCTB) which he explains is one of the European Commission's (ECs) active plan on tax-avoidance. In the past, MNEs have been able to move profits through subsidiaries for example The Netherlands to avoid paying taxes. He explains that by implementing CCCTB the EU would operate under a Unitary tax system that treats each MNE as a single entity. This in practise makes it more difficult for corporations to avoid taxes. This follows from Piper (2013) and Kerr (2017) adherence for greater simplicity. As earlier cited by Campbell, Helleloid (2016), Starbucks deals with entities in multiple jurisdictions to avoid paying taxes which would be solved through the introduction of CCCTB.

The Taxation and Customs Union (2016) of the EU, as of January 2016, introduced plans for a new Anti-Tax-Avoidance (ATA) directive. The package contains 5 legally-binding measures which all member states were obliged to comply with as of January 1st 2019. One of these is Controlled Foreign Company (CFC) which similarly to CCCTB acts to deter profit shifting to low-tax jurisdictions. A second of these is Exit Taxation, which prevents companies from avoiding taxes through the reallocation of assets. This aligns with Downling (2013) who proposed that multinationals should pay taxes where they conduct their business. Unfortunately this paper lacks the necessary research to deal with the successes and/or failures of this directive. This could therefore be an area for future exploration.

Although there are benefits for governments and economies by reducing tax-avoidance, where in an perfect world all jurisdictions are equally profitable for MNEs to base their operations; Neck, Wachter, & Schneider (2011) explained a trade-off between tax-avoidance and tax-evasion. Such that, reduced tax avoision is traded for tax-evasive activities. Although this is not the case for all MNEs, it remains a realistic conclusion given the economic objective of firms to profit-maximize. It must be re-emphasized however, than once a firm engages in tax-evasion is breaks the law and so is vulnerable to prosecution. The correlation between greater simplicity of the tax-system and tax-evasion is a fundamental consideration when assessing solutions to stop tax-avoidance.

According to Piper (2013) one reason for the continuance of tax-avoidance by MNEs is to do with corrupt political systems. In the US, politicians are rewarded by pressure groups by managing the impact of taxes. In general, to run for elections, politicians require sponsoring and donations for their campaigns. In return for this, the politicians will reward the groups that have helped them. Therefore although the Taxation and Customs Union (2016) has plans to reduce tax-avoidance, with its CCCTB and ATA directives, society is yet to witness the effects of these. The question is whether some MNEs have become so powerful that they have become untouchable by legislators and government MPs. If firms are immoral for taking advantage of tax loopholes, then politicians are surely equally immoral for creating the loopholes in the first place.