The obligations falling on taxpayers in Europe to provide information to tax authorities have increased in scope significantly in recent years. 

Those obligations are now about to become more onerous, thanks to a European Directive known as “DAC 6,” which takes such reporting to the next level. 

A. Summary

DAC 6 imposes an obligation on European Union (EU) based taxpayers and their advisers to report certain types of transactions to their domestic tax authorities for onward sharing with other tax authorities in the EU.

In many cases tax planning need not play a significant role in reportable arrangements–and some types of arrangements must be reported even if they involve no tax benefit at all.

The new provisions come into force as of 1 July 2020, although the European Commission has proposed that the reporting deadlines should be delayed in light of Covid-19.

And, despite Brexit, the UK remains required to implement the Directive until at least 31 December 2020 (and may elect to do so beyond then).

B. Who Must Report, and What Types of Transactions are Covered?

The starting point is that, to be reportable, a transaction must constitute a cross-border arrangement: this is an arrangement which involves at least two jurisdictions, one of which is an EU Member State.

If reportable and an intermediary is involved in the transaction, the transaction will need to be disclosed by that intermediary, otherwise the report will need to be made by the taxpayer itself.

Intermediaries are either “promoters”–who design, market or make available the arrangement for implementation–or “service providers,” a broad category of advisers including lawyers, accountants, structurers, corporate financiers, banks and corporate service providers.  

Reporting obligations fall on intermediaries if they are resident, incorporated, have a permanent establishment or are registered professionally in an EU Member State.   

Although the rules are derived from an EU Directive, some EU Member States have gone beyond the requirements of the Directive in certain respects when implementing it into their domestic rules; the interpretation of certain key features of the regime will therefore not be uniform throughout the EU. 

The Five Hallmarks

The detailed piece of analysis, as to whether a particular transaction is reportable, will be around the hallmarks. There are five of these. 

Some of the hallmarks–but, importantly, not all–are subject to a “main benefit test,” i.e., the condition that one of the main benefits must be the obtaining of a tax advantage. 

Hallmark A

This applies where any of the following is present:

  • a confidentiality arrangement between the parties requiring non-disclosure of the arrangement
  • the payment of a fee to the intermediary linked to the amount of the tax advantage obtained
  • documentation which is highly standardised (requiring only minimal amendment for use in any particular transaction)

The main benefit test does apply to this hallmark.

Hallmark B

This hallmark targets the following specific types of features of a transaction:

  • acquiring a loss-making company with the primary aim of using those losses
  • converting income into capital, or into exempt income
  • a circular transaction involving self-cancelling steps

The main benefit test does apply to this hallmark.

Hallmark C

This hallmark targets “arbitrage,” in the sense of a mismatch in the tax treatment of a transaction in two jurisdictions, or the attempt to obtain essentially the same tax benefit twice.

The first type of transaction involves associated parties (25%+ common ownership) and the creation of a tax-deductible cross-border payment in circumstances where any of the following applies:

  • the recipient is located in a jurisdiction where there is no corporate tax or a zero rate (main benefit test does apply in this case)
  • receipt of the payment is otherwise exempt from tax or benefits from a preferential regime (main benefit test does apply)
  • the recipient is located in an Organisation for Economic Co-operation and Development/EU designated non-cooperative jurisdiction (main benefit test does not apply)

Separately, this hallmark also targets the following features (which do not require the presence of associated parties):

  • a deduction is claimed for the same depreciation in respect of an asset in two jurisdictions (main benefit test does not apply)
  • double tax relief is claimed on the same income or gains in two jurisdictions (main benefit test does not apply)
  • there is a transfer of assets, and the amount treated as being the consideration for the transfer is materially different in the jurisdictions involved (main benefit test does not apply)

Hallmark D

This hallmark targets arrangements aiming to avoid a disclosure obligation under any EU disclosure rules, or which aim to obscure the identity of the ultimate beneficial owner.   

The main benefit test does not apply to this hallmark.

Hallmark E

This hallmark targets transactions which:

  • rely on a domestic safe harbour rule relating to transfer pricing, e.g., a stipulation that a particular rate of interest will not infringe transfer pricing rules;
  • involve the transfer of intangibles which are hard to value; or
  • involve an intragroup transfer of functions or assets resulting in a >50% reduction in earnings before interest and taxes (EBIT) of the transferor (specific guidance is anticipated from the UK tax authority, HM Revenue & Customs (HMRC), about this category of transaction, which without more could catch a very large variety of arrangements).

The main benefit test does not apply to this hallmark.

The scope of the third of these targeted transaction categories is extremely broad; for example, it could apply to an intragroup asset transfer consisting of a transfer of shares, or part of or the whole of a business. A reduction in EBIT of the nature described above would suffice to make the arrangement reportable.

C. What Needs to be Disclosed

If disclosure is required, the following features of the arrangements will need to be reported to the relevant tax authority:

  • the identity of the intermediaries and taxpayer(s)
  • a description of the arrangement and its hallmarks
  • the value of the transaction
  • the Member States concerned and the relevant legislation

D. Timing and Next Steps

The UK rules implementing the Directive come into force on July 1.

As matters stand, for transactions entered into from that date, a reportable arrangement needs to be disclosed to HMRC within 30 days of, broadly, first implementation of the transaction.

The rules also look backward in respect of arrangements entered into between 25 June 2018 and 30 June 2020, disclosure of reportable transactions must be made (again, as things stand) by 31 August 2020. Taxpayers and intermediaries should, therefore, commence, if they have not done so already, reviewing transactions entered into since 25 June 2018 and consider whether any of these may be reportable.

The EU has proposed that these deadlines be pushed back in light of the Covid-19 pandemic although, at the time of this writing, HMRC has not formalized this delay, stating instead that a taxpayer failing to file within the original deadlines will have a reasonable excuse if such failure results from difficulties caused by the pandemic.  

Notwithstanding any such delay, it is important that taxpayers and intermediaries alike familiarise themselves with the DAC 6 rules, and put in place internal systems to ensure that in-scope cross-border transactions undergo review from the DAC 6 perspective in the light of the hallmarks summarised above.

Hunton Andrews Kurth will be pleased to advise as to the potential relevance of these rules to any particular transaction.