The EU Gets It Wrong on Corporate Taxes

They may start paying more for their coffee.

Photographer Brent Lewin/Bloomberg

It's hard to disagree with Margrethe Vestager when she says that "all companies, big or small, multinational or not, should pay their fair share of tax." It's also hard to see how what she announced on Wednesday will make the system any fairer.

Vestager, the European competition commissioner, has decided that Fiat and Starbucks had been given unfair tax breaks (by Luxembourg and the Netherlands, respectively) and will now have to pay back up to 30 million euros each. Vestager ruled that the "artificial and complex" tax deals amounted to a kind of state subsidy that's prohibited under EU rules.

The commissioner has yet to issue widely anticipated rulings for Apple and Amazon. But given this reasoning, there are potentially thousands of deals that could come under review. The result would be -- not to put too fine a point on it -- chaos.

The appeal of these deals to U.S. companies is clear. The U.S. has one of the highest corporate tax rates in the world and a system that encourages corporations to squirrel away profits in overseas subsidiaries. The treatment of overseas income means the U.S. loses revenue on more than $2 trillion in foreign-earned income as a growing share of U.S. companies' foreign profits go to a scattering of tax-friendly European countries.

Tax shopping is popular within Europe, too. Effective corporate tax rates in Europe have come down to about 18.6 percent from 27.2 percent in 2004; the rate varies from country to country and even within countries. France's corporate income tax rate, for example, is 34.4 percent, among the highest in the world. But the effective tax rate for the largest companies in the CAC40 (a French stock market index) is actually only 8 percent, while it is 22 percent for small and medium-sized enterprises. Such a byzantine system favors firms that can afford the time and expense required to navigate it.

Given all this complexity, it's not surprising that companies try to simplify their bills. Moreover, there is nothing wrong with companies seeking to minimize their tax burdens. That can benefit shareholders and consumers, resulting in better products or higher employment. And if elected governments are cutting the deals, do they not reflect in some sense the interests of their electorates?

The European Commission's strategy of potentially defining any sweetheart deal as a subsidy may stop some of the craziness for a while. But clawbacks aren't a long-term answer. A plan from the Organization for Economic Cooperation and Development to crack down on corporate tax-dodging, approved by Group of 20 finance ministers, promises to close loopholes, though it leaves too much complexity in place and mandates too little transparency.

Tax reform on both sides of the Atlantic that sets a floor on rates (something outside the commission's powers) and establishes a fairer basis for taxing companies based on where they sell their goods may not be realistic at the moment. But it is the better way forward. 

To contact the senior editor responsible for Bloomberg View’s editorials: David Shipley at davidshipley@bloomberg.net.