Finance minister mum on Malta’s position on draft shell companies proposal

Finance minister Cyde Caruana has refused to state what position Malta will be adopting on a European Commission proposal introducing new, stricter, parameters defining shell companies.

He told BuisinessToday that the Economic and Financial Affairs Council of the Council of the European Union, known as ECOFIN, has yet to discuss the draft proposal.

ECOFIN, composed of the economics and finance ministers of the 27 European Union member states, met last week but Caruana said that the directive was not discussed during the meeting.

“No, the directive was not on the agenda, and the proposal still has to be brought up for discussion,” he told BusinessToday.

Caruana said that the government’s position on the proposal had already been established but refused to give further details.

“Unfortunately, I cannot divulge our position while discussions within ECOFIN have not even started,” he said.

Other countries, like Estonia, have already said they would not support the proposal as drafted.

On 22 December 2021, the European Commission published the text of a draft Directive laying down rules to prevent the misuse of shell entities for tax purposes and to amend Directive 2011/16/EU on Administrative Cooperation (DAC).

This proposed Directive provides indicators of minimum substance for undertakings in EU member states and rules regarding the tax treatment of those undertakings that do not meet the indicators.

It would apply to all undertakings that are considered tax resident and are eligible to receive a tax residency certificate in a member state (subject to some specific exclusions), including SMEs, partnerships, trusts and other legal arrangements.

It is likely to result in additional reporting requirements and in some cases, additional tax liabilities for those impacted.

In Malta, financial services practitioners, including accountants and auditors, are complaining at having been kept in the dark as to what will be the government’s position on ECOFIN.

A practicing accountant told BusinessToday that the new regulations would place undue burdens on the more than 500 foreign holding companies registered in Malta.

Under the draft proposal, all foreign companies registered in Malta would have to have a full-time director who would reside in Malta.

The companies would also need to have offices rented in Malta and proof of a bank account in an EU member state.

“What is even more prohibitive is the fact that the full-time director outlined in the proposal, would also not be able to sit as director of any other companies, except for others within the same group of companies, if any,” the source said.

In the absence of a full-time director, the directive mandates the employment of five full-time staff.

Challenges ahead

The European Commission’s declared aim is to establish transparency standards around the use of shell entities, so that their abuse can more easily be detected by tax authorities.

Using a number of objective indicators related to income, staff and premises, the proposal would help national tax authorities detect entities that exist merely on paper, the Commission believes.

It is the European Commission that is presenting the proposal because the European Parliaments is not allowed to legislate tax bills.

The bill “responds to a request from the European Parliament for EU action to counter the misuse of shell entities for tax purposes and, more generally, to the demand of several Member States, businesses and civil society for a stronger and more coherent EU approach against tax avoidance and evasion,” the draft reads.

Under the proposals, national tax authorities would have to scrutinize shell companies within their borders to see whether they provided any “economic activity.”

If they did, the authorities would leave the firms alone for five years before repeating the scrutiny process. If they didn’t, they would be stripped of all tax benefits.

But EU governments have veto power and that could still be the undoing of the Commission’s proposal.

And with France having taken over the Presidency of the Council of the European Union in January, critics are concerned that it might prefer to focus on legislative talks to implement a global bid to set a minimum effective corporate tax rate of 15 percent across the bloc.

That topic was, in fact, on ECOFIN’s agenda at last week’s meeting.

Some MEPs fear that France’s focus on the corporate tax rate could spell the end for the Commission’s draft proposal on shell companies.

Real economic activity

The proposal introduces a filtering system for the entities in scope, which have to comply with a number of indicators. These levels of indicators constitute a type of “gateway”.

The proposal sets out three gateways. If a company crosses all three gateways, it will be required to annually report more information to the tax authorities through its tax return.

The first level of indicators looks at the activities of the entities based on the income they receive. The gateway is met if more than 75% of an entity’s overall revenue in the previous two tax years does not derive from the entity’s business activity or if more than 75% of its assets are real estate property or other private property of particularly high value.

The second gateway requires a cross-border element. If the company receives the majority of its relevant income through transactions linked to another jurisdiction or passes this relevant income on to other companies situated abroad, the company crosses to the next gateway.

The third gateway focuses on whether corporate management and administration services are performed in-house or are outsourced.

If an entity fails at least one of the substance indicators, it will be presumed to be a ‘shell’.