Getting to the core of Europe’s case against Apple and Ireland

Anti-Austerity Alliance-People Before Profit TD Richard Boyd Barrett found himself in unfamiliar territory this week as he took his turn to question European competition commissioner Margrethe Vestager at an Oireachtas committee meeting on the EU's controversial decision last year that Apple received €13 billion of illegal state aid from Ireland.

“There is a very significant irony at play in this committee in that the political parties which were the most enthusiastic supporters of the European Union are most resistant to her findings on this matter, and those of us who are most critical of the European Union are the most enthusiastic about her findings, because some of us believe that there has been a facilitation of aggressive tax avoidance by multinationals operating in this jurisdiction,” said Boyd Barrett.

Vestager, a 48-year old Dane who is said to have been the inspiration behind the fictional prime minister in hit Scandi political drama Borgen, came under sustained critical questioning for almost two hours on Tuesday from Fine Gael and Fianna Fáil TDs on the Oireachtas Committee on Finance, Public Expenditure and Reform, and Taoiseach, as she sought to explain the commission's rationale for imposing its largest state-aid ruling.

It’s a decision that has thrown the minority Fine Gael-led government and its underpinners in Fianna Fáil the difficult task of justifying why one of Europe’s most indebted states, still recovering from its worst-ever financial crisis, must turn down a sum equivalent to almost 7 per cent of the State’s national borrowings.

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Encroaching on sovereignty

Minister for Finance Michael Noonan has cast the ruling, which the Government appealed in November, as encroaching on Ireland’s sovereignty and attacking its corporate tax regime and potential for foreign direct investment.

Vestager has characterised it as protecting a level-playing field under rules enshrined in the Treaty of Rome, which laid the foundations for the EU 60 years ago.

“The Government is very keen not to give an ammunition to claims that it operates anything other than a fair and transparent corporate tax system, albeit one that is attractive to multinational corporations by virtue of its low headline rate,” said Ronan Dunphy, an economist with Investec in Dublin.

"It also wants to avoid any perception that it is not in control of its own corporate tax policy and that the European Commission can amend Irish rules or policies on a retrospective basis."

These issues are all the more pressing at the moment, according to Dunphy, “as the outlook for new foreign direct investment from the US becomes ever more clouded” under the new Trump administration, and as the State seeks to offset the negative impact on trade of Brexit by luring businesses based in the UK to move activities to this State.

The core of the commission’s decision is that the Revenue Commissioners gave Apple an unfair and select advantage in two “rulings”, in 1991 and 2007, by allowing the Mac and iPhone maker channel most of the income from European sales through “head office” divisions of two Apple subsidiaries in Ireland, which were non-resident here for tax purposes.

The Commission claims that had Revenue properly looked into these head offices, it would have found they didn’t have their own premises or any employees during the period under investigation, between 2003 and 2014, and that minutes of their board meetings do not show that directors performed active or critical roles in managing and controlling Apple intellectual property licences.

Far from frightening away foreign direct investment, Vestager said “fighting aggressive tax planning practices should make countries such as Ireland and others an even better place in which to invest”.

US operations

However, Apple and the Government argue that, because Apple’s products and services are created, designed and engineered in the US, the bulk of the profits of the two Irish-based units – Apple Sales International (ASI) and Apple Operations Europe (AOE) – are due in the US.

Noonan and the chairman of the Revenue Commissioners, Niall Cody, insisted to the Oireachtas committee on Thursday that the State was only allowed by Irish law to tax non-resident companies on “economic activities” that take place in Ireland.

Even though the Commission contends that all the income going through the two companies should be taxed in the Republic, it has also taken issue with the way that Apple has carved up the activities of the companies’ Irish “branches” and their “head offices”.

It has essentially ruled that Apple should have used its version of the so-called arms-length principle, as if two parts of the company were trading services as if they were operating in the open market.

The Government rejects this, saying that this principle is not in Irish or EU law and that the Commission is trying to rewrite Irish corporate tax rules.

It has said that, even if arms-length rules were legally relevant, its own expert evidence, provided to Brussels, is that the tax treatment of ASI and AOE was “consistent” with that principle.

Philip Andrews, head of competition at McCann Fitzgerald, says the Commission is relying on “quite novel arguments” in using the arms-length principle as a cornerstone of its case, relying on a single European Court judgment from 2006 to back it up.

“How analogous or reliable that case is to the Apple facts case is unclear,” he said.

State ‘rulings’

Asked on Thursday if he thought that Apple may ultimately have a case to turn around and sue the State for providing “rulings” – or as the Revenue Commissioners calls them, “advanced opinions” – that ultimately crumbled in the European courts, Noonan said “there’s no suggestion that they could and there’s no conversation” in that direction.

The August ruling essentially presents the case of the prosecution. Apple and the Government responded late last year and the commission has until mid-March to respond, though this could be extended.

The State has forked out €1.85 million to date on legal and tax advisers as it fights its corner.

The final bill is likely to be a multiple of that as the case winds its way through Europe, firstly through the General Court, followed, in all probability, by further appeals to the European Court of Justice.

For Boyd Barrett, there is no such ambiguity about where the wrong lies.

“To me, it is cut and dried,” he said. “I thank the Commissioner and commend her on her work.”

The case, however, will ultimately be decided on points of law, not fairness.

HOW THREE WORDS LANDED APPLE WITH A €13 BILLION BILL

Apple chief executive Tim Cook could be forgiven for turning down a chance to appear before an Oireachtas committee looking into the company's tax affairs in Ireland. The last time he appeared before a parliamentary committee, it didn't turn out so well.

In January, Cook drew criticism from a number of TDs, including Fianna Fáil finance spokesman Michael McGrath and his Sinn Féin counterpart, Pearse Doherty, as well as the Labour Party's Seán Sherlock, for declining to appear on the basis of not wanting to "potentially prejudice future outcomes" of the case.

Cook may have a point. His testimony before lawmakers on the other side of the Atlantic four years ago about Apple’s taxes is what landed the technology giant, the State and a host of other multinationals in hot water with Brussels.

“Our investigation into the Irish tax rulings began in 2013, after Apple told a US Senate hearing about what it called a ‘tax incentive arrangement’ with Ireland,” Margrethe Vestager told the Oireachtas Committee on Finance, Public Expenditure and Reform and Taoiseach on Tuesday.

Those three words “gave reason to ask questions here in Europe and also started the Apple case”, she said. “Now our work on tax rulings has gone far beyond the Apple case and far beyond Ireland.”

The commission has since asked every member state for information on tax rulings – some 1,000 in total – and it has followed-up with in-depth investigations into what it views as the most serious cases.

Aside from ruling in August that Apple owes Ireland €13 billion in back taxes, Vestager's team has decided that Starbucks received illegal state aid in the Netherlands, Fiat in Luxembourg, and a host of other companies in the Netherlands. Similar investigations are currently ongoing in relation to the tax affairs of McDonald's, Amazon and French energy group Engie in Luxembourg.

Apple told the high-profile US Senate subcommittee hearing in May 2013 it had been paying a top tax rate of 2 per cent on the income of two Irish-based subsidiaries, Apple Sales International and Apple Operations Europe, over the previous three years.

Cook’s appearance prompted immediate denials from the Government and Revenue that Apple had cut special deals with Ireland.

Within a week, Cook had also backtracked, saying the company did not use “tax gimmicks”. But the damage had already been done.

It may be a decade from the time Cook appeared in front of the US Senate subcommittee before Apple and Ireland are through the European court appeals process with the European Commission.

LOOKING UNDER THE BONNET OF APPLE’S 26% TAX RATE

Apple appealed the European Commission’s €13 billion tax ruling six weeks ago, highlighting that it is the largest taxpayer in Ireland, the United States and the world, with a global income-tax rate of about 26 per cent.

However, as is the case with most large US corporations with operations overseas, a significant amount of that sum isn’t actually paid to tax authorities in as timely a fashion as the headline figure would suggest.

Apple’s latest annual report, for the year to September 24th last, shows that it is sitting on net deferred tax liabilities of $21.9 billion (€20 billion), up from $16.2 billion for the year-earlier period. That is money Apple has sitting on its balance sheet as a provision in anticipation that it will be required to pay taxes as earnings are repatriated to the US.

Tim Cook said in September that Apple will use “several billion dollars” of these provisions, most likely this year, as it sends home 2014 European income that was routed through Ireland.

Indeed, a key part of Apple’s defence against the commission’s ruling is that Brussels is conveniently ignoring the fact that most of the tax on its European operations is due ultimately in the US because its products and services are created, designed and engineered in Cupertino, California.

However, the annual report also shows that, as of the end of September, Apple had not set aside any US tax provisions for a total of $109.8 billion of international earnings generated by subsidiaries based in Ireland. It categorises this money as “undistributed international earnings to be indefinitely reinvested in operations outside the US”.

The difference between that Irish tax on the profits, set at a headline rate of 12.5 per cent, and what Apple would have to pay US authorities if it repatriated the money to the US is $35.9 billion – a figure that the group refers to as an “unrecognised deferred tax liability”.

Apple is far from alone. London-headquartered research consultancy Capital Economics estimates that US companies are hoarding $2.5 trillion of cash overseas as they seek to avoid the 35 per cent US corporate tax rate.

US president Donald Trump has set his sights on sucking most of that back to the US to be invested in an effort to create jobs by offering a tax amnesty, where a one-off charge of just 10 per cent would apply to money sent home, as well as by cutting the country's headline corporation tax rate to 15 per cent.

When Washington allowed companies to repatriate foreign earnings at a 5.25 per cent tax rate in 2005, they brought home more than $300 billion of foreign profits that year, five times the normal amount, according to an arm of the US Department of Commerce.

The trouble is, most of that money went to the companies’ shareholders in the form of dividends and share buybacks.