ー A Study of Two First-Instance Decisions of the European Court of Justice ー
Masataka Matsuga
(Graduate School of Economics, University of Hyogo)
1. Introduction
The contemporary international economic community is in the midst of a violent tidal wave of change caused by a number of newly emergent factors. In recent years, the international economy has undergone a qualitative shift that cannot be addressed within the framework of conventional thinking due to major changes brought about by the rapid development of the digital economy and the accompanying globalization of the economy caused by factors such as digitization and networking. These changing factors are causing a variety of major real economic phenomena.
In response to this situation, the international taxation framework has not been able to escape from the framework of taxation principles that have been in place since the establishment of the nation-state of sovereignty by the Treaty of Westphalia in 1648. The first is the institutional erection of a new institutional framework, namely, that only limited taxation power can be exercised within the nation-state. The fundamental contradiction between the rapidly changing international economy and the traditional domestic taxation system on the one hand is making it difficult to solve problems. One of the most serious problems is the “extremely large amount of tax avoidance by giant multinational corporations.
Among the companies collectively referred to as GAFA, the international tax avoidance of Apple Inc., which has competed for the world’s top spot in terms of market capitalization, is one of the most conspicuous examples of such a bold scheme. The EU has been a major player in the international taxation system.
The dispute between Apple Ireland and the EU Commission in the EU General Court, which was decided the year before last, symbolizes the various problems arising from such contradictions. In this article, I would like to examine and discuss these contemporary issues through the first instance decision of the EU Apple case.
2. Progress of Digitization and Networking
The major qualitative shift in the modern international economy seems to have begun with the rapid technological innovation and widespread expansion of personal computers in the early 1980s. In contrast to the huge mainframe systems that had been used only by universities and other research institutes and large corporations, the 1980s saw the emergence of personal computers such as MS-DOS machines and the revolutionary Apple Macintosh, which allowed even small businesses and individuals to access and utilize computer power at the end level of society. With the birth of the computer, a technological environment began to develop in which computer power could be utilized at the level of the social end.
In the 1990s, networking technology began to evolve and develop from stand-alone PCs used independently to networking technology in which PCs are linked to each other for data sharing and collaborative work, and more significantly and epoch-makingly, the evolution and development of networking on a global level through the Internet. The evolution and development of networks advanced. The rapid development of Internet-related technologies led to the birth of an information environment in which PCs were used as terminals in a global network, connecting and linking all the world’s computers, and to the development of a huge global information system through the linkage of PCs and other information terminals.
These groundbreaking and massive technological innovations and developments have triggered major paradigm shifts in various areas of the economy that are dramatically different from those of the past. This may be compared, for example, to the invention of printing technology by Gutenberg in the 15th century, which created a situation in which the Bible, which had previously been monopolized by the church, could be possessed by anyone through printed books, and this change led to the Reformation led by Martin Luther. Alternatively, it may be more appropriate to compare this to the major technological revolution of the Second Industrial Revolution, in which the energy revolution with the steam engine invented in the United Kingdom is said to have led to the global dominance of the United Kingdom as the British Empire. In this sense, some people believe that this should be viewed as the Third Industrial Revolution. The U.S. companies that pioneered and led this industrial revolution, especially high-tech companies such as GAFA, have come to occupy a dominant position in the international economic world.
3. dematerialized economic change and rapid globalization of the international economy
In 1995, when digitization and networking began to have a profound social impact, Nicholas Negroponte, in his book “Being Digital,” which became a national bestseller, described the broad social impact of this new technology as the essence of the revolutionary social change that is taking place In his book, “Being Digital,” he metaphorically describes the nature of the change from “atoms,” the smallest unit of matter, to “bits,” the smallest unit of information.
The qualitative changes brought about in the economic world by these changes in digitalization and networking are extremely multifaceted. The value of economic activities will shift to the value of information itself in the form of digital information collected, accumulated, and processed, rather than the traditional form of manufacturing physical goods using tangible assets such as land, factories, machinery, and equipment, and transporting and selling these goods to consumers. In addition, the weight of so-called intangible assets such as big data (e.g., customer information), information systems and technical know-how built for business activities, as well as designs and brands, which are accumulated along with such information-centered economic activities, has been increasing. Toru Morotomi proposes to review these major changes in the economic situation as a “new form of capitalism” based on the concepts of the “intangible capitalization of the economy” and the “immaterial turn”. This is certainly an analysis that goes to the heart of the qualitative changes in the modern economy, and it is believed that there are economic phenomena that can only be revealed through such a concept.
The change in the current economic trends brought about by digitalization and networking has also brought about a phenomenon known as the rapid globalization of the international economy. In other words, digitization in various fields due to the widespread use of small PCs and the formation of a global network due to the development of the Internet have made it possible for information associated with economic activities to be converted into digital data that can easily cross national borders and move around the global world in an instant. This change in situation, together with the shift to intangible assets in the economy, has created a major contradiction and conflict with the traditional economic framework.
The IT giants that have emerged as the main players in the modern economy, mainly in the U.S., are basically engaged in the development, dissemination, and sale of tangible and intangible products and systems related to digital information on the Internet. Therefore, the center of its business activities is different from the so-called “monozukuri” (manufacturing) that Japan has traditionally excelled at, and even Apple, the company that sells Mac PCs and iPhones, is a fabless company that does not have its own factories. The center of its business activities is specialized in planning, designing, and branding products for use of digital information on the network. Therefore, both their corporate assets and the product value they create are systems, designs, and brands that are formless as objects rather than tangible assets that have a form. In such companies, the goods they produce, the assets of the companies that produce them, and the corporate profits they generate in their business are primarily intangible assets.
When such companies, as multinational corporations, develop their global international business across national borders, their assets and profits can be instantly transferred across borders through the Internet and other highly developed means of information and communication. As a result, it is extremely difficult to grasp its assets and profits from the outside. In addition, it becomes equally difficult to calculate, measure, and understand the transfer and attribution of corporate assets for production, and the place where profits are generated and their attribution, etc. in their business activities. In other words, by exchanging intangible assets such as licenses and brands between subsidiaries of different nationalities in an international multinational corporation, it is easy to transfer profits and expenses to and from overseas subsidiaries and to reattribute profits to them. In addition, as recently exposed in the Panama Papers and other documents that have attracted public attention, it has become very easy for these companies to transfer their assets to tax havens around the world. As a result, huge sums of money, in some cases as large as national budgets, are flowing across national borders and accumulating in dark vaults without any restrictions from individual countries due to the globalization of the economy. In other words, globalization, accelerated by the digitalization and networking of the economy, not only stimulates international economic activities, but also creates a large darkness in the international economy.
As will be explained later, in this way, huge sums of money that would normally go into the fiscal revenues of the countries in which these companies operate and benefit, and which should be used for various policies, including welfare policies in each country, disappear into the dark vaults of tax havens through complicated and sophisticated schemes, through routes outside the control of each country. They are disappearing. According to one estimate, the amount of fiscal revenue that should go into Japan’s national coffers in this manner amounted to $46.8 billion in 2013. In Japanese yen terms, this amounts to about 6 trillion yen, or nearly half of the 12.1 trillion yen in corporate tax revenues for FY2020. If it were not for these forms of disappearance into the darkness of tax havens, etc., there would be no need to increase consumption taxes, which would be a burden on the public at large. In the midst of the rapidly changing international situation following Russia’s invasion of Ukraine and the growing debate over tax increases due to the drastic increase in defense expenditures, the issue of international taxation is not an event in the distant world that is unrelated to any one citizen, but a problem that is directly connected to our own personal lives. We should not just sit idly by and let this happen.
4. Background of the EU Apple Trial and its Ruling
As mentioned above, Apple’s international tax avoidance regime first came to the fore in the 2013 U.S. Senate hearings. This was the second part of a series of U.S. giant international companies’ offshore profit shifting issues, held in May 2013, in which the company’s complex, sophisticated, and massive tax avoidance schemes were exposed in the light of day and discussed in harsh criticism.
Furthermore, on July 15, 2020, the EU General Court, which is in charge of first instance in the EU, ruled in a case involving a ruling ordered by the EU Commission against the company and Ireland. The amount of money involved in the dispute was worth 1.5 trillion yen, and the international business press paid a great deal of attention to the trial. Intrigued by the background of the trial and the content of the ruling, and wondering about the surprising nature of the ruling, we examined the text of the ruling itself in order to understand the background and content surrounding this trial.
(1) Background and History of this Trial
First, the plaintiffs in the case were Ireland and two Apple Group subsidiaries (ASI and AOE), while the defendant sued was the EU Commission, an EU administrative body. This composition was preceded by a 2016 ruling ordered by the EU Commission against Ireland and two Apple subsidiaries. In the ruling, the EU Commission ruled that Ireland’s Tax Ruling TR with Apple’s subsidiary constituted State Aid in violation of EU law, and ordered the cancellation of the TR and restoration of the discriminatory preferential treatment given to Apple’s subsidiary as a result of the TR. The court ordered the following.
The amount of the additional fine ordered by this ruling was as large as 1.5 trillion yen.
One of the main purposes for which the EU was established in the first place was to create a single, fair, open, and free competitive market, and while there have been several cases in the past where the EU Commission has denied “state aid” by member states and ordered corporate tax surcharges, the amount of surcharges in this EU Apple case is on the order of 1.5 trillion yen, which is an extraordinary level. There was no other example of such a huge amount of money.
The case was brought by Ireland and Apple’s subsidiary, seeking to invalidate the EU Commission’s ruling that ordered this huge additional charge.
If we look at Ireland’s fiscal scale in terms of revenue, it was 70.6 billion euros in 2015, or 8.9 trillion yen in Japanese yen. In other words, the additional amount ordered as a result of this court ruling is a huge sum, amounting to almost 1/6 of Ireland’s annual revenue. Moreover, if the EU Commission’s claim in this trial goes through, Ireland (and Apple) will be refusing to pay the additional amount, even though this huge additional amount will enter Ireland. In a sense, this is a strange composition, but it probably means that the introduction of foreign capital and structural transformation to high value-added industries such as the IT industry are more important for Ireland’s economic development than the immediate increase in revenue.
(2) Structure of the Judgment and its Outline
The first part of the 70-plus pages of the judgment is a brief history of the Apple Group, followed by a description of the two Apple subsidiaries, ASI and AOE, which are the plaintiffs in the case. This part of the description is merely a statement of the facts, but there are parts of it that are of central significance to this trial. The first important point is that the two Apple subsidiaries that are the plaintiffs in this case are not just companies doing a small business in Ireland in a small corner of Europe, but their operations cover all regions of the Apple Group’s global strategy except the Americas.
According to Ryuta Takahisa, for example, ASI’s net sales accounted for 44% of Apple’s worldwide net sales in 2011, making it one of the core companies within the Apple Group. In terms of pre-tax profits, ASI and AOE are more profitable than Apple’s headquarters, or rather, they are companies that are allocated more profits than the headquarters in the Apple Group’s international tax strategy.
Another important point is that “ASI and AOE are both companies incorporated in Ireland, but are not resident persons liable to tax in Ireland” (Par 3). This is of great significance in connection with Section 25(1) of the Integrated Tax Act 97, the domestic law of Ireland, which states that “A non-resident company in our country shall not be subject to corporate income tax unless it carries on business transactions through a branch or agent in our country…. In other words, ASI (and AOE), a small affiliate of the Apple Group established in Ireland, in a corner of Europe, is allocated huge profits within the group’s global tax strategy, but as a foreign corporation not resident in Ireland, it has no tax liability in Ireland, and yet This is stipulated in article 97 of the Integrated Tax Act, Ireland’s basic tax law.
Another important point is that ASI and AOE have neither a physical headquarters building nor any employees employed for headquarters operations in Ireland, whereas the Irish branch has its own building and employees, strangely enough. In other words, there is a strange situation in which there is no headquarter presence of ASI and AOE, which have huge sales and profits or are allocated profits within the Apple Group, while only their Irish branch exists.
In fact, the existence and position of the branch office is the most important point of this case.
This is evidenced by the unusually high frequency of occurrences of the word “branch” that appear when conducting a word search in this full 72-page decision. The word “branch” is found throughout the entire paragraph, with a frequency of 412 occurrences. The number of paragraphs is 509, which means that the Irish branch office appears in almost all of the paragraphs.
In a nutshell, the issue in this case was whether the taxable profits of ASI and AOE, which are allocated huge sales and profits within the Apple Group, can be attributed to the headquarters of these two companies, which have no physical existence, or, since the existence of their headquarters cannot be determined, whether the Irish branch of ASI and AOE, which is recognized as having a physical existence, can be attributed to the headquarters of ASI and AOE, which has no physical existence. The key question is whether the physical existence of the branch should be attributed to the Irish branch.
The Commission’s position is that the huge profits of ASI and AOE belong to their Irish branch where the entity exists.
The Commission’s ruling found that Ireland’s pre-tax rulings with ASI and AOE provided discriminatory preferential treatment to these two companies, which should be reversed, and Ireland should collect from these two Apple Group companies an amount consistent with the original fair taxation rules. The first was The huge amount of 1.5 trillion yen that was ordered in the ruling attracted a great deal of attention from the public. The court argued that the profits should be attributed to the Irish branch of the two companies that actually existed, since the physical existence of the head office of the Irish branch was not recognized at all.
And in the section III. Law (trial), which occupies 43 pages (p.15-67) of the 72-page decision, the argument revolves around three issues that the Commission presents as arguments for its contention. But it is essentially a “attribution to the Irish branch of the Apple Group of the profits from the IP licenses held by ASI and AOE” issue.
If we follow the development of that argument and summarize the history of the dispute, it would look something like this…
First, the Commission, under the banner of “the creation of a fair and open market for competition”, has held that the support in Article 107(1) of the Treaty on the Functioning of the European Union “which is provided by a Member State or by any other means, including by using the facilities of a Member State, and which distorts competition by favouring certain undertakings or the production of certain goods or services, is not a form of support for the creation of a free and open market for competition”. The “107(1) TFEU” (appearing 43 times, mainly in III-D 31 times), which states that “anything that distorts or threatens to distort competition by giving preferential treatment to the production of a product of a member country is not consistent with the principles of the internal market if it affects trade between member countries,” was brought to the fore, and the main proposition of “prohibition of State aid (State Aid)” (mainly appearing in III-C 31 times) was put forward. The main proposition, “the principle of arm’s length” (appearing a total of 26 times, mainly in III-C: 9, I: 6, etc.), “the principle of arm’s length” (appearing a total of 82 times, mainly in III-D: 37, III-E: 23), “the Authorized OECD Approach” (appearing 42 times), “the OECD Approach” (appearing a total of 26 times, mainly in III-C: 9, I: 6, etc.), and “the principle of independence” (appearing a total of 26 times, mainly in III-C: 9, I: 6, etc.). (Approach 42 appearances)”, “OECD Transfer Pricing Guidelines (OECD Transfer Pricing Guidelines 21 appearances)” and other principles, and tried to attack Ireland, ASI and AOE. In short, the EU Commission’s argument was primarily a theoretical attack from the political point of view of the EU as it should be.
The Irish-Apple Coalition, on the other hand, has not engaged in any politically motivated theoretical games, but rather in a sober legalistic approach, closing the clause in the Irish domestic law, the Integrated Tax Act 97 (TCA 97), which states that “A non-resident company in Japan is not subject to corporation tax unless it carries on its business transactions through a branch or agent in Japan”. The local branches of ASI and AOEs are merely business locations and are not there. The EU was simply repeating its claim that it was a mere business travel camp and that there was no property there>.
In the first instance, all three of the EU Commission’s arguments were rejected in the judgment, and Ireland’s muddled legal argumentation strategy was successful, but in the end the deciding factor was the court’s decision requiring “the Commission’s burden of proof” as follows Such a statement calling for “the Commission’s burden of proof” appears repeatedly in the text of the decision.
For example, in Part D,
243 In its main argument, the Commission, in essence, held that since ASI’s and AOE’s interest in Apple Group’s IP (which, according to the Commission’s argument, is a substantial portion of the two companies’ total profits) did not have any employees outside of their branches who could manage that IP, the The Irish branch had to be attributed, they thought, but they had not demonstrated, however, that the Irish branch was performing any administrative function with respect to them.
Similar points are made repeatedly in Parts D and E.
(3) General Evaluation and Personal Opinion on this Judgment
As long as the dispute continues in this so-called “battle in the air” and “battle on the ground,” the direction of the settlement of this case will not change. In fact, following its defeat at the first instance before the EU General Court, the EU Commission appealed to the higher court, the Court of Justice of the EU, and the reasons for the appeal have been announced.
However, the argument is mainly a kind of political argument from the standpoint of the EU as a whole, and it does not mesh at all with the argument of Ireland Apple, which was recognized in the judgment of the EU General Court,
The court said, “We need to continue our efforts to put proper legal restrictions on loopholes and to increase transparency.”
While saying, “The plaintiffs’ claims are not valid,” the court seems to be almost inept as to what specific legal logic it will use to break down the plaintiffs’ claims.
In the common sense of ordinary people, the EU Commission’s argument seems reasonable in light of the current economic situation in the EU. However, the logic that the sales and taxable profits of ASI and AOE should automatically be regarded as belonging to their Irish branches according to the “logic of exclusion” because there is no actual head office of ASI or AOE is a bit rough and leaps forward, and the fact that the court took advantage of this logical shoddiness may be the cause of the defeat in this case. seems to be.
In response to the court case, a task force of EU-related tax experts and an expert on international tax law have also issued opinions and critiques of the court decision. Many seem to be of the opinion that there is too much bias toward criticism based on “State Aid (State Aid),” and that when viewed from a strict interpretation of tax law, the argument is untenable, and unfortunately, the General Court’s decision will have to be viewed as reasonable.
However, a simple review of this issue reveals that a large portion of the Apple Group’s intangible assets (IP licenses) belong to ASI and AOE, which, although they say they were established in Ireland, have no physical existence as a headquarters and employ no employees, and are really paper companies themselves. The fact that the Irish branch is attributed to the Irish company, and that the huge profits generated from the branch are taxed as a foreign corporation not domiciled in Ireland, seems to me to be a very unnatural method of evading taxation. Such a scheme is clearly deliberate and artificial, and appears to be a clever and large-scale tax avoidance. Therefore, the issue of tax residency of corporations and whether it is socially acceptable to arbitrarily assign intangible assets (IP licenses) to paper companies, which have no substance at all, should be examined from the viewpoint of the tax residency of the corporations. It is my simple opinion that this should be sorted out and pursued.
As for the issue of tax residency and statelessness of corporations, there are several references to this in Part A of Section III. However, no controversy has developed and no debate has taken place on this issue. Rather, it is this theme that should be discussed as a problem, and we feel that the committee may have missed a serious hidden issue here.
According to the same article by Mr. Yauchi, “AOI had $30 billion in income between 2009 and 2013, but did not file a tax return as a non-resident corporation and did not pay taxes in any country for five years. I am surprised that such an unreasonable and lawless situation is left unchecked. However, this issue should be considered from the standpoint of a citizen of the world, not from the standpoint of an individual state or the EU as an aggregate of states, and may have been outside the scope of the EU Commission, which can only think and act within the legal system of the EU. In any case, however, we feel that the basic theory and corresponding policy theory on the issue of taxation of these multinational groups of companies may not have caught up too well.
On the other hand, the IP license appears 44 times in the entire text, and 296 times in the IP alone.
In any case, the issue of IP licensess as an intangible asset is certainly one of the key points. In other words, the background that makes this trial so difficult is deeply related to the movement toward dematerialization in various aspects of the modern economy. Without such a policy approach, it will be impossible to fundamentally solve the major essential problems presented by this trial.
5. National and International Responses to International Taxation
In response to the changing trends and structural contradictions described above, various countries and international organizations have been working to resolve these contradictions in various ways. As mentioned above, in the United States, which is home to many of the large IT multinationals in question, the 2013 congressional hearings and other harsh measures have been pursued against the companies in question, and countermeasures have been sought.
The EU is in a sense a federation of nations that transcends the traditional framework of national sovereignty, and as such, it emphasizes cooperation among nations in taxation issues. In this respect, each country has taken the stance of refusing to allow the granting of special preferential treatment to certain companies as “state aid” that distorts the conditions of fair competition within the EU as a single economic market. Such “state aid” to certain companies by EU member states has often been challenged and ruled upon by the EU Commission, and in some cases there have been numerous cases of judicial disputes with the countries concerned before the EU judicial institutions.
Furthermore, the OECD, G20, and other international organizations of major economically advanced countries are continuing various efforts to address the contradictions and problems arising from the rapid changes in the international economic framework in recent years. Persistent consultations and consensus building have been conducted mainly by the OECD in response to the so-called BEPS (Base Erosion Profit Shifting), and in July 2021, 130 countries and regions representing over 90% of global GDP agreed to and joined the new international taxation rules. The EU has joined a new two-pronged plan to ensure that multinational corporations bear their fair share of taxes regardless of where they operate. The first of the two pillars of the agreement, hailed as the fundamental reform of the century, is a minimum national corporate tax rate of 15%, which is intended to curb the excessively low tax rates resulting from “harmful tax competition” in taxing multinational corporations that move freely in the globalized economy. This is an attempt to put a stop to competition. Furthermore, the second pillar is the introduction of “digital taxation,” which was decided to be introduced as a countermeasure against the evasion of tax revenue from the difficulty of properly identifying corporate profits due to the dematerialization of the economy.
In the midst of such international responses, it is necessary to consider how Japan should think about international taxation issues and what kind of response it should take.
As mentioned above, the EU has a two-trial system, and the EU Commission has appealed to the higher court, the EU Court of Justice, against the decision of the General Court of First Instance, which is the subject of this review, so the final settlement of this issue must await the final decision of the EU Court of Justice. Two and a half years have already passed since the first instance decision, and a final ruling is expected in the not-too-distant future. Many experts believe that, from the logical viewpoint of tax law, there is little chance that the ruling will be overturned, let alone from a policy or moral viewpoint, but it will be interesting to see what the final court decision will be.
《Summary》
The current international economy is undergoing major qualitative changes due to the digitalization and networking and globalization of the economy. On the other hand, the international taxation regime remains based on the domestic taxation regime under the nation-state system established by the Treaty of Westphalia in the 1600s, and the systemic contradiction between the two is causing major problems in various forms. The EU Apple case, which was decided by the first instance in July 2020, seems to symbolize such contradictions in the current international economy. Through analysis and examination of the content of this judgment, I have considered the contradictions and problems in the modern international economy.
