Blogs are opinion pieces and reflect their author’s views

Aiding and/or Abetting: “Tax Competition” in the Light of “State Aid”

Written by: J. Scott Wilkie

The international tax world – governments, taxpayers, advisers and various influential observers including non-governmental organizations – have been engaged in a systematic review of international tax rules, practice, policy and behavior since late 2012 and, most forcefully, early 2013.[1] The Organisation for Economic Co-operation and Development (“OECD”) and the G-20 nations, not all of which are members of the OECD, have collaborated in an unprecedented way to tackle difficult questions identified with depleting national tax revenues. More or less at the same time, in addition to its own initiative in this regard,[2] the European Commission has investigated the tax administration and tax legislation practices of a number of countries, concerned that in one manner or another, notably in a transfer pricing context, they constitute “state aid” – the selective use of a country’s resources to support enterprises or activities in ways that impair competitive trade.

At the heart of this exercise is the concern that tax planning practices of multinational enterprises exploit the lack of systematic coordination of tax and other laws among countries. In other words and said much more simply there is no “world legal order”, “world tax order” or “world tax regulator”. The coalition of circumstances giving rise to concerns in this regard has been considered to “erode” tax bases and “shift” income, hence the acronym for the project: “BEPS” – “Base Erosion and Profit Shifting”. The OECD delivered final reports to the G-20 on fifteen “Actions” in October 2015. Work continues on a number of those Actions.

Underlying the BEPS project is a resurgent concern about “tax competition” among countries. “Tax competition” is a particularly colourful term to describe the use by countries of their tax systems to subsidize their taxpayers and / or others the activities of which in some way contribute to national economic welfare. This is a resurgent concern because BEPS is not the first foray by the OECD to confront tax competition. Most recently before BEPS, the OECD tackled this subject in 1998. However that initiative became focused on best practices of various kinds for tax reporting and transparency, and ended up not tackling the sorts of difficult substantive tax policy issues that have been a main focus of the BEPS work.

Broadly, “tax competition” is engendered by and accordingly describes features of, and sometimes deliberate changes to, countries’ tax regimes to affect economic choices and broadly to assist taxpayers to achieve their business objectives. A purposeful effect, from countries’ own perspectives, is to foster the economic objectives of those countries.

Many familiar features of the Canadian tax system can be described this way. At least in fiscally polite company we might not be inclined to describe these features as distortive or gratuitous, as preferential or, even, as subsidies. These tax system-based design attributes, which could be as straightforward as generally lower(er) or targeted corporate tax rates, may be directed for example to moderating the cost of capital for countries’ residents and to supporting economic activity of various kinds undertaken by their taxpayers. In both cases, presumably, countries’ overarching objectives include to generate economic value for the affected national economies in order to fund their social welfare systems including the delivery of public goods, to support and even enhance valuable trade opportunities in light of relevant resources and opportunities, and broadly to direct economic activity thought to contribute to future economic prosperity. In a manner of speaking, taxpayers are agents for those countries in their pursuit of national economic objectives. Seen this way, the countries, themselves, are economic actors in relation to each other, and they have a “personal” interest in their taxpayers’ fortunes because of a close identification of those fortunes with their own.

What should we make of this? Is the manner in which a country designs and implements its tax system to serve its social welfare choices “competition” because of the ways in which it chooses to capitalize on its resources – its economic strengths, but with a general awareness of and sensitivity to its vulnerability to various economic and fiscal forcers – for example, the effects of various trade flows on its circumstances? If so, is this competition “bad” and in the absence of a “world tax order” by what normative standards would this judgment be made? Are these aspects of the tax system in any sense preferential by design or effect, in order to generate particular outcomes including channeled taxpayer behavior? Are the outcomes discriminatory, in the nature of (selective) subsidies? Finally are we in a period where the underlying trade influences on inter-nation tax accommodations may be bubbling to the surface so as to affect tax policy, legislative design, and tax administration?

Putting aside for the moment the “income tax lens” through which issues of this sort typically are seen, there is, and in the international tax world always has been, a predominant trade connection to inter-nation tax accommodations.[3] In the absence of a universal global tax system (which does not exist) conceivably these accommodations would not need to be made and indeed might not be made but for the national economic and social self-interests they serve. Fiscal and tax policy is not, in the main, an altruistic gesture.

In their modern manifestations, what are commonly but inaccurately referred to as “international tax rules” and the “international tax system” have a significant connection to trade and, more broadly, the furtherance of national economic prosperity. Countries accommodate on a more or less predictable (and reciprocal) basis of each other’s relative interests as taxing jurisdictions in order to avoid what might be described as gratuitous costs to trade attributable to overlapping taxation. Effectively, what they are doing through the medium of tax provisions addressed to the international circumstances of taxpayers and the activities of intervenors in their national economic lives is adopting trade agreements – unilaterally through generally applicable domestic tax rules and via tax treaties that hone the intersection of the treaty partners’ tax systems by specifically allocating taxing rights between them taking into account their particular relations with each other.

In effect international tax regimes framed by domestic tax legislation and tax treaties are in the nature of international trade instruments.

“State aid” investigations of a number of well-known multinational enterprises and the tax administrations with which they interacted now being conducted by the European Commission draw attention to the fact, the fiscal truism perhaps, that income tax may not be as clearly separate from trade law as taxpayers, income tax specialists and even governments complacently may have assumed and even taken for granted. State aid, as such, is a uniquely European notion, a creature of the European Union, which is prohibited under the Treaty on the Functioning of the European Union. Subsection 107(1) of that Treaty impugns state aid this way: “any aid granted by a Member State or through State resources in any form whatsoever which distorts or threatens to distort competition by favouring certain undertakings or the production of certain goods shall, in so far as it affects trade between Member States, be incompatible with the internal market.”[4] There is considerable trade and European Community law bearing on this issue, in particular what it means to use state resources to “favour” enterprises and activities i.e., “undertakings or the production of certain goods” and how, in any event, a trade distortion is created.

More generally, trade law even without a European focus or genesis similarly abjures discriminatory practices in particular via subsidies. This is a feature of trade regulation by the World Trade Organization under the General Agreement on Tariffs and Trade (the “GATT”), the General Agreement on Trade in Services (the “GATS”) and the Agreement on Subsidies and Countervailing Measures (the “SCM Agreement”).[5] It is not the objective of this short note to explore the interstices of trade law. It is, however, a goal of these comments to notice that international income tax notions may not be as hermetically sealed in tax vessels as commonly thought, and in any event that in the light shone by trade law some very significant implications of “tax competition” may be revealed.

Invoking trade law criticisms of taxation laws created or applied to induce, or perhaps objectively simply with the effect of inducing, what are thought to be distortions in international economic and business activity is arresting. For example, what might this perspective offer for examining why the Canadian tax system allows interest on money borrowed to fund the earning of exempt income by foreign affiliates of Canadian taxpayers to be deductible so as to shelter Canadian domestic income of those taxpayers from taxation? In the same vein, what hue is reflected by certain foreign income “character preservation rules”, foundational in the Canadian foreign affiliate regime, which apply to the transmission of various amounts among foreign affiliates in ways that substantially limit taxation of operating income by countries where it is earned and, indeed absolutely? Are these “just” tax rules? Is this “just” tax policy? Or, is there more to consider? And if that “more” was considered, what might be the result?

The developments in Europe have the “feel”, from this vantage, of a giant awakening from a deep sleep, prodded out of somnolence by the absolute shrinkage of countries’ fiscal resources as tax systems come to grips with what taxpayers have long recognized – taxation regimes and legal systems to which those tax systems are accessory are not, and in economic terms it is suggested cannot be expected to be homogeneous. Consistent and hopefully workable international standards that shape behavior, possibly one of the most significant contributions of the BEPS project, are a viable objective. But it seems inevitable even with systematic infusions of fiscal and tax policy altruism and self-consciousness that countries necessarily will react to (and be inclined to take care of) their own situations even if sensitive to those of others.

When they do, what can happen? A recent decision by a WTO (the “World Trade Organization”) Panel concerning the discrimination according to the GATS is equally notable, perhaps, in this regard.[6] It addresses, possibly for only the first or second time,[7] the intersection between international trade and tax “rules”. Seemingly with a focus to whether certain specific standards in the GATS governing the equivalence (“likeness”)of the circumstances in which services are provided and distinctions based on their “origin”, as well as the manner in which “regulatory aspects” should be taken into account, certain distinctions made by Argentina in its tax law to treat “uncooperative” versus “co-operative” countries differently were not found not to violate the GATS. That said, the reasoning of the Appellate Body seems to suggest that this particular outcome may not to a inconsiderable degree be attributable to perceived deficiencies in the Panel’s analysis of salient provisions of the GATS. Consequently, on one reading it may be less an endorsement in principle of defensive features of Argentinian, or for that matter any other country’s, tax law in a trade law context. Interestingly, however, the Appellate Body’s decision does seem to be consistent with tax initiatives to protect and maybe even promote a country’s economic and fiscal interests being justifiable, despite non-discrimination themes underlying trade law. This decision is not concerned with affirmative subsidies, at least per se[8], but nevertheless the approach and outcome of the analysis might well bear on a subsidy-oriented situation. At the core of these developments and the issues they spawn are important questions about whether countries are designing or administering their tax systems in ways that are intended to secure relative economic advantage, in other words to “aid” or “subsidize” outcomes on a selective or preferential basis, or otherwise to secure advantage or mitigate potential disadvantage.

It is far from clear where all of this may be going. The connection between taxation and trade regulation may have interesting and possibly surprising implications. Not uncommonly in trade agreements such as the North American Free Trade Agreement (“NAFTA”) while addressing impermissible subsidies, nevertheless prevailing income taxation, i.e., income tax regimes according to their then extant terms and legislative direction, is unaffected.[9] But, is it really? Or, possibly more pointedly, is this a necessary outcome? Could it be that even if a trade agreement defers to and does not alter the features of a tax system, still if the effect of those features is discriminatory or effects a covert subsidy, the tax rules and/or their administration would be open to criticism – even challenge – when viewed through a trade law lens? Is there a possible collision between maintaining the integrity of trade partners’ tax regimes but, nevertheless, invoking a prohibition against subsidies given the overarching significance of a trade agreement? Even if not, does subjecting income tax rules – with the eye of BEPS – to this kind of scrutiny at the very least reveal undercurrents of international fiscal relations not well articulated by unflattering references simply to “tax competition” as some kind of epithet?

A trade law – based critique of income taxation in an international context illuminates not only underlying influences and tensions of “international taxation” generally, but also, in a very direct way the textures and depths of inter-nation economic and commercial relations actually (and always) in play in the design and implementation of fiscal and tax policy. Most immediately, these have to be latent in BEPS. Closer to home, as we evaluate Canada’s place in the developing tax world, perhaps our fiscal and tax policy discourse and our choices would benefit from scrutiny illuminated by the discipline offered by contemporary trade law inquiries.

[1] See previous blog posts: Scott Wilkie, An International Fiscal Revolution in the Making? Some Musings on Tax Policy and its Economic Foundations, The School of Public Policy, University of Calgary, Blog, September 26, 2013; Scott Wilkie, Reflections on “BEPS”: Tax, Law and “Law and Economics”, The School of Public Policy, University of Calgary, Blog, July 31, 2014.

[2] See most recently, European Commission, Anti-Tax Avoidance Package (January 2016), with access points to a number of underlying documents:, including in particular the Anti Tax Avoidance Directive:

[3] The history of modern tax treaties, arising from work commissioned and directed by the League of Nations in the 1920s, and the following work by the Organisation for European Economic Co-operation (OEEC) and its successor the OECD, as well as similarly directed work of the United Nations bear out this observation. See also, Jennifer E. Farrell, The Interface of International Trade Law and Taxation (Amsterdam, The Netherlands: IBFD, 2013).

[4] Taken from, European Commission, Brussels, 3.2.2015 C(2015) 563 (final), State aid SA.37667 (2015/C ex2015/NN) – Belgium-Excess profit tax ruling system in Belgium – Art. 185§2 b) CIR92; See paragraphs 53, 54 (parsing the four elements of “state aid”) and 56 (referring to relevant case law). There are other cases well-known multinational enterprises concerning organizational structures alleged to engage tax structuring to reduce taxation through transfer pricing on which various countries provided tax rulings. In these other cases, the Commission asserts that in private rulings relevant law was misapplied in some manner, in relation to the affected circumstances or perhaps in any event, so as to create selective advantage for taxpayers in the interest, nevertheless, of the countries concerned. See also: European Commission, Brussels, 11.06.2014 C(2014) 3626 final, State aid SA.38374 (2014/C) (ex 2014/NN) (ex 2014/CP) – Netherlands Alleged aid to Starbucks; European Commission, Brussels, 11.06.2014 C(2014) 3627 final, State aid SA.38375 (2014/NN) (ex 2014/CP) – Luxembourg Alleged aid to FFT [Fiat]; European Commission, Brussels, 11.06.2014 C(2014) 3606 final, State aid SA.38373 (2014/C) (ex 2014/NN) (ex 2014/CP) – Ireland Alleged aid to Apple; European Commission, Brussels, 07.10.2014 C(2014) 7156 final, State aid SA.38944 (2014/C) – Luxembourg Alleged aid to Amazon by way of a tax ruling. These cases all bear conceptual and directional similarities, but each appears to be different in terms of why it is alleged “aid” may be present.

[5] See Farrell, supra note 3.

[6] World Trade Organization (15-5027, WT/DS453/R, with Addendum 15-5028), Dispute Settlement: Dispute DS453 Argentina – Measures Relating to Trade in Goods and Services (Panel report under appeal on 27 October 2015). Panel Report 30 September 2015: See the Panel’s decision was appealed in accordance with WTO appellate procedures and the original decision, which essentially found that tax induced trade law violations had occurred was reversed by the Appellate Body (14 April 2016); see World Trade Organization (16-2077, WT/DS453/AB/R, with Addendum 16-2078), Argentina – Measures Relating to Trade In Goods and Services, AB-2015-8 Report of the Appellate Body, available at, accessible directly at*%20not%20rw*)&Language=ENGLISH&Context=FomerScriptedSearch&languageUIChanged=true#.

[7] See Farrell, supra note 3, particularly Chapter 6, concerning the disputes concerning United States “Foreign Sales Corporations” (“FSC”) and Domestic International Sales Corporations (“DISC”) in which alleged discriminatory aspects under the GATT of United States “controlled foreign corporation” rules, akin to the Canadian foreign affiliate regime, were in issue in a long running trade dispute.

[8] Relief from onerous consequences could be seen as a kind of subsidy or support, adopting a perspective that sees the onerous consequence as the default.

[9] See NAFTA, Part Eight – Other Provisions, Chapter 21 – Exceptions, Article 2103: Taxation.