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Fiscal State Aid: EU Tax Scandals Explained

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About The Author

Helen Morse (Writer)

Helen is studying Law (European & International) LLB at the University of Sheffield, now entering her final year having spent an Erasmus year at the University of Vienna, Austria. Helen is interested in international and commercial law. Outside of law, Helene is a keen sports woman, playing at county level.

Over the last few years the news has been full of stories of big businesses like Apple, Amazon and Starbucks allegedly underpaying their taxes. In response, the EU Commission has launched a number of investigations into the tax arrangements between such corporations and the relevant tax authorities, as part of their wider clamp-down on the tax practices of Member States.

When we read the headlines, it is very easy to voice disdain and be outraged at the apparent lack of moral compass of these large corporations. But what exactly have these companies done and how have they managed to get away with it? Have they actually broken any laws?

This article is going to address these questions and show exactly how EU law might have been violated. First, I will set out the law on EU state aid and explain when it is applicable to the tax regimes that regulate businesses operating within the EU. I will then clarify these principles by applying them to the practical example of the tax arrangements between Luxembourg and Amazon, which are currently still undergoing investigation.

EU State Aid Rules


Under Article 107(1) of the Treaty on the Functioning of the European Union (TFEU), any form of state aid is prohibited as it is deemed to be incompatible with the internal market. To be classed as ‘state aid’, a measure must satisfy the following four conditions:

  • The measure must be granted by State resources
  • The measure must confer an advantage upon an undertaking
  • The advantage must be selective
  • The measure must distort or threaten to distort competition

Tax Regimes

So, how is Article 107(1) TFEU relevant to the tax arrangements between businesses and Member State authorities? It all comes down to transfer pricing and Member State tax rulings which allegedly sanction non-compliant transfer pricing arrangements.

Transfer pricing is the establishment of the price of goods or services sold between subsidiaries, or related legal entities, of a multi-national enterprise. As you can imagine, this could be used to allocate a company’s profits to countries with lower tax rates. For instance, company A has subsidiaries in country Y and Z. Country Y sets corporation tax at 20% but country Z sets its corporation tax at 18%. Therefore, company A could use transfer pricing to allocate the majority of its profits to its subsidiary located in country Z, so it can pay less tax overall. In order to avoid such a possibility, transfer pricing must comply with the arm’s length principle. The principle dates back to the League of Nations Model Tax Conventions that formed international consensus in the early 20th century.

Generally, the arm’s length principle stipulates that each party to a transaction must be independent and on an equal-footing. So, with regard to transfer pricing, the price should be the same as it would have been had the parties not been related. This can be achieved by establishing the price on a market value basis. The Organisation of Economic Co-operation and Development (OECD) has endorsed this method regarding transfer pricing under Article 9 of its Model Convention with Respect to Taxes on Income and on Capital. The EU Commission also recognises the principle and views the OECD Convention as ‘appropriate guidance’ (paragraph 56, EU Commission Decision on Ireland Alleged aid to Apple).

In an increasingly regulated business environment, taxpayers require certainty and transparency with regard to the management of their tax arrangements. In order to provide this, Member State tax authorities make tax rulings in the form of an Advance Pricing Agreement (APA). APAs are a type of contract, often lasting for a number of years, between a taxpayer and the tax authority, specifying exactly how its corporate tax will be calculated. As the APA details the pricing method that will be applied to all company-related transactions, this entails indirectly authorising the taxpayer’s transfer pricing arrangements.

In its communication regarding the notion of state aid, the EU Commission emphasised tax rulings themselves are not an issue, but ‘a ruling that departs from the general tax rules and benefits individual undertakings leads in principle to a presumption of state aid and must be analysed in detail.’ Essentially, if a tax ruling (ie. the APA) appears to endorse a company’s transfer pricing arrangements that do not comply with the arm’s length principle, then that ruling could be classed as state aid and violate Article 107(1) TFEU.


There are number of exceptions to the general prohibition of state aid.

Article 107(2) TFEU establishes three circumstances when state aid will always be compatible. For example, aid for damage caused by a natural disaster is permitted.

Article 107(3) TFEU further sets out a number of circumstances where state aid may be compatible with the internal market. Examples include aid used for economic development in areas of serious unemployment or for the promotion of cultural and heritage conservation. In assessing aid under Article 107(3) TFEU, the EU Commission uses the Balancing Test. As laid down in the 2005 State Aid Action Plan (SAAP), the aid in question must pass the three elements of the Balancing Test in order to be deemed justifiable. The three elements are:

  • The aid must solve a market failure;
  • The aid must be necessary, have an incentive effect and be proportional to the achievement of the common objective; and
  • The positive effects of the aid must prevail over the negative effects.

Case Study: Amazon and Luxembourg

The Tax Ruling

The tax ruling under investigation dates from 2003 and is still in force today, as detailed in the EU Commission’s press release from October last year. The ruling was between Luxembourg’s tax authorities and Amazon EU Sàrl, which is part of the Amazon.com group but is based in Luxembourg. Under a scheme detailed in the tax ruling, Amazon EU Sàrl pays a tax deductible royalty (a form of price transferring with regard to intangible property) to a limited liability partnership also established in Luxembourg. However, this partnership is not subject to corporate taxation in Luxembourg. As Amazon EU Sàrl records most of Amazon’s European profits, there are concerns that the tax ruling underestimates the taxable profits of Amazon EU Sàrl, allowing the Amazon group to pay far less tax than other companies. There is clear need here for investigation into whether the tax deductible royalty scheme conforms to the arm’s length principle.  

Application of Article 107(1) TFEU

Assuming the royalty payment scheme is in breach of the arm’s length principle, for the tax ruling to be in breach of EU law, it must satisfy the four aforementioned conditions found in Article 107(1) TFEU, as follows:

State Resources

This condition can be easily satisfied. The tax ruling was granted by the authorities of Luxembourg and the resulting loss of tax revenue is equivalent to the use of State resources.


There must be an economic advantage for Amazon as a result of the tax ruling. As the tax payable is far less than what Amazon would have to pay if the royalty payment scheme did not exist, which is endorsed by the tax ruling, then this clearly presents an economic advantage.


There are two types of selectivity that are prohibited; material selectivity and geographical selectivity, the former being in question with respect to the tax ruling between Luxembourg and Amazon. Material selectivity is defined as aid that grants an advantage to undertakings in a comparable legal and factual situation. It is this condition which requires the most scrutiny and is most likely the cause of the delay in the EU Commission’s proceedings.

When determining selectivity, the Market Investor Test is used. Traditionally, this test entails that a public authority investment must be acceptable to a private investor operating under normal market economy conditions. Applying the test to taxation is a bit more awkward because generally private operators do not collect tax. However, I would suggest that if the amount of taxable profit declared to the tax authority is acceptable to a private operator hypothetically operating as such authority, then there is no selectivity. So turning back to our case, the fact that there is a loss of tax revenue as a result of the royalty payment scheme and tax ruling, I find it hard to see how this would be acceptable to a hypothetical private operator. This strongly suggests that the tax ruling grants an advantage that is selective. It will be interesting to see how the EU Commission approaches the issue.

Distort Competition

Once again, this condition can be dealt with quickly. It will be held that competition has been distorted when there is an effect on intra-community trade. Amazon trades throughout the EU, which means that if it is at an economic advantage, the company is in a better position to increase its intra-community trade and thus threaten to distort competition amongst its competitors.


There are no clear exceptions that could apply to this tax ruling. Any justification for state aid is normally for a specific project and generally of a social nature.


If a measure is deemed by the EU Commission to be in violation of Article 107(1) TFEU and cannot be justified under Article 107(2) or Article 107(3) TFEU, then it will be classed as incompatible state aid. If that is the case, the incompatible state aid must be recovered by the Member State. Under Article 258 TFEU, the EU Commission can send a reasoned opinion to the Member State on the matter, requiring recovery of the incompatible aid. If there is no compliance with the reasoned opinion, the EU Commission can take the Member State to the European Court of Justice (ECJ).

In the case of tax measures, the EU Commission states that the amount to be recovered is calculated ‘on the basis of a comparison between the tax actually paid and the amount which should have been paid if the generally applicable rule had been applied.’ Interest is then also added to this basic amount.


Evidently, EU tax avoidance scandals are not so simple and all the blame cannot be placed on the big companies, like Amazon or Starbucks. Yes, they may have implemented morally questionable transfer pricing schemes, but they were essentially sanctioned by the Member States through their various tax rulings. What big company would not try and reduce the amount of tax they pay in a bid to boost profits? Of course it does become a concern if the EU Commission finds the tax rulings to be incompatible aid as it is the companies that will have to foot the bill, and a very large one at that.

It is clear that there is a need for clarification from the EU Commission on the compatibility of tax rulings with Article 107(1) TFEU. Legal certainty and tax predictably are of the upmost importance for all commercial entities and currently these are lacking. Hopefully, the conclusion of the investigations into Starbucks, Apple, Fiat and Amazon will provide some much needed clarity in this area. 

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Tagged: Commercial Law, European Union, Tax Law

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