Newsroom / News / Media / Info Magazine LGP NEWS 01/2021 / Interest barriers: A new weapon against tax avoidance

Interest barriers: A new weapon against tax avoidance

Interest barriers: A new weapon against tax avoidance

As part of the Covid 19 Tax Measures Act, a new regulation was adopted regarding the tax deductibility of interest. This so-called “interest barrier” is regulated in Section 12a of the Corporate Income Tax Act (KStG) and applies for the first time to financial years beginning after 31 December 2020. 

In recent years, international corporations, in particular, have come under closer scrutiny regarding their tax planning measures. Certain tax avoidance strategies have gained a dubious reputation due to extensive media coverage – the term Double Irish with a Dutch Sandwich is now perceived by larger groups of people to be a popular and legal tax avoidance strategy among multinational corporations. Under this Irish-Dutch combination, trademark royalty payments to intermediary subsidiaries in Holland, Ireland and Bermuda keep the tax assessment bases low in the countries where these groups operate. This approach has been met with cross-border criticism. 

Against this backdrop, international efforts to combat the shifting of profits by international corporations to low-tax countries began at the start of the last decade. The OECD accordingly adopted the BEPS plan in 2013. BEPS means base erosion and profit shifting and therefore addresses the reduction of tax bases and the cross-border shifting of profits. At the European level, regulations and directives have been issued to combat BEPS, such as the EU directives to combat tax avoidance practices (ATAD I and ATAD II), and the introduction of reporting obligations for cross-border tax arrangements (implemented in Austria through the EU Reporting Obligations Act).

Austrian regulations to date 

Austria has broadly pioneered the implementation of certain BEPS measures and ATAD regulations. For example, the Austrian Corporate Income Tax Act (KStG) already contained various provisions on the non-deductibility of interest and royalties before the interest barrier came into force. 

For example, if a company takes out a loan to acquire shares in a group company, the corresponding interest expenses are not deductible. Furthermore, interest and royalties are not deductible if they are subject to low taxation (a tax rate of less than 10%) at the receiving group (foreign) company. This makes the establishment of so-called IP boxes in low-tax states unattractive because the interest or royalties paid to this IP box are not deductible in Austria. 

In view of these pre-existing provisions, the Federal Government initially believed that the interest barrier based on Article 4 ATAD I did not need to be implemented separately. However, the EU Commission disagreed and initiated infringement proceedings against Austria by means of a letter of formal notice in July 2019. This conflict was resolved by including the interest barrier in the new Section 12a of the KStG. 

The new interest barrier pursuant to Section 12a of the KStG 

In Austria, the owners of a company are generally allowed to decide for themselves how to finance the company. With the exception of the nominal capital in the case of corporations, which constitutes part of the equity capital, the owners are therefore free to finance the company’s activities through equity capital (e.g. capital increase or grant) or debt capital (e.g. shareholder loan). In contrast to some other European countries, Austrian law also does not require a minimum equity ratio for tax purposes. The goal of these so-called Thin Capitalisation Rules is: if the equity ratio falls below a certain level, interest on borrowed capital is no longer tax deductible. The deductibility of interest is thus also limited. 

The new interest barrier also does not require a minimum equity ratio. But the purpose of the interest barrier is similar to that of the Thin Capitalisation Rules, namely to prohibit unlimited interest deductions on debt. The interest barrier applies to corporations with unlimited tax liability according to Section 1 Paragraph 2 Line 1 of the KStG, i.e. legal entities governed by private law. Foreign corporations are also covered if they maintain a permanent base in Austria. 

At this point, however, an important exception must be mentioned. The interest barrier does not apply to corporations that are not included in consolidated financial statements, do not have any affiliated companies and neither maintain any foreign permanent bases (the “stand-alone” exception). 

Exemptions from the interest barrier 

In addition to the exceptions already mentioned (allowance and stand-alone), there are the following exceptions: 

  • Equity Escape: Interest expenses are fully deductible if group companies have an equity ratio that is higher than or equal to the group’s equity ratio 
  • Legacy loans: Interest expenses from loan agreements concluded before 17 June 2016 are not covered by the interest barrier 
  • Infrastructure projects: Interest expenses incurred for the financing of long-term and public infrastructure projects that are in the interest of the general public within the European Union are also exempt 

Tax groups as defined in Section 9 of the Austrian Corporation Tax Act (KStG) are also covered by the interest barrier. The following special features apply: the interest barrier and the interest and EBITDA carry-forward rules apply exclusively at Group level. The interest surplus and the tax EBITDA are to be determined at Group level. The allowance of EUR 3 million applies to the entire group. With regard to the equity escape exception, the Group equity ratio must be compared with the company equity ratio. 

In larger groups, this new regulation will certainly have an influence on the financing structure – a closer look at Section 12a of the KStG is thus unavoidable. Many SMEs, on the other hand, are probably not affected at all by the interest barrier due to the exemption amount and the stand-alone exemption. 

The Ministry of Finance as well as the Ministry of the Environment will issue regulations on this new law in the near future, which will provide guidance on Section 12a of the KStG. We will continue to keep you informed. 

Calculation of the interest barrier

If the corporation falls under Section 12a of the KStG, the existence of an interest surplus must be determined. The interest surplus results from the difference between the taxable interest income and the deductible interest expenses. 

deductible interest expenses 

– 

taxable interest income 

Interest surplus 

The second parameter is the fiscal EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortisation). This is determined as follows 

Total amount of income (before application of the interest barrier) 

+/– 

tax appreciation or depreciation 

Interest surplus 

taxable EBITDA (of which 30 % = offsettable EBITDA) 

The “interest barrier” means that excess interest in a fiscal year is deductible only to a maximum of 30% of the fiscal year’s EBITDA for tax purposes. Another important exception is the allowance exception. This is because an interest surplus of up to EUR 3 million per assessment period is always deductible. 

Any excess interest not deductible in a financial year or any unused taxable EBITDA may be carried forward to subsequent years, subject to a 5-year limit on the amount of taxable EBITDA that may be carried forward.


AUTHOR:

Mag. Daniel Kocab, LL.M.,Attorney-at-Law at LANSKY, GANZGER + partner

My documents

Add page

There are currently no documents in your basket.