CFC Rules in Europe

Businesses around the world often operate in more than one country, making them subject to multiple tax jurisdictions. To prevent businesses from minimizing their tax liability by taking advantage of cross-country differences, countries have implemented various anti-tax avoidance measures, such as the so-called Controlled Foreign Corporation (CFC) rules.

Controlled Foreign Corporation rules apply to certain income generated by foreign subsidiaries of a domestic firm. For example, if a business headquartered in France (with a combined corporate income tax rate of 28.4 percent) has a subsidiary in the Bahamas (which does not tax corporate income), French tax authorities may, in some cases, assert the right to tax the income earned by the Bahamian subsidiary. These rules aim to disincentivize shifting income to low-tax jurisdictions by subjecting businesses that do so to domestic tax on that income, thus protecting the domestic tax base.

Controlled Foreign Corporation rules, although complex, generally follow the same basic structure. First, an ownership threshold is used to determine whether an entity is considered a Controlled Foreign Corporation. Most European countries consider a foreign subsidiary a Controlled Foreign Corporation if one or more related domestic corporations own at least 50 percent of the subsidiary.

Second, once a foreign subsidiary is considered a Controlled Foreign Corporation, there is a test to determine whether the subsidiary’s income should be taxed domestically. Most European countries deem a subsidiary’s income taxable to the domestic parent if the subsidiary’s income is taxed at a rate below a certain threshold, or a certain share of the subsidiary’s income is passive. Passive income includes non-traditional production activities, such as interest, dividends, rental income, and royalty income.

Third, once a foreign subsidiary is considered a Controlled Foreign Corporation and its income is taxable domestically, a country defines what income earned by the foreign subsidiary is subject to tax. As the accompanying map shows, this varies significantly among the European countries covered. While some countries tax only a Controlled Foreign Corporation’s passive income, others tax all income of foreign subsidiaries (active and passive). Countries may also choose to tax all income associated with non-genuine arrangements, which are arrangements established to obtain a tax advantage for the parent company.

Nine of the 27 countries covered in this map tax only a CFC’s passive income: Austria, the Czech Republic, Denmark, Germany, Greece, Lithuania, the Netherlands, Slovenia, and Spain.

Ten countries tax both active and passive income earned by a CFC: Finland, France, Iceland, Italy, Norway, Poland, Portugal, Sweden, Turkey, and the United Kingdom.

Seven countries tax all income associated with non-genuine arrangements: Belgium, Estonia, Hungary, Ireland, Latvia, Luxembourg, and Slovakia.

Switzerland is the only country covered that has not enacted CFC rules.

Most countries have various exemptions to their CFC rules. For example, many EU member states do not apply their CFC rules to subsidiaries located in other EU countries. The following table provides a basic outline of the CFC rule exemptions used by the countries covered in the map. More details can be found here.