COMMISSION officials say preferential deals amount to illegal state aid. The rulings in four test cases will cut to the heart of multinationals’ arrangements in Europe — and could lead to fines worth billions.

Dublin is at the forefront of an investigation by the EU into countries that it suspects of offering illegal sweetheart tax deals to multinationals. The European Commission says it will ‘shortly’ issue decisions on four watershed test cases: Apple in Ireland, Starbucks in the Netherlands and Fiat Finance and Trade and Amazon in Luxembourg.

Brussels is using a revolutionary but highly contentious methodology to argue its case and, if it rules that there has been wrongdoing, it has the powers to impose some of the biggest penalties in the EU’s history. The commission can force governments to recoup 10 years of unpaid taxes. As one EU official puts it: “We are talking billions and billions.”

Apple has already warned its investors that it could suffer a ‘material’ hit from the EU probe if Ireland is forced to claw back the money.

JPMorgan has estimated that, in the worst case scenario, Apple is on the hook for about $19bn. Very few competition lawyers in Brussels expect any bills to be that high, but big penalties would nevertheless change the rules of the tax-dodging game by adding a muscular level of deterrence.

Until now, tax reforms have largely centred on voluntary and often toothless international guidelines. EU countries have doggedly defended their sovereign right to raise taxes as they want. Britain has easily resisted moves to harmonise tax rates across Europe.

The European Commission says it will ‘shortly’ issue decisions on four watershed test cases: Apple in Ireland, Starbucks in the Netherlands and Fiat Finance and Trade and Amazon in Luxembourg

So Brussels is resorting to the sort of imaginative tactics that are usually the hallmark of the multinationals’ tax advisers. It is arguing that preferential tax deals — the ‘comfort letters’ given to the companies by EU governments — fall within the realm of state aid. This means that they are illegal state subsidies and Brussels can use its ‘big bazooka’ of recovery orders to recoup them.

“These are all highly significant cases — and the verdicts will be very important,” says Anneliese Dodds, rapporteur on corporate tax at the European Parliament. She stresses that the cases will cut to the heart of whether multinationals receive advantages that domestic companies would not. “It is that kind of fundamental unfairness — a complete lack of a level playing field — that has made so many millions of people in Europe angry.”

Ms Dodds adds that the four initial cases are probably only ‘the tip of the iceberg’. The LuxLeaks whistleblower revelations suggest thousands of comfort letters have been issued. Brussels is already investigating more than 100 cases in 21 countries. The commission insists that it does not oppose tax rulings per se, which multinationals need to clarify where their profits will be taxed, but is targeting abuses where companies try to whittle their obligations down to virtually nothing.

Margrethe Vestager, the EU competition commissioner, was expected to announce her decision on the four cases by the end of last month but this has been delayed. “They are taking no risks,” says one lawyer involved in the cases, explaining that the commission needs more time to establish a watertight legal precedent in highly complex probes, where information often has to be prised from recalcitrant states. Luxembourg, Estonia and Poland have all been rebuked by the commission for not being forthcoming with information.

According to lawyers familiar with the inquiry, there is a consensus that Ms Vestager’s team is seeking to issue recovery orders in the autumn, although one of the cases could be concluded earlier. However, the commission would then face immediate appeals in the Court of Justice of the EU, where the state aid argument will be tested for several years. To steel themselves for the battle, EU competition officials are bringing in lawyers from other departments to test the commission’s logic.

Ireland insists there is nothing illegal about its tax rulings, which are ‘non-binding’ guidelines. Michael Noonan, finance minister, said last year that Dublin would ‘win the case quite legally and there isn’t a very strong case by the commission’. Luxembourg and the Netherlands also say that they have done nothing illegal.

To beat the member states, Brussels will have to prevail in three contentious areas: ‘selectivity’, ‘advantage’ and the value of intellectual property.

One of the defining characteristics of illegal state aid is that it must be tailored to a particular business or sector. In its bid to prove ‘selectivity’, the commission’s initial evidence about Apple’s deal focuses on a discussion between a company’s tax adviser and Ireland’s revenue service in 1990. According to a document published by the commission, Apple’s tax adviser made his pitch with the veiled threat that the company was ‘reviewing its worldwide operations’.

“It is difficult to apply the concept of selective advantage in the context of tax rulings. There are thousands of such rulings,” says Jay Modrall, a lawyer at Norton Rose Fulbright. “While each ruling applies to a specific situation, it is difficult to see how the commission could show that a similarly situated company would not have received an equivalent ruling, taking account of the practices in the relevant member state.”

Apple stresses that it is ‘subject to the same tax laws as scores of other international companies doing business in Ireland’. Ms Vestager counters that Brussels is focusing on cases where there is a ‘suspicion that you can have it but your competitor next door cannot have it’.

The obligation to calculate the ‘advantage’ conferred by a comfort letter will demand highly complex sums about what a company would have paid without a tax ruling. The cases hinge on transfer pricing — whereby companies buy and sell goods and services internally between various units, shunting around profit to pay tax in the most advantageous jurisdiction. Campaign­ers view transfer pricing as one of the gravest injustices.

But to win the case, the commission will have to be exact about the scale of unjustified transactions. One of the details in the Starbucks case is that its Swiss operation sells coffee beans to the Dutch unit at a 20pc mark-up. Determining whether this is acceptable or not requires a pioneering verdict on the correct methodology for the ‘arm’s length principle’ — how much the same transaction would have cost if it were conducted on the open market. Starbucks denies any wrongdoing.

Calculating an appropriate value for intellectual property is another minefield for EU competition officials. Technology companies often argue that their taxable profit should be attributed to know-how generated on the US west coast. Tax is lower elsewhere, they argue, because bread-and-butter assembly, packaging and distribution operations contribute little to profits.

Because of those IP implications, some in the Irish camp even raise the provocative argument that any money recovered would be due to the US Treasury, as Apple’s taxable profit is created in California. Whoever is entitled to it, Dublin would not put the money into the national budget, with officials saying the money is simply ‘not ours’.

Despite the legal hurdles, Ms Vestager is vowing to decide on the cases ‘as soon as possible’. She has already shown a fearless appetite to take on big names, launching antitrust cases against Google and Gazprom. In terms of tax, she promises to ensure ‘a level playing field is re-established’.She is supported by Gert-Jan Koopman, the state aid chief at the commission.

Published in Dawn, Economic & Business ,July 21st, 2015

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