The effects of EU formula apportionment on corporate tax revenues


The European Commission proposes to replace the current system of taxing corporate income using separate accounting by a two-step ‘consolidation and apportionment’ procedure. This paper uses a large set of unconsolidated firm-level data to assess the likely impact on corporate tax revenues in each member state. Taking pre-tax profit as given, overall tax revenues would be likely to drop by 2.5 per cent if companies could choose whether to participate. By contrast, if they were forced to participate, total tax revenues would be likely to increase by more than 2 per cent, leaving some European countries - most notably, Spain, Sweden and the UK - better off. We investigate how sensitive these results are to the apportionment factors used.

Research Highlight 2007

The implications of international loss consolidation and formula apportionment

Over several decades, the European Commission has proposed a variety of reforms to the European taxation of business. Its current proposal – the Common Consolidated Corporate Tax Base (CCCTB) – aims to address several problems, including the current absence of loss relief across member states, and more generally the difficulties involved in allocating profit between member states.

Our research has so far investigated two aspects of the proposals. Both projects use a large database of unconsolidated accounting data for several thousand companies. First, we address how tax revenues in member states would be affected by the proposals. Introducing formula apportionment on a compulsory basis may lead to higher aggregate tax revenues in the EU, though there would be gainers and losers amongst both companies and revenue authorities. The precise effects depend crucially on the formula used to apportion EU-wide profits between member states.

To assess the impact of the CCCTB on incentives to locate investment in different member states, we examine the distribution of effective average tax rates under the proposed system compared to the existing system. This required a significant

extension to existing methodologies of measuring effective tax rates, to allow for loss consolidation and differences across firms in where they locate. Differences in these effective tax rates indicate the degree of distortion created by the EU tax system as a whole. The results suggest that the new tax system would substantially reduce distortions to the location decisions of individual companies. However, substantial differences in effective tax rates across companies would remain, suggesting that there would remain significant distortions to the pattern of ownership of capital assets.

“The Effects of EU Formula Apportionment on Corporate Tax Revenues”, Michael P Devereux and Simon Loretz, Working Paper 07/06.