Finland 2021 Budget—Potential Tax Measures

Group Deduction Legislation

In September 2020, the Finnish Government issued a draft proposal regarding the tax deductibility of group contributions within the EU/EEA region. If adopted, a Finnish parent company can deduct the amount of definitive losses of its EU/EEA resident subsidiary in the form of a so-called group deduction.

The government proposal should be issued to the Parliament in fall 2020, and the new rules are proposed to be applied as of January 1, 2021. The public comments on the draft proposal are currently being reviewed by the Ministry and Finance, and some changes may be adopted in the final proposal that will be submitted to the Parliament later on this fall.

Background

In March 2019, the European Commission started an infringement procedure against Finland concerning the Finnish domestic group contribution legislation. The current Finnish legislation is considered to violate the freedom of establishment as defined by Article 49 of the Treaty on the Functioning of the European Union and Article 31 of the EEA Agreement, as the Finnish group contribution rules do not allow tax deductibility for contributions made to affiliated companies in other EU/EEA member states to the extent that these cover definitive losses. In May 2020, the European Commission requested Finland to bring its rules on the tax deductibility of cross-border group contributions in line with EU law.

As a result of the infringement procedure, a working group was appointed by the Finnish Ministry of Finance to investigate preconditions for allowing the deductibility of cross-border group contributions in compliance with the EU laws in Finland, which resulted in issuing the draft proposal discussed here.

The Scope of Application and Conditions

The proposed new legislation would allow a Finnish parent company to make a group deduction in its taxation for the definitive losses of its affiliated companies residing in EU/EEA member states up to the amount corresponding to the Finnish parent company’s taxable income during the year when the affiliated entity is liquidated.

The group deduction would, as a general rule, be only available between a Finnish parent company and subsidiaries in which the parent company’s direct shareholding is at least 90%. Indirect ownership is accepted in case the company (or companies), through which at least 90% shareholding in the subsidiary is held, resides in the same state as the subsidiary in question.

The definition for “definitive losses” would correspond to the definitions set out in the ECJ decision C-446/03 (Marks & Spencer I) and subsequent EU case law. This means that losses would be considered as definitive if the company has exhausted the possibilities available to utilize the losses in previous or future financial years and there is no possibility for the losses to be taken into account in the subsidiary’s state of residence or another state either by the subsidiary itself or a third party.

The proposed provisions include further criteria for the assessment of definitive losses, for example, in relation to the liquidation of the subsidiary and the existence of the definitive losses. The deductibility of losses would be tied to the domestic rules on tax loss carry-forward, including the rules concerning the expiration of losses and ownership changes.

A high standard of proof for the finality of the tax losses will be required from the parent entity, as demonstrated by the current EU case law and the Finnish domestic case law.

The draft proposal suggests that the amount of group deduction can be adjusted in retrospect, for example, in case the subsidiary had engaged in non-arm’s-length transactions with the affiliated entities, or if the subsidiary’s taxable income is reassessed by a final judgment in a way that affects the amount of definitive tax losses.

Tax Residence of Corporations

In October 2020, the Finnish Government issued a proposal regarding the tax residency status of foreign corporations. If adopted, a foreign corporation will be regarded as Finnish tax resident if its place of effective management is located in Finland, which would extend the geographical scope of Finnish taxation. Currently, only corporations established or registered under Finnish law are considered to be tax resident in Finland under the domestic legislation.

The changes are proposed to be applied as of January 1, 2021.

Background

The purpose of the proposed changes is to extend the scope of Finnish taxation in order to ensure that corporations with sufficient ties to Finland are considered as Finnish tax residents and to prevent situations where Finnish tax residency status could be artificially avoided.

The proposed changes would align the Finnish tax residency rules to correspond to the tax residency rules in several other countries and the definition of home country in tax treaties. It is also considered that the implementation of the new tax residency rules would enhance the applicability of Finnish tax laws to dual-residency disputes arising under tax treaties. In fact, the new rules might lead to an increase in dual-residency disputes.

Proposed Changes and Definition of the Place of Effective Management

Under the proposed changes to the Finnish Income Tax Act, a foreign corporation would be considered as a tax resident in Finland based on a place of effective management. The new rules would apply to foreign entities considered as comparable to a Finnish corporation, and thus, for example foreign trusts would fall within the scope of the new rules. The place of effective management would be the place where key decisions affecting the entity’s daily business activities are made.

The proposal provides further explanation on the definition of the place of effective management. In practice, the place of effective management would be the location where the board of directors, or a corresponding legal organ, holds its meetings or the location of the entity’s headquarters. The board of directors should have the authority to make the key decisions affecting the entity’s daily business activities in order for such location to create the place of effective management. The proposal highlights effective decision-making powers. The interpretation of the place of effective management would be based on the actual circumstances related to the key decision-making on the entity’s daily business activities, regardless of the formal legal requirements. The place of effective management would not be determined merely on the basis of ownership.

Based on the proposal, foreign undertakings for the collective investment in transferable securities (UCITS) and alternative investment funds (AIF) would not be excluded from the scope of the new tax residency rules. A foreign investment fund could be considered as Finnish tax resident if the key business decisions are made in Finland. It is however proposed that in relation to EEA registered UCITS and AIF the application of the new rules would be deferred until 2023.

In addition to the new rules on tax residency status, the proposal suggests changes to the tax rules in relation to the valuation of assets, group contribution and tax loss carry-forward. The foreign entity’s (former) Finnish permanent establishment would be taken into account with respect to the going-concern principle and confirmed tax losses in connection with the change of the entity’s tax residency status.

Key Considerations for Multinational Enterprises

With regard to multinational enterprises, the analysis of the place of effective management requires that each entity in the group will be separately assessed. As a general rule, group-level management and governance should not affect the tax residency status of a single group company. Thus, the current governance models in multinational groups where foreign subsidiaries are not considered to have a permanent establishment in Finland should not lead to the application of the new tax residency rules. However, if the vital business decisions concerning a single group company are actually made in Finland by a Finnish affiliated entity and the management thereof, the place of effective management of the former could be considered to be in Finland.

Janne Juusela is a Partner and Eveliina Ilonen is an Associate at Borenius, Finland.

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