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The EU Commission on September 19 decided that Luxembourg’s tax treatment of McDonald’s Europe Franchising does not violate the Luxembourg-US tax treaty and that tax rulings granted to McDonald’s do not infringe EU State aid rules.
The decision follows an in-depth investigation launched in December 2015, based on doubts that Luxembourg might have misapplied its tax treaty with the US.
Two tax rulings
McDonald’s Europe Franchising – a subsidiary of US-based McDonald’s Corporation – is tax resident in Luxembourg. In March 2009, Luxembourg granted the company a first tax ruling confirming that it did not need to pay corporate tax in Luxembourg since the profits would be subject to US tax. This was in view of the Luxembourg-US tax treaty, which exempts income from corporate taxation in Luxembourg, if it may be taxed in the US, the Commission noted.
McDonald’s Europe Franchising was required to submit proof every year to the Luxembourg tax authorities that the royalties transferred to the US were declared and subject to US tax, the Commission noted.
In September 2009, Luxembourg issued a second tax ruling to McDonald’s Europe Franchising according to which the company was no longer required to prove that the royalty income was subject to US tax. According to the Commission, Luxembourg agreed to McDonald’s claim that, although the US branch was not a “permanent establishment” according to US tax law, it was a “permanent establishment” according to Luxembourg tax law. As a result, the royalty income should be exempt from taxation under Luxembourg corporate tax law.
Commission’s decision
The Commission decided that, although the second tax ruling resulted in the double non-taxation of the royalties attributed to the US branch, the interpretation given to the Luxembourg-US tax treaty was correct. The Commission found that Luxembourg could exempt the US branch of McDonald’s Europe Franchising from corporate taxation without violating the tax treaty because the US branch could be considered a permanent establishment according to Luxembourg tax law.
Commissioner Margrethe Vestager explained: “The Commission investigated under EU State aid rules whether the double non-taxation of certain McDonald’s profits was the result of Luxembourg misapplying its national laws and the Luxembourg-US tax treaty, in favor of McDonald’s. Our in-depth investigation has shown that the reason for double non-taxation in this case is a mismatch between Luxembourg and US tax laws, and not a special treatment by Luxembourg. Therefore, Luxembourg did not break EU State aid rules.”
“Of course, the fact remains that McDonald’s did not pay any taxes on these profits – and this is not how it should be from a tax fairness point of view. That’s why I very much welcome that the Luxembourg Government is taking legislative steps to address the issue that arose in this case and avoid such situations in the future,” she added.
Luxembourg welcomes decision
Welcoming the decision, the Finance Ministry said: “Luxembourg has taken note of the Commission’s decision in the McDonald’s case, which confirms the absence of a selective treatment and state aid incompatible with the internal market within the meaning of Article 107 (1) of the Treaty on the Functioning of the European Union. Luxembourg has cooperated fully with the Commission throughout its investigation and welcomes the Commission’s recognition of the steps taken by the Luxembourg authorities to avoid comparable cases in the future.”
“Luxembourg fully supports the OECD’s base erosion and profit shifting project and actively contributed to the adoption of the anti-tax avoidance directives (ATAD) on the European level, in the spirit of the level-playing field. In this context, the Government has submitted to Parliament a draft bill transposing the first ATAD directive into Luxembourg law and amending provisions of the tax legislation, with the aim of henceforth preventing double non-taxation situations such as raised by the Commission.”
Pierre Gramegna, Minister of Finance, commented: “I am pleased that the Commission notes that the application of the rules in force at the time was in conformity with EU law. This decision strengthens Luxembourg’s position that while the application of the rules in force at the time might have resulted in a situation that no longer reflects the current spirit of the national and international tax framework, such an application does not constitute state aid.”