Stripping Neighbors of Money Pressure Mounts for EU Crackdown on Tax Havens

Corporations pay low taxes in Luxembourg. As prime minister, Jean-Claude Juncker carried partial blame for this policy. Politicians in Brussels have maneuvered to save him from the scandal, but the case has cast light on Europe's tax-dumping problem.
Old national interests have come back to haunt former Luxembourg Prime Minister Jean-Claude Juncker, now president of the European Commission.

Old national interests have come back to haunt former Luxembourg Prime Minister Jean-Claude Juncker, now president of the European Commission.


Jean-Claude Juncker peers to the right. It's where the hope lays, Juncker's hope that he will get through this crisis in one piece. In this instance, hope has a name as well: Frans Timmermans, the Dutch first vice-president of the European Commission.

Last Wednesday, the two held a joint press conference in Brussels. Juncker wanted to explain himself following the Luxembourg Leaks exposé  by an international consortium of investigative journalists nearly two weeks ago detailing mass tax avoidance schemes in Luxembourg, where Juncker served as prime minister for 24 years, many of them as finance minister as well, and played a role in steering the country's fiscal policies. The reports raised new questions  about Luxembourg's tax loopholes, which are used to attract multinational corporations, but also about whether Juncker is the right man for Europe's top job.

Juncker began the press conference by talking about himself. Then he looked to the right and started speaking about Timmermans and casually mentioned a European Commission investigation into dodgy tax practices in the Netherlands, where the commission is conducting a probe into whether the Dutch authorities cut a sweetheart deal with US coffee store chain Starbucks. Timmermans had previously served as the Netherlands' foreign minister.

It was a way of deflecting attention from allegations cast at Juncker himself and releasing some of the pressure by placing a bit of it on the shoulders of others. It's not a very nice thing to do, but it is pretty common tactic among leaders of countries that offer tax avoidance measures. The message they like to convey is: "We're not the only ones doing this, so don't get so worked up." This still seems to be Juncker's modus operandi as well.

Whether he is still fit to serve as the commission president is a question that could be heard in European capital cities last week and one that is likely to linger for some time to come.

In Luxembourg, corporate income taxes are as low as 1 percent for some companies. An average worker in Germany with a salary of €40,000 ($50,000) who doesn't joint file with a spouse has to pay about €8,940 in taxes each year. At the Luxembourg rate, the worker would only have to pay €400. But some companies have even managed to finagle a tax rate of 0.1 percent, which would amount to a paltry €40 for the average German worker. As delightful as those figures may sound, normal workers will never have access to those kinds of tax discounts.

Anything But Fair

That's why it came across as obscene to many when Juncker defended Luxembourg's tax arrangements on Wednesday as "legal". They may be legal, but they are anything but fair. It also strengthens an impression that gained currency during the financial crisis -- that capitalism favors banks and companies, not normal people, and that these institutions profit even more than previously known from tax loopholes.

But the Juncker case also sheds light on the two faces of European politics. Top Brussels politicians are recruited from the individual EU member states and, as such, have long representated their countries' national interests. Then they move to Brussels, where they are expected to advocate for the European Union. At times like this, though, when dealings in Brussels are becoming increasingly politicized, the idea that these politicians are promoting the EU's interests as a bloc loses credibility. And Juncker, the very man who had a hand in stripping Luxembourg's neighbors of tax money, is supposed to be the main face representing the EU. It's also very problematic that he, as the man who led a country that was one of the worst perpetrators of these tax practices, is now supposed to see to it that these schemes are investigated and curbed in the future.

Its unlikely Juncker will be forced to step down. The center-left and the conservatives working together in the European Parliament combined with a fair amount of backroom maneuvering enabled Juncker to keep his job last week.

Juncker's response to the disclosures began the week before last when he retreated home to Luxembourg. His advisors on the European Commission had suggested he should step out of the limelight for a while. Juncker did, but he didn't find much peace and quiet there.

He got one call from Martin Schulz, the president of the European Parliament and a Social Democrat, and another from Manfred Weber, the chairman of the parliamentary group of the conservative European People's Party (EPP), which also represents Juncker's Christian Democrats. Juncker seemed caught off guard by the impact of the criticism. "Everyone was aware of this," he said. His callers then reminded him that he had defined the European Commission he was to lead as a kind of "European Government." They then called on him to address the criticism -- a step Juncker wasn't initially prepared to make.

Unfit To Serve?

The pressure began to mount a week ago Monday. The leftist GUE/NGL parliamentary group started gathering signatures for a "motion of censure," or no confidence vote, against Juncker. "A person who is responsible for and defends aggressive tax evasion policies, which stands in stark contradiction to the aims of the Council and Commission, has no place at the highest level of EU leadership," it reads. The group "therefore considers Mr. Juncker unfit to serve as president of the European Commission."

On Tuesday night, Juncker, Schulz, Weber, Gianni Pitella, the head of the Social Democrats' group in parliament, and Frans Timmermans met at 8 p.m. at the restaurant Stirwen in Brussels. The politicians are all members of the new "coalition committee," the informal power center of the current majority held by the center-left and the conservatives in European Parliament and in the Commission's leadership. They developed a plan of attack and persuaded Juncker to go on the offensive in defending himself. First he would meet with fellow members of the Commission, then he would talk to the press before later addressing the European Parliament.

His colleagues on the Commission advised him to speak more candidly about his role in tax policy as prime minister of Luxembourg. They argued he could say that everything had happened in accordance with EU law. They also expressed their belief people would understand that he had simply been representing his country's interests as its leader.

But Juncker didn't take that advice when he appeared before journalists around lunchtime on Wednesday. As EU Commission president, he claimed, he could not talk about his time as prime minister of Luxembourg. Juncker argued vaguely that tax rates for corporations were in some cases very low because of the "interaction between divergent national" laws. He then cast his gaze toward Timmermans again.

'A Shadow Hanging over the Commission'

In European Parliament, Guy Verhofstadt, the head of the business-friendly liberal ALDE group, later spoke of a "shadow hanging over the Commission." "We already have one lame duck in Washington," he said in reference to US President Barack Obama. "It's not necessary to make a lame duck here."

So far, the leftists haven't gotten 10 percent support necessary for a parliamentary vote of no confidence, the minimum amount that would be needed to force a debate on the issue in parliament. Indeed, Juncker is being shored up by the broad conservative and Social Democratic majority in parliament as well as the backroom wheelings and dealings of leaders in parliament and the heads of the European Commission. With a dearth of strong opposition in parliament, the current majority can get away with quite a bit it seems.

Nonetheless, there has been some movement on the issue of taxes. "The question of fair taxation isn't just an issue for Luxembourg -- it is pan-European," says EPP party group head Weber. "Just take the example of the new discussion about the EU state aid investigation in the Netherlands. The member states need to get off their soap boxes and finally take action against unfair tax savings. There needs to be more transparency in particular. The ball is in the court of the European Council (the body that represents the leaders and ministers of the 28 member states). We will be following closely what the finance ministers deliver."

Financial War?

Not everyone is pleased by developments. Take Christian Rollmann, a man whose anger is growing. The Luxembourg citizen believes a financial war is brewing. When he reads the news these days he says he can feel the anger in his stomach. The target of his rage is not Juncker and the tax policies -- it's the foreign media and politicians, especially in Germany, whom he accuses of trying to sully Luxembourg's reputation with what he calls "financial war propaganda."

Rollmann, 54, worked for 13 years for Luxembourg's tax administration, with 10 of those spent in Sociétés 6, the unit permitted to reach deals on behalf of the treasury with multinational companies. Today Rollmann works as a lawyer. He sees the whole debate as being a question of honor -- including his own.

Rollmann says he spent his time at the tax authority "reading and calculating" agreements that his department reached with tax lawyers at companies like Amazon, IKEA and Fiat. Rollmann claims the office acted strictly legally. "Our tax law is exactly the same as Germany's, did you know that?" he asks. His voice grows more indignant with each word. "Did you know that we were forced to adopt German tax law in 1944? It is still in effect today."

Still, Rollmann claims, every law must be interpreted at the discretion of officials, "according to fairness and expedience."

When companies inquired in Luxembourg how they would be taxed in the country for the billions of revenues they generated in Germany or Spain, for example, officials would answer that these sums were considered to be "capital contributions" and that the tax rate for these would be much lower than for income. "That's in line with common sense," Rollmann says.

He says that his division didn't agree on special tax rates with companies. Instead, he says, in individual instances the assessment basis was pruned in order to reach an attractive result. The lawyer claims it was all legal. And yet his apparent need to point out that, "I never signed an assessment myself," also seems important.

Rollmann claims that German tax authorities could have stopped these practices at any time within their territory. "But there was no political will to do so." He alleges that other countries now want to destroy Luxembourg in order to get access to the coffers themselves. "But I can only warn them: The whole traveling circus (of multinationals) won't be moving to Germany -- it will go to Hong Kong or Dubai."

Rollmann says he never encountered Juncker in the hallways of the tax authority. "You don't really believe that the man had time to look after companies' fiscal and economic details do you?" When asked how much responsibility Juncker had for the whole tax system, he says: "He greatly helped Luxembourg and he is now suffering a great deal of anxiety as a result. I don't want to say anything else about it."

That's the mentality in Luxembourg, with its unique tax system, one which Juncker had both a part in and also oversaw as its leader. In 1989 he became finance minister and then served as prime minister from 1995 to 2013.

The 'Dutch Sandwich' and other Tax Treats

Already as early as 1989, the OECD, the club of industrialized nations, expressed praise for Luxembourg for "developing into one of the world's most attractive financial centers" over the past two decades. The same year, German electric utility RWE made headlines because the company used leasing contracts with its Mülheim-Kärlich nuclear power plant in order to stream its profits past German fiscal authorities into a Luxembourg-based subsidiary that then paid taxes on those profits in the Grand Duchy. It's the same kind of construct for which Luxembourg is being criticized today.

The fall of the Berlin Wall and the end of the Cold War in 1989 heralded an even greater globalization of the world economy. Today companies can quickly shift their capital, jobs and knowledge around the world. There are certainly advantages to doing this, but it also means that governments, particularly those in countries that are home to large multinational corporations, pay a high price when profits are shifted in ways that result in unfair tax savings. Countries lacking a strong industrial base are often keen to cash in on this opportunity.

For over 20 years now, the EU and the OECD have been seeking to dry up these tax havens. It's tedius work, because perceptions of where legitimate tax competition ends and unfair competition begins diverge greatly in the fight for international capital and jobs.

At the start of the 1990s, the European Commission proposed a Europe-wide tax on all capital yields. The plan had been for a withholding tax -- in other words, the levy would be paid by the bank directly to the tax office. The debate over the proposal dragged on for a decade, with objections coming from all directions. It resulted in a weak compromise in 2005. Luxembourg, Belgium and Austria refused to allow a requirement that their banks report the interest earnings on their customers' accounts to the tax authorities in their country of origin. The procedure would have meant the de facto end of banking secrecy on those earnings. "We will not permit a cross-border snatching of bank data," Juncker said in 1998.

The sentence no longer holds true today. In 2017, Luxembourg and 50 other nations are set to introduce the automatic global exchange of tax data. It's the product of years of pressure applied to tax havens by the United States and other countries and not any kind of mutual understanding.

Juncker Paints Luxembourg in Positive Light

"Every time we made progress on tax harmonization in Europe was under the presidency of Luxembourg," Juncker stated last Wednesday before the European Parliament. Indeed, the EU finance ministers did work out a "code of good conduct" in 1997 aimed at "containing damaging tax measures, a time when Luxembourg held the rotating EU presidency. But while Juncker may have proposed it, the codex remains non-binding today.

Juncker said at his press conference on Wednesday that he hadn't been "the architect" of the Luxembourg model. Nevertheless, as the country's leader, he certainly promoted Luxembourg's development as a tax haven. In 2003, he personally campaigned for Internet giants AOL and Amazon to set up operations in Luxembourg. He reportedly enthusiasticallyl at the time that it would deliver "a lot of money" into the national treasury. "The fact that AOL and Amazon are coming to Luxembourg," Juncker told his national parliament, is the result of having the right tax policies. Juncker led the negotiations along with others.

Juncker also used the revenues to help finance his generous social policies. Among them was a pension system reform that credits time taken off by mothers to raise children towards their overall retirement benefits. The policies did wonders for Juncker's popularity and helped secure his re-election as prime minister.

It's a temptation for any politician, and other countries have also sought to take advantage of tax loopholes. Belgium actively promotes itself to foreign investors with its "simple, fast and efficient" preliminary agreements with tax authorities. Belgium-based subsidiaries of multinational corporations can deduct interest on their equity capital and thus dramatically reduce their tax burden with the tax office.

The Netherlands has also made itself attractive to international corporations with its low taxes on dividends, interest payments and license fees. The country is famous for its "Dutch Sandwich ," a tax savings model used by Google and other companies in order to strip down their profits and escape paying higher taxes. The Internet company books revenues for its European business operations to Google Ireland Ltd. But its surpluses are then eaten up by personnel, advertising and promotion costs, but above all through obscenely high license fees. Google Ireland reported revenues of €10 billion in 2010 and transferred €7.2 billion of that to a Dutch subsidiary.

Meanwhile, Google Netherlands Holdings B.V. in Amsterdam, which collects the license fees from Dublin, paid only €2.7 million in corporate income taxes in the Holland in 2010. The reason behind this is that the company returned the lion's share of its earnings back to Google Ireland in the form of yet another license fee. Because Google Ireland's administrative headquarters are in Bermuda, the company is able to funnel its billions in revenues outside of Europe almost tax-free.

Patience Runs Out

Dutch finance minister and Euro Group President Jeroen Dijsselbloem is already preparing for the possibility that his country may soon become the subject of the same kind of investigative reporting seen in the recent Luxembourg exposés. "You're next," Dijsselbloem was reportedly warned several times last week.

It is already happening. On Friday, the EU Commission went public with its concerns about a favorable tax deal the Dutch made with US coffee chain Starbucks. "It's very striking that major US companies in the Netherlands have twice the turnover as in Luxembourg," says Markus Ferber, the budget expert in the European Parliament for the Christian Social Union, the Bavarian sister party to German Chancellor Angela Merkel's Christian Democrats. "Besides, in contrast to Luxembourg, the country recently blocked initiatives aimed at eliminating tax evasion models again. Yet it is very clear that both Timmermans and Dijsselbloem, who also happens to be the Dutch finance minister, need to clean up their country's lax tax practices."

Patience is running out in Europe for tax evasion, and the pressure to stop these dumping practices is mounting. With its BEPS project, the OECD has been crafting rules since 2013 intended to put an end to the arbitrary shifting of profits by corporations at the expense of national treasuries.

Even Juncker is getting in on the act now. He is proposing that tax offices be required to forward to the EU any tax agreements with companies like those done in Luxembourg that could have important implications for another country. Endorse it as he might, though, it's not his idea. One day earlier, in a letter written to European Commissioner for Economic and Financial Affairs Pierre Moscovici, German Finance Minister Wolfgang Schäuble called on the EU to adopt the same model, which originates from a proposal made by the BEPS project. And though Schäuble may be giving a public show of solidarity with Juncker, behind the scenes at the Finance Ministry in Berlin officials are gratified by the fact that the former Luxembourg leader is finally being taken to task after years of blocking measures to stop tax evasion. In terms of fiscal policy, officials in the ministry have for some time been fond of using pejoratives to describe neighboring Luxembourg.

Juncker as Judge and Defendant

Given that Juncker is likely to remain at the helm of the European Commission -- at least for now -- he will also be the de facto leader of the Directorate-General responsible for investigating whether the tax practices used by Luxembourg during Juncker's time as its leader constituted illegal state aid under EU law. For any decision by the EU competition authority to become legally binding, it must also be adopted by the College of Commissioners, which Juncker chairs. Put this all together and the EU and Juncker now have a serious credibility problem.

During elections for the European Parliament this spring, a promise was made to make Europe more democratic and transparent, but it appears that leading politicians have now scrapped that pledge during its first important test. Previously, it had been the European Council that had had a reputation for backroom dealing. It now also applies to the European Parliament and the EU Commission, which jointly conspired during last spring's election to ensure that the leading candidate would also become president of the EU's executive.

Despite all this, the German government in Berlin doesn't really have any interest in letting Juncker fall. Although Merkel harbored reservations  about the idea of "leading candidates" during the European election from the very beginning and continues to hold doubts about Juncker's fitness for the EU's top post, her real interest is in having a functioning European Commission. Indeed, the German chancellor doesn't want to risk a paralyzing fight over resignations and successors.

It's a calculation that government sources aren't shy about admitting. If Juncker's high-flying ambitions claiming that his commission is "Europe's last chance," were to be clipped a little, they argue, that might also serve working relations well. Merkel, after all, has always had a soft spot for weaker commission presidents.

By Melanie Amann, Nikolaus Blome, Markus Dettmer, Dirk Kurbjuweit, Gregor Peter Schmitz and Christoph Schult

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