Germany has recently been hit by the “biggest tax scandal in post-war history”. Tax of over €30bn was at stake, and those involved included banks, stockbrokers and foreign investors. Judith Knott asks: could it happen here?
What was going on?
The €30bn relates to two separate tax schemes involving dividend tax credits: so-called “cum-cum” and “cum-ex” schemes (though the names aren’t that helpful for understanding what’s going on). Die Zeit has produced a useful English-language explainer, with details of the schemes and their calculations of the amounts at stake.
I blogged on the cum-cum variant back in January 2017. It’s a dividend-stripping device: typically, a German bank teams up with a foreign investor, and claims a tax credit that the foreign entity wouldn’t have been fully entitled to. The cum-ex variant involved two different companies claiming a tax credit on the same dividend.
Both schemes have now been definitively closed by changes to the law, but were in use for decades – hence the very large amount of tax at stake.
Are there lessons for the UK?
The UK abolished dividend tax credits in 1997, so the specific kind of dividend-stripping seen in these tax schemes has no relevance for the current UK tax system. But it’s worth looking a bit more broadly at what these schemes tell us about the German government’s response to tax avoidance compared with the UK position.
The tax schemes are highly artificial, reminiscent of the kind of contrived, circular arrangements peddled by Rossminster in the 1970s. In fact, to British eyes the cum-ex schemes have a flavour of tax evasion rather than avoidance.
The German finance ministry has been aware of them for at least 25 years, yet acted to close them only in 2012 and 2016. The tax authorities had tools to challenge them, including an anti-abuse rule, yet failed to take concerted action until very recently. They are now investigating banks for past liabilities, which the FT has reported may be significant enough to put some banks at risk of failure.
In recent years the press has been eager to report on the extent of tax avoidance here in the UK, but I would rank these German schemes at the extreme end of anything I saw during my 27 years working in Inland Revenue/HMRC. The UK tax avoidance market has generally moved on from this kind of pure artifice, to arrangements that build an advantageous tax outcome into a commercial arrangement.
Equally, the UK government’s response to avoidance has moved on. Rather than playing a constant catch-up game with the tax avoidance industry, it has adopted more innovative approaches that tackle avoidance further “upstream”, before it’s had the opportunity to do serious damage.
One of the most successful has been the requirement to disclose avoidance schemes upfront (DOTAS) introduced in 2004. So, for example, a scheme to create losses for banks by dividend-stripping – with some similarities to these German dividend strips – was blocked in 2006 before it fully got off the ground.
A comparison with Germany can therefore lend some nuance to the debate about tax avoidance in the UK. It is and will remain a constant challenge, but the picture isn’t static and HMRC has taken positive steps to address the risks.
A second lesson for the UK lies in the disconnect between the German federal finance ministry and tax authority on the one hand and the “Länder” – the regions – who actually administer the German tax system. This not only led to delay in tackling the schemes: different Länder appear to have taken different views about whether the schemes worked, with the Frankfurt local office (which happens to deal with the banks) taking a particularly lenient line.
Since 2012, the UK has been moving rather haphazardly towards greater devolution of tax for Scotland, Wales and Northern Ireland, with little debate on the over-arching principles. The lesson from Germany is that tax administration will need to remain as joined up as possible so that efforts to tackle tax avoidance are not fragmented.