HARD LAW AND SOFT LAW INTERACTIONS IN EU CORPORATE TAX REGULATION EXPLORATION AND LESSONS FOR THE FUTURE

Why direct taxation matters

Direct tax regimes and the EU

European integration aims to enhance the free movement of people, goods, services, and capital among Member States, fostering optimal resource allocation To establish an internal market without borders, it is essential to eliminate various physical, technical, and fiscal barriers, creating a cohesive market where free movement is guaranteed in accordance with treaty provisions.

The internal market, as outlined in Article 26(2) TFEU, must be viewed as a dynamic entity rather than an abstract concept, necessitating the removal of all obstacles to its completion To facilitate cross-border activities and ensure the free movement of individuals and goods within the EU, it is essential to address the distortions caused by varying direct tax systems among Member States These differences in direct taxation can significantly impede seamless interactions and economic integration across the EU.

7 See Chapter 4 for detailed analysis of soft law in EU tax regulation.

The establishment of an internal market was a fundamental objective of the European Community (EC), as outlined in Articles 2 and 3 of the Treaty Establishing the European Community (TEC) This goal was similarly reinforced for the European Union (EU) in Article 3(3) of the Treaty on European Union (TEU), as amended by the Lisbon Treaty.

9 P Craig, ‘The Evolution of the Single Market’, in C Barnard and J Scott (eds.), The Law of the

Single European Market: Unpacking the Premises, (Oxford: Hart, 2002), 1-40 at 2.

10 Article 26(2) TFEU Previously, the definition of the internal market was included in Article 14(2) TEC The wording of these two provisions is identical.

The Treaties do not grant the EU immediate authority over direct taxation; however, they facilitate measures that enhance the internal market Consequently, national direct tax systems that hinder the internal market may be addressed by EU actions These actions can be categorized into two types: positive integration, which involves establishing centralized standards to replace national rules under Article 115 TFEU, and negative integration, which focuses on removing trade barriers as per Treaty provisions that prohibit discrimination against foreign entities and ensure freedom of establishment When national tax regimes undermine the internal market, the European Court of Justice (ECJ) can intervene upon referral Tax cases can reach the ECJ through either Article 267 TFEU (preliminary ruling procedure) or Article 258 TFEU (infringement procedure).

The Treaty on the Functioning of the European Union (TFEU) and the Treaty on European Union (TEU), both crucial legal frameworks for the EU, have been consolidated and amended by the Lisbon Treaty These treaties establish the operational principles and governance of the European Union, ensuring a cohesive legal structure for member states.

12 Positive integration is also described as developing market-shaping policies M Gammie, A Klemm and C Radaelli, EU Corporate Tax Reform: Report of a CEPS Working Party, (Brussels: Centre for European Policy Studies, 2001), p i.

13 Chapter 1, section 1.4.2.1 discusses this provision in detail.

Negative integration involves the removal of national regulations that conflict with EU Treaties via judicial proceedings, with individuals and companies driving this process and the European Court of Justice (ECJ) serving as the final arbiter This approach is often characterized as market-creating policies.

15 See Chapter 1, section 1.4.2.3 for an introduction to the fundamental freedoms That section explains the meaning of Articles 49, 56 and 63 TFEU, relevant to corporate taxation.

A national court or tribunal may request a preliminary ruling from the European Court of Justice (ECJ) when it needs clarification on the interpretation of the Treaty to deliver its judgment This process allows the national court to seek guidance from the ECJ, which provides a binding interpretation However, it is important to note that the ECJ does not make decisions on the specific case; instead, the national court applies the ECJ's ruling to reach its final decision.

The infringement procedure mandates that the Commission issue a reasoned opinion to any Member State deemed to have violated its Treaty obligations If the Member State fails to adhere to the Commission's opinion within the designated timeframe, further actions may be initiated.

The Commission has the authority to initiate legal proceedings before the European Court of Justice (ECJ) Furthermore, the Treaty allows for one Member State to take action against another if it believes that the latter has failed to meet its obligations under the Treaty, as outlined in Articles 258-260 of the TFEU.

18 See Chapter 3, section 3.3 for statistical data in relation to these two procedures and case law.

Direct tax barriers within the internal market can manifest at two levels: first, through discriminatory or restrictive rules within individual Member States that favor residents over non-residents, and second, by imposing limitations on the access of production factors from other EU countries, even when the rules appear to apply uniformly Such barriers are likely to violate internal market principles, and relevant case law addresses these issues, as explored in Chapter 3.

Second, and more challenging to eradicate, are obstacles resulting from the coexistence of two or more different national regimes of direct taxation within the

The absence of a Treaty obligation to harmonise direct taxes among EU Member States allows for significant non-harmonisation, enabling nations to dictate their own tax jurisdictions This situation can lead to double taxation for taxpayers operating across borders The differing tax systems contribute to the fragmentation of labor and capital markets, resulting in increased compliance costs for businesses and individuals engaging in cross-border activities While harmonisation could alleviate these direct tax restrictions, the implications of unsuccessful harmonisation and the potential for double burdens warrant examination under the ECJ's review, as discussed in Chapter 3.

The importance of direct taxation in the national context

Direct taxation plays a crucial role for Member States, particularly in the context of the pre-globalisation era characterized by economic nationalism During this time, companies primarily conducted their operations within the confines of their home countries, while individual taxpayers generated income predominantly within their residence states.

National regulations that provide tax credits to resident companies while excluding branches of foreign companies can deter international firms from expanding into those Member States.

The corporate tax rate in the UK is 26%, significantly higher than Ireland's 12.5% The UK applies this rate uniformly to both national and foreign companies, eliminating concerns of protectionism or discrimination However, the disparity in tax rates may lead to market distortions, impacting business competitiveness.

21 Direct taxes can be harmonised on the basis of Article 115 TFEU.

In the pre-globalized era, the relationship between states and taxpayers was characterized by significant barriers to foreign investment, including physical borders and administrative challenges These obstacles, coupled with limited technological advancements that hindered information accessibility, contributed to higher costs for conducting business internationally As a result, individuals typically reported their income within their state of residence, leading to a more insular economic environment.

In the traditional tax framework, the authority to levy taxes was seen as a fundamental characteristic of sovereign states, which held a morally justified claim over the income of individuals and the profits of businesses operating within their borders Taxation was essential for safeguarding and advancing national interests, allowing states to assert their jurisdiction and implement the social and economic principles that form the basis of their governance However, this jurisdiction was limited by the need to respect the rights of other sovereign entities.

23 For example, more complex rules for foreigners to buy property or establish a business

The term "old tax world" characterizes a period when tax systems operated solely on a national level without causing regional or global tensions In contrast, the "new tax world" signifies the era of globalization, where tax systems are increasingly interconnected and influenced by international dynamics.

Sovereignty encompasses a collection of competencies and rights, which includes jurisdiction Jurisdiction specifically pertains to the state's authority to regulate social relationships through its judicial, administrative, and legislative powers.

Reference source not found above, at 26.

In the pre-globalized era, income generation predominantly occurred within national borders, making it easier to justify and collect taxes based on the residence principle This principle dictates that the jurisdiction of residence taxes all income earned by its residents, regardless of whether it is generated domestically or internationally.

Source taxation refers to the practice where non-residents are taxed by the host country on income generated within that country or on capital situated there This concept is crucial in the context of foreign direct investment and international tax regulations.

The source principle allows for the taxation of income generated by any permanent establishment (PE) within a host state's borders, including offices, branches, or factories Historically, when cross-border transactions were less common and business structures were simpler, it was easier to manage these transactions and apply source taxation This taxation is justified by the host state's provision of protections and benefits to foreign investors, such as infrastructure and skilled labor, which should be reflected in the taxes paid to the source jurisdiction.

27 J H Beale, ‘The Jurisdiction of a Sovereign State’, (1923) 36:3 Harvard Law Review 241-262 at 241.

The integration of global economies has challenged traditional taxation models, necessitating a redefinition of tax roles As globalization creates a shared economic and social landscape, countries with outdated tax approaches that distinguish between national and foreign entities struggle to adapt This shift has led to increased tax competition among jurisdictions, as uncoordinated national tax systems are now more interconnected than ever.

In an open economy, states leverage their tax systems to attract foreign companies, high-income individuals, and capital investments, expanding their potential tax base beyond that of a closed economy This competition for foreign direct investments (FDIs) from multinational corporations is intensified by the rise of new technologies, enabling financial and commercial activities to be conducted virtually anywhere in the world.

28 D Held and A McGrew, Globalization/Anti-Globalization, (Cambridge: Polity Press, 2003), p 2.

Tax competition is a multifaceted concept that has been extensively analyzed, primarily from an economic standpoint, due to its inherent economic nature However, an increasing amount of literature is exploring tax competition through the lens of political science, highlighting its significant role in influencing power dynamics and shaping governance systems in contemporary states This perspective emphasizes that tax competition is not only an economic phenomenon but also a crucial factor in the allocation and transfer of political authority.

M Webb, ‘Defining the Boundaries of Legitimate State Practice: Norms, Transnational Actors and the OECD's Project on Harmful Tax Competition’, (2004) 11:4 Review of International Political

Economy 787-827; J Sharman, Havens in a Storm: the Struggle for Global Tax Regulation, (Ithaca and London: Cornell University Press, 2006);G Rawlings, ‘Taxes and Transnational Treaties:

Responsive Regulation and the Reassertion of Offshore Sovereignty’, (2007) 29:1 Law & Policy 51-

66 Unsurprisingly, a legal perspective, with very few exceptions in the EU context, is almost absent in tax competition considerations See: W Schoen, ‘Tax Competition in Europe - the Legal

Perspective’, (2000) 9:2 EC Tax Review 89-105; C Pinto, Tax Competition and EU Law, (The Hague, London and New York: Kluwer, 2003); B J Kiekebeld, Harmful Tax Competition in the European

Union: Code of Conduct, Countermeasures and EU law, (The Netherlands: Kluwer, 2004); L Cerioni,

‘Harmful Tax Competition Revisited: Why not a Purely Legal Perspective under EC Law?’, (2005) 45:7 European Taxation 267-281.

30 A Nov, ‘The “Bidding War” to Attract Foreign Direct Investment: the Need for a Global Solution’,

(2006) 25:3 Virginia Tax Review 835-874 at 838 FDI indicates a long-term ownership of assets in one state by a resident of another state in order to control the use of these assets.

31 Such as, for instance, distribution centres or offshore banking centres.

Tax competition, despite its negative perception in legal literature, lacks a universally accepted definition In this context, it can be understood as a strategic interaction among jurisdictions, where each entity, motivated by self-interest, utilizes its tax system to attract or retain investment This competition manifests in two primary ways: first, through the implementation of general tax measures aimed at enhancing the overall competitive position of a state; and second, through specific tax incentives crafted to draw tax bases from other jurisdictions.

Tax competition is often feared for leading to a race to the bottom, resulting in diminished national tax revenues as states adjust their tax systems in response to global trends and investor behavior While concerns exist, data indicates that harmful tax competition may not be as prevalent as believed Research by Devereux, Griffith, and Klemm reveals that despite declining statutory tax rates in EU and G7 countries, corporate income tax revenues have remained stable as a percentage of GDP This evidence suggests that the anticipated race to the bottom may not have occurred, challenging the notion that tax competition necessarily undermines state revenue.

32 Easson highlights a few of the expressions used in relation to tax competition: ‘fiscal degradation’,

‘tax dumping’, ‘fiscal piracy’ and ‘poaching’ A Easson, ‘Tax Competition and Investment

Incentives’, (1996-1997) 2:2 EC Tax Journal 63-97 at 64.

The need for evolution

Tax competition's harmful effects highlight the need for international cooperation among states The prisoner’s dilemma illustrates why nations might choose to relinquish some tax sovereignty to mitigate this competition In this framework, actors must decide if cooperation benefits them, and economic theory suggests that there are circumstances where all parties are better off by abandoning independent choices Although individual gains may be less in a cooperative scenario compared to non-cooperation, all jurisdictions ultimately benefit from working together.

The coordination of direct tax systems at the EU level faces challenges due to an outdated perspective on taxation, with many Member States resisting harmonisation efforts This opposition stems from concerns that such measures could transform the EU into a more supranational entity responsible for its citizens, reflecting a reluctance to embrace deeper integration Critics argue that EU institutions lack the legitimacy to govern tax matters, emphasizing that transferring tax powers to the EU would undermine the traditional bond between nation-states and their residents Consequently, the Member States remain hesitant to relinquish their control over tax systems, prioritizing national interests over potential EU oversight.

40 A A Stein, ‘Coordination and Collaboration: Regimes in an Anarchic World’, (1982) 36:2

41 Such as tax rates or tax bases, as opposed to harmonisation of systems of corporate taxation

Several Member States, including Slovakia, Ireland, the United Kingdom, and Estonia, have expressed their opposition to EU-level harmonization of direct taxation Slovakia's stance against EU tax harmonization is documented in various sources, highlighting the ongoing debate surrounding this issue For further insights, refer to C McCreevy's address on tax harmonization delivered at the European Business Initiative on Taxation in Brussels on November 10, 2005.

Some Member States resist tax harmonisation due to differing preferences for redistribution policies, fearing it would limit their sovereign tax authority However, the reality is that national tax sovereignty has already diminished in the context of globalisation, as tax systems in one country influence those in others While governments may perceive their tax policies as independent, they are significantly affected by the tax strategies of other nations and the behaviour of potential investors The mobility of investments across jurisdictions pressures governments to adopt more market-friendly policies, altering the balance of power between markets and states By cooperating with other jurisdictions, states may regain some control over their tax policies, despite initial reservations about harmonisation.

Direct tax cooperation at the EU level is essential, as highlighted in previous chapters The EU has made several efforts to create a conducive environment for tax collaboration, focusing on the development of corporate tax regulations To achieve this, the EU has employed a range of regulatory mechanisms, encompassing both hard law and soft law measures.

Regulatory dynamics in the European Union

A hybrid structure

The process of European integration has fluctuated between two adverse methodologies: supranational and intergovernmental 44 This dual nature of the EU

43 See: C Kellerman, T Rixen and S Uhl, Europeanizing Corporate Taxation to Regain National Tax

Policy Autonomy, International Policy Analysis, July 2007, available at http://library.fes.de/pdf-files/id/04760.pdf.

The Lisbon Treaty eliminated the previous three-pillar structure of the EU, allowing for greater adaptability to evolving integration challenges To effectively influence key policy areas, the EU must demonstrate flexibility in its methods This diverse array of problem-solving tools ensures that the EU can continue to function even when legislative adoption is not feasible.

Intergovernmentalism positions the EU as an international organization where Member States play a pivotal role, emphasizing cooperation among nation states on issues of mutual interest while retaining control over their sovereignty This approach is appealing for addressing sensitive matters that states may not be ready to regulate through supranational means Essentially, intergovernmentalism stands in contrast to supranationalism, as it allows sovereign states to collaborate within an organizational framework without transferring powers to the organization itself, thus ensuring that states maintain authority over the scope and nature of their cooperation.

The intergovernmental approach currently influences only a small portion of EU activities, as European integration has primarily relied on supranational solutions Historically, legal mechanisms have been the primary methods for achieving EU objectives The European Court of Justice (ECJ) articulated the concept of the EU as a supranational community in its landmark decision in Van Gend en Loos.

The European Union represents a unique legal framework in international law, where member states have willingly limited their sovereign rights in specific areas The first pillar, the European Community, embodies a supranational character, enabling collective decision-making However, in matters related to common foreign and security policy, as well as police and judicial cooperation in criminal issues, member states opted for an intergovernmental approach, thus establishing the second and third pillars as less supranational.

126 Sieberson describes the EU as a ‘blended entity’ See: S C Sieberson, Dividing Lines Between the European Union and its Member States, (The Hague: T.M.C Asser Press, 2008), p 15.

45 N Nugent, The Government and Politics of the European Union, (Basingstoke: Palgrave Macmillan,

46 Case 26/62 NV Algemene Transport- en Expeditie Onderneming van Gend en Loos v Netherlands

Inland Revenue Administration [1963] ECR 1. and the subjects of which comprise not only the Member States but also their nationals 47

The legal system established by the EU operates independently and above national legal orders, creating a framework of conferred rights and obligations for Member States and their citizens This transfer of rights and obligations results in a limitation of national sovereignty, meaning that any unilateral actions by Member States that conflict with EU law are invalid Consequently, Member States are required to uphold the obligations and rights set forth in EU law, and failure to comply may result in enforcement actions against them.

Under the pre-Lisbon Treaties, it was relatively easy to oversimplify the nature of the

The European Union (EU) operates through a complex structure, with the first pillar characterized by its supranational nature, primarily focused on legislation, while the second and third pillars are intergovernmental and associated with soft law However, it is essential to avoid oversimplifying the EU as merely a regulatory body; the interplay between hard and soft law transcends the pillars and can be applied across various policy areas, including corporate taxation In addition to traditional hard law measures in the supranational pillar, there are initiatives that emphasize cooperation and coordination, while developments in the second and third pillars also reveal processes that extend beyond simple soft coordination.

The primacy principle asserts that within the scope of EU law, EU regulations hold precedence over any conflicting national legislation, irrespective of the timing of the national law's enactment This principle was established in the landmark case 6/64 Flaminio Costa v E.N.E.L [1964] ECR 585.

50 Direct taxation fell within the scope of the first pillar The Code of Conduct for Business Taxation is an example of soft law instruments in the supranational environment

The European Arrest Warrant exemplifies increased regulation within an intergovernmental framework, as established by Framework Decision 2002/584/JHA, which outlines the surrender procedures among Member States.

EU legal system

The European Union (EU) possesses law-making authority as defined by the Treaties, which is distinct from the broader legislative powers of national governments The EU can legislate solely in areas where Member States have granted it specific powers through the Treaties Consequently, all EU actions must be grounded in either the Treaty itself or in secondary legislation.

The evolution of EU powers has significantly shaped the landscape of European integration, leading Member States to retain sovereignty in certain areas while ceding law-making authority to the EU in others This complex relationship is defined by the Treaties, which outline the division of powers between the Member States and the European Union, establishing a framework for cooperation and governance.

The Lisbon Treaty marked a significant advancement in European integration by formally establishing the division of competences between the EU and its Member States, addressing the previously unclear boundaries set by the EC Treaty This division aims to limit the EU's encroachment on areas traditionally reserved for Member States There are three possible scenarios regarding competences: first, the EU holds exclusive competence in certain fields, preventing Member States from taking action; second, competences are shared, allowing both the EU and Member States to legislate, with the EU gaining exclusive competence once it acts; and third, Member States can exercise their competences only when the EU has not opted to act.

52 Consolidated version of the Treaty establishing the European Community, OJ 2002 C 325/33

53 Treaty of Lisbon amending the Treaty on European Union and the Treaty establishing the European Community, signed at Lisbon, 13 December 2007, OJ 2007 C 306/1.

54 S C Sieberson, note Error: Reference source not found above, at 66.

55 Article 3 TFEU The EU has exclusive competences in e.g.: the customs union, monetary policy, and the establishment of the competition rules necessary for the functioning of the internal market

According to Article 2(1) TFEU, Member States are prohibited from legislating in areas of exclusive EU competence unless they are authorized by the EU or need to implement EU acts.

Article 4 of the Treaty on the Functioning of the European Union (TFEU) outlines the shared competences between the EU and its Member States, which include the internal market, economic, social, and territorial cohesion, as well as environmental protection, transportation, and the area of freedom, security, and justice Additionally, the scope of a Member State's regulatory autonomy is defined by existing case law.

Third, there are also areas in which Member States have primary competence but the

The EU has the authority to support and coordinate the activities of its Member States without harmonizing regulatory fields While it cannot override the competencies of individual Member States, it is permitted to implement legally binding measures that may impose certain constraints on them as outlined in the proposed legislation.

The European Union must operate within constitutional limits defined by the principles of subsidiarity and proportionality, as outlined in Articles 5(3) and 5(4) of the Treaty on European Union (TEU) The subsidiarity principle permits EU institutions to intervene in areas of shared competence only when the objectives cannot be effectively achieved by Member States at either central or local levels Conversely, when the EU possesses exclusive powers, the subsidiarity principle does not apply Additionally, the principle of proportionality mandates a reasonable relationship between the measures taken and the intended goals, ensuring that actions are both appropriate and necessary.

Instruments to develop EU law

The European Union has various instruments at its disposal for regulation, particularly in coordinating national tax laws, which significantly influences the effectiveness and nature of EU regulation The legal impact of legislative measures can differ among Member States, allowing for diverse outcomes Furthermore, multiple types of instruments may be utilized within the same regulatory area, as outlined in Article 288 TFEU.

59 Case C-279/93 Finanzamt Kửln-Altstadt v Roland Schumacker [1995] ECR I -225, paragraph 21.

60 For instance: industry, tourism, education, vocational training, youth and sport Article 6 TFEU

The Treaty of Maastricht introduced Article 3b TEC to the EU, establishing that regulations, directives, and decisions are legally binding, though their binding effects vary Importantly, there is no formal hierarchy among these types of legislation, as all are considered equal in the law-making process Additionally, EU institutions can issue non-binding recommendations to encourage voluntary compliance with the rules outlined in these documents.

Directives are essential tools used by the EU to harmonize national laws among Member States They require states to align their national legislation with the directive's rules within a specified timeframe While directives set binding goals that must be achieved, they also allow Member States some flexibility in choosing how to implement these changes Ultimately, directives necessitate the adoption of national measures to ensure conformity with EU regulations.

Directive provisions often serve as a compromise among Member States on complex issues They can produce direct effect, allowing individuals to invoke their provisions in national courts Consequently, Member States may face liability for failing to implement a directive properly or at all.

Similarly to directives, regulations are also capable of having direct effect 67 However, unlike directives, regulations are binding on and directly applicable in all

EU Member States In other words, regulations do not require an implementing

64 P Craig and G De Búrca, note Error: Reference source not found above, at 279.

The doctrine of direct effect, established in the landmark case Van Gend en Loos, allows individuals to invoke clear and precise EU law before national courts, even though it is not explicitly mentioned in the EEC Treaty The European Court of Justice (ECJ) emphasized that without this doctrine, achieving the objectives of the Treaty would be ineffective.

Under Article 258 TFEU, the European Court of Justice (ECJ) can hear actions against Member States for failing to fulfill treaty obligations, such as improper implementation of directives For example, in Case C-186/09, the ECJ ruled that the United Kingdom did not adequately implement equal treatment legislation in Gibraltar Similarly, in Case C-289/07, the Commission of the European Communities took action against the UK for similar failures.

Portuguese Republic [2008] ECR I-54.See also a provision on sanctions (Article 260 TFEU).

In Case 39/72 Commission v Italy [1973] ECR 101, paragraph 3, it is established that national legal systems automatically incorporate certain measures, which are essential for achieving greater uniformity Article 288 TFEU identifies decisions as a third type of legislative measure, which are fully binding on the entities they address.

Article 288 TFEU outlines non-legally binding measures, including recommendations and opinions, aimed at shaping EU policies and law-making While it lists five categories of instruments used in the EU law-making process, this list is not exhaustive, as additional measures like guidelines, codes of conduct, and resolutions also play a role in policy development Overall, the Treaties provide limited detail on soft law measures.

This section explores the EU's potential in regulating corporate taxes, highlighting the traditional preference for a hard law approach embedded in the Treaty framework However, it also acknowledges the role of soft governance methods in European integration Despite the Lisbon amendments, the significance of these developments for the EU's regulatory future remains underappreciated in the Treaty This overview of the EU's regulatory framework is further detailed in sections 1.4 and 1.5, laying the groundwork for a comprehensive analysis of the interactions between hard law and soft law in the subsequent chapters of the thesis.

Diversified governance in EU corporate taxation

Direct taxation remains one of the most contentious regulatory areas within the EU, as highlighted in section 1.1 Achieving a consensus on direct taxation regulations has proven challenging, with progress often hindered by changing regulatory approaches To enhance its effectiveness in managing corporate taxes, the EU has increasingly adopted diversified governance mechanisms.

Specifically, three ways in which the EU has exerted influence on direct tax can be distinguished First, having satisfied the requirement of a unanimous vote by the

The EU has established a framework of direct tax directives adopted by Member States, which positively harmonizes certain aspects of direct taxation This legislative approach is grounded in the general harmonisation provisions related to the establishment and functioning of the internal market, indicating that harmonisation serves to enhance the internal market rather than being an isolated goal.

Legislation plays a limited role in addressing barriers within the internal market due to national direct tax systems, as Member States retain the freedom to regulate direct taxes However, this freedom is not absolute; Member States must adhere to non-discrimination rules established in the Treaty, which are subject to review by the European Court of Justice (ECJ) Recently, corporate taxation has also been shaped by non-legislative measures, including the Code of Conduct for Business Taxation, a non-binding framework that exemplifies soft tax regulation and serves as a key tool for managing tax competition within the EU.

68 Directives regulating direct taxation issues in the EU are: Council Directive 90/435/EEC of 23 July

In 1990, the Council established a common taxation system for parent companies and subsidiaries across different Member States, as outlined in OJ 1990 L 225/6 Additionally, Council Directive 2003/49/EC, enacted on June 3, 2003, introduced a unified taxation framework for interest and royalty payments between associated companies from various Member States, detailed in OJ 2003 L 157/49 Furthermore, the Council Directive 2003/48/EC, also dated June 3, 2003, complements these regulations.

The taxation of savings income through interest payments is governed by various directives, starting with the 2003 directive (OJ 2003 L 157/38) The earlier Council Directive 77/799/EEC, established on December 19, 1977, focused on mutual assistance among Member States in direct taxation and has since been replaced by Council Directive 2011/16/EU, effective February 15, 2011, which enhances administrative cooperation in taxation (OJ 2011 L 64/1) Additionally, Council Directive 90/434/EEC, dated July 23, 1990, addressed the common taxation system for mergers and related transactions between companies from different Member States, later codified in Council Directive 2009/133/EC, which covers various corporate restructuring activities and the transfer of registered offices between Member States (OJ 2009 L 310/34).

70 The most significant rulings of the ECJ for the development of direct tax law include: Case C- 319/02 Petri Mikael Manninen [2004] ECR I -7477; Case C-196/04 Cadbury Schweppes plc and

Cadbury Schweppes Overseas Ltd v Commissioners of Inland Revenue [2006] ECR I -7995; Case C-

524/04 Test Claimants in the Thin Cap Group Litigation v Commissioners of Inland Revenue [2007] ECR I -2107; Case C-446/03 Marks & Spencer plc v David Halsey [2005] ECR I -10837; Case C- 141/06 Lidl Belgium GmbH & Co KG v Finanzamt Heilbronn [2008] ECR I -3601.

71 Conclusions of the ECOFIN Council Meeting on 1 December 1997 concerning taxation policy, OJ

This article introduces the hard law and soft law approaches in EU corporate tax regulation, with Sections 1.4 and 1.5 examining the legal foundations and characteristics of the three regulatory methods These sections provide essential context for the discussions in Chapters 2, 3, and 4.

Hard law and corporate tax regulation in the EU

Hard law: general overview

The European Union (EU) is fundamentally an institution grounded in hard law, which encompasses legally binding obligations that are clear and provide authority for law interpretation and implementation This structure arises from the Treaty’s aim to create not just an association of states, but a framework for an economic and social union in Europe To reinforce this unique legal order, European governance has been characterized by a hierarchical approach that prioritizes hard law techniques, facilitating the alignment of national regulations The establishment of central institutions with the power to enact binding norms that take precedence over national laws has been crucial in harmonizing the legal frameworks of Member States The European Court of Justice (ECJ) has played a pivotal role in solidifying the authority of EU law While the hard law approach has historically been a traditional and politically challenging path to European integration, it has been particularly evident in the realm of corporate taxation, where initial efforts focused on harmonizing corporate taxes through directives, gaining momentum in the mid-1980s.

72 J J Kirton and M J Trebilcock (eds.), Hard Choices, Soft Law: Voluntary Standards in Global

Trade, Environment and Social Governance, (Aldershot: Ashgate, 2004), p 347.

In "European Legal Integration: Paradise Lost?", D Curtin explores the complex relationship between European integration and its impact on both European and national law This analysis, featured in a collection celebrating the 25th anniversary of Maastricht University’s Faculty of Law, highlights the challenges and transformations within legal frameworks as Europe continues to evolve.

74 W Hallstein, Europe in the Making, (London: Allen and Unwin, 1972), p 30.

75 Weiler states that the ECJ constitutionalised the EU legal structure J H H Weiler, ‘The

Transformation of Europe’, (1991) 100:8 Yale Law Journal 2403-2483 at 2413.

76 In 1986, Case 270/83 Commission of the European Communities v French Republic [1986] ECR

273 (the Avoir Fiscal case) was decided It is considered to be the first direct tax case before the ECJ.

Hard law is defined by its association with a governmental system that employs a traditional command-and-control approach This hierarchical governance model dictates that policies originate from a central regulatory authority and leave no room for discretion among those subjected to these policies Ultimately, hard law consists of binding regulations that are legally enforceable, emphasizing a top-down delegation of prescriptive policies.

Hard law is inclined towards uniformity of treatment As a consequence, within the

In the context of the European Union, harmonisation serves as a crucial mechanism for integrating Member States The supremacy of EU law ensures that once national laws are harmonised, they cannot be easily overridden by domestic regulations, leading to consistent solutions across Member States This process is characterized by strong supranational decision-making and the application of the traditional Community Method, which play a significant role in shaping EU governance.

The Community Method outlines the functions of EU institutions and their interactions, based on four essential features Primarily, it is defined by the Commission's exclusive right to propose legislation Additionally, this method relies heavily on qualified majority voting within the Council, facilitating quicker decision-making and preventing potential deadlocks.

77 U Mửrth (ed.), Soft Law in Governance and Regulation: an Interdisciplinary Analysis,

78 See: P Craig and G De Búrca, note Error: Reference source not found above, at 146

For an in-depth exploration of harmonisation and its various methods, refer to P J Slot's article titled "Harmonisation" published in the European Law Review (1996), which spans pages 378-397, and M Dougan's work "Minimum Harmonization and the Internal Market" in the Common Market Law Review (2000), covering pages 853-885.

80 J H H Weiler, note Error: Reference source not found above, at 2423

Scott and Trubek define the Community Method as a benchmark for evaluating emerging governance frameworks within the European Union Their analysis highlights the necessity of assessing new governance approaches against this established standard to ensure effective legal and institutional integration.

J Scott and D.M Trubek highlight the need for revitalizing the Community Method in response to evolving European governance structures, as emphasized in the European Commission's White Paper on European Governance (COM (2001) 428 final, p 8).

The Commission's monopoly is not absolute, as Article 225 TFEU allows the European Parliament to request legislative proposals by a majority vote, with the option to impose a submission deadline Furthermore, Article 11(4) TEU grants over one million citizens the right to propose legislation, enhancing democratic participation in the legislative process.

The European Parliament plays a crucial role in the legislative process, enhancing legitimacy and amplifying the voices of EU citizens Additionally, the uniform interpretation of law by the European Court of Justice (ECJ) upholds the rule of law and maintains a balance among European institutions The Community Method of decision-making has led to increased supranationalism within the EU, establishing binding obligations that apply to all Member States.

The Treaty framework for corporate tax integration

1.4.2.1 Positive integration: the Treaty harmonisation provision

The EU's efforts to harmonize national laws, including direct taxation, must align with the Treaty provisions, specifically Article 115 TFEU This article empowers the Council to issue directives aimed at approximating laws that directly impact the internal market, requiring unanimous action among Member States.

Article 115 TFEU provides for the approximation of laws of the Member States The term ‘harmonisation’ is not mentioned in this provision Are these notions

84 H Wallace and W Wallace, Policy-Making in the European Union, 4 th ed., (Oxford: Oxford

Weiler emphasizes the binding nature of Community law on Member States, highlighting that evading EC obligations presents significant challenges This underscores the seriousness and enforceability of the law.

86 J J Kirton and M J Trebilcock, note Error: Reference source not found above, at 347

Article 94 TEC and Article 115 TFEU present a notable difference in their wording, with the former empowering the Council to harmonize domestic laws for the common market, while the latter focuses on the internal market This distinction is a positive change, promoting more consistent terminology Previously, the EC Treaty utilized both "internal market" and "common market," leading to ambiguity in their relationship, although they were often viewed as synonymous.

In the article "The Internal Market Following the Single European Act," published in the Common Market Law Review, Advocate General Tesauro examines the distinctions between the concepts of the internal market and the common market He concludes that these terms differ in their scope and implications, highlighting the nuanced relationship between them This analysis is further illustrated in his opinion regarding Case C-300/89, where the European Communities challenged the Council.

The Communities (Directive on waste from the titanium dioxide industry) [1991] ECR I-2867 raises the question of whether the concepts of unification and differentiation in national tax systems within the EU are synonymous Easson argues positively, suggesting that a textual analysis of the Treaty does not necessitate a distinction between these concepts However, the Treaties do not explicitly use the term 'unification,' indicating a lack of support for this notion This area remains under-researched, highlighting the complexity of harmonizing tax systems within the EU framework.

Article 115 TFEU mandates the harmonization of domestic laws, including direct tax regulations, emphasizing that the Council is required to take action This obligation indicates that harmonizing direct taxes is essential for the establishment and functioning of the internal market, leaving only the political methods of achieving this harmonization to be determined.

Direct tax laws may undergo an approximation process if a clear connection is established between the internal market's functioning and the effects of direct taxation This approximation is justified only when it can be demonstrated that the absence of direct tax harmonization would lead to market distortions or inefficiencies Conversely, if the relationship between direct taxes and the internal market is indirect, then harmonization efforts are unwarranted The prescribed instruments for this approximation are outlined in Article [insert relevant article number].

115 TFEU is unambiguous and leaves no room for doubt The instrument to be employed in the process of approximating direct taxes is a directive.

The requirement for unanimous voting on direct tax initiatives at the EU level complicates the process of reaching a compromise that satisfies all Member States and benefits the EU, particularly as the number of Member States continues to grow This challenge has intensified with each successive enlargement of the EU.

89 A Easson, Tax Law and Policy in the EEC, (London: Sweet&Maxwell, 1980), p 117.

Easson emphasizes that the coordination of national tax laws is less significant than the overarching objective of the coordination initiative, which can be achieved through either harmonization or unification.

Before the Single European Act of 1986, the Treaty did not clearly specify the voting requirements for harmonizing direct taxes The Act established the crucial principle that the harmonization of direct taxes is contingent upon the general agreement among member states.

The Commission believes that maintaining unanimity for all taxation decisions hinders essential tax coordination in Europe During the Convention on the Future of Europe, the Commission proposed shifting to qualified majority voting (QMV) in specific tax matters to facilitate this process.

A proposal to implement the Qualified Majority Voting (QMV) procedure for certain aspects of company taxation regulation was introduced, as outlined in Article III-63 of the draft Constitution This provision aimed to enable majority voting on measures related to mutual assistance, information exchange, and cooperation among tax authorities to combat tax fraud and evasion, as well as to address environmental protection, all deemed essential for the internal market's functionality and fair competition However, this innovation was ultimately rejected by the inter-governmental conference, leading to the complete abandonment of the provision.

Opposition to the shift towards Qualified Majority Voting (QMV) in direct taxation stemmed from several concerns Firstly, some governments feared that QMV could lead to increased tax rates, as it might facilitate harmonization that favors higher taxes over the preferences of dissenting Member States Additionally, the impending Eastern enlargement played a significant role in these discussions, as QMV could potentially impose direct tax regimes akin to those of the new Member States, which generally have lower tax rates, thereby undermining the social programs of existing Member States Despite these concerns, the Treaty rules governing voting on tax proposals have remained unchanged, raising questions about the feasibility of maintaining unanimity in a highly diverse EU when it comes to direct tax legislation.

Article 114(2) TFEU permits the adoption of measures to harmonize laws, regulations, or administrative actions among Member States aimed at establishing and functioning the internal market through qualified majority voting, deviating from Article 115 TFEU However, it is important to note that this provision explicitly excludes tax matters, maintaining the requirement of unanimity for such issues.

92 Proposed amendments to the text of the Articles of the Treaty Establishing a Constitution for Europe, available at http://european-convention.eu.int/amendments.asp?lang=en&Content7.

Ninety-three votes against included the UK and Ireland, highlighting the challenges of tax integration within the EU The diverse national tax systems hinder the feasibility of further harmonisation efforts, emphasizing the limitations of achieving a unified tax framework among member states For more details, refer to the Select Committee on Foreign Affairs and EPIN Briefing Note on the UK's stance during the Convention.

1.4.2.2 Direct tax legislation: a summary of achievements

Soft law and corporate tax regulation in the EU

The concept of soft law

Before gaining traction in the context of EU integration, the concept of soft law was extensively examined by international law scholars Coined by Lord McNair, the term "soft law" has sparked intense debates and gained prominence since the 1970s, leading to various controversies within the international legal framework.

Mửrth associates soft law with governance, which can be understood in two distinct ways Broadly, governance encompasses all forms of political steering, including traditional hierarchical methods within government Conversely, in a more restrictive sense, governance refers specifically to political steering that utilizes non-hierarchical modes of guidance.

118 There is a vast body of literature on international soft law See, for example: R R Baxter,

‘International Law in “Her Infinite Variety”’, (1980) 29:4 International and Comparative Law

Quarterly 549-566; P Weil, ‘Towards Relative Normativity in International Law?’, (1983) 77:3 American Journal of International Law 413-442; T Gruchalla-Wesierski, ‘A Framework for

Understanding “Soft Law”’, (1984) 30:1 McGill Law Journal 37-88; C M Chinkin, ‘The Challenge of Soft Law: Development and Change in International Law’, (1989) 38:4 International and

Comparative Law Quarterly 850-866; C Lipson, ‘Why are Some International Agreements

In the realm of international law, significant discussions have emerged regarding the role and implications of soft law Notably, Klabbers critiques the redundancy and undesirability of soft law in his works published in the Nordic Journal of International Law, highlighting its limited effectiveness in legal frameworks Additionally, Boyle offers insights on the relationship between treaties and soft law, emphasizing their interconnectedness and the complexities involved These scholarly contributions collectively underscore the ongoing debate about the relevance and impact of soft law within international legal discourse.

Quarterly 901-913; D Shelton (ed.), Commitment and Compliance: the Role of Non-binding Norms in the International Legal System, (Oxford: Oxford University Press, 2000).

119 Soft law is occasionally called ‘weak law’ See: R R Baxter, note Error: Reference source not found above, at 550; P Weil, note Error: Reference source not found above, at 414.

The term "soft law" faces significant criticism for being perceived as a contradiction in terms, particularly among scholars who advocate for a binary understanding of law.

Hillegenberg, ‘A Fresh Look at Soft Law’, (1999) 10:3 European Journal of International Law 499- 515.

121 A J P Tammes, ‘Soft Law’, in M Bos (ed.), Essays on International and Comparative Law in

Honour of Judge Erades Presented by the Board of the Netherlands International Law Review, (The

Hague: Martinus Nijhoff Publishers, 1983), 187-195 at 187; J Sztucki, ‘Reflections on International

“Soft Law”’, in J Ramberg, O Bring, and S Mahmoudi (eds.), Festkrift till Lars Hjerner: Studies in

International Law, (Stockholm: Norstedts, 1990), 549-575 at 554.

122 J Sztucki, note Error: Reference source not found above, at 554.

123 U Mửrth, note Error: Reference source not found above, at ix.

124 The words government and governance share the same etymological roots The more encompassing understanding of governance is expressed in O Treib, H Bọhr and G Falkner, Modes of Governance: a

Governance, as discussed in the European Governance Papers, refers to modern styles of governing that prioritize inclusivity and participation over traditional, legally enforced institutions It emphasizes the importance of engaging a diverse range of stakeholders—including citizens, groups, and public authorities—in the decision-making process Unlike conventional government, governance does not rely on legally mandated methods; instead, it fosters collaborative approaches to managing communities and shaping policies.

The concept of soft law raises fundamental questions regarding power, legitimacy, and democracy, yet scholars remain divided on its significance and regulatory potential Critics argue that soft law, which encompasses norms of behavior that lack legal obligations, can be misleading and should not be classified as law This perspective reflects a binary view of law, where only legally binding measures are considered true law, leaving no room for ambiguity Consequently, labeling non-legally binding measures as soft law risks obscuring the distinction between binding and non-binding norms.

125 Such an understanding of governance is used by S Smismans, New Modes of Governance and the

The article "Participatory Myth" by B Eberlein and D Kerwer, published in the European Governance Papers, explores the concept of new governance within the European Union from a theoretical perspective It discusses how participatory governance models influence EU decision-making processes and examines the implications for democratic legitimacy For further insights, the full paper is accessible at http://www.connex-network.org/eurogov/pdf/egp-newgov-N-06-01.pdf.

126 See Chapter 1, section 1.5.3 for a discussion on new governance in the context of the EU.

127 See: K Zemanek, ‘Is the Term “Soft Law” Convenient?’, in G Hafner, G Loibl, A Rest, L

Sucharipa-Behrmann and K Zemanek (eds.), Liber Amicorum: Professor Ignaz Seidl-Hohenveldern in

In honor of his 80th birthday, Zemanek emphasizes the need for a nuanced distinction regarding the term "soft law." He argues that non-binding rules should not be classified as soft law if they only serve a supportive role to hard law Instead, he asserts that soft law should be recognized only when its norms can effectively transition into hard law measures.

Distinguished critics of soft law, including Klabbers and Weil, raise significant concerns about its implications for international normativity Weil characterizes soft law as a pathological phenomenon, suggesting that it undermines the integrity of legal frameworks For further insights and arguments against soft law, refer to Klabbers' works from 1996 and 1998, which provide a comprehensive critique of this concept.

It's important to note that "soft law" is not the sole term used to describe the growing use of non-legally binding instruments In legal discourse, terms like "informal instruments" and "quasi-legislation" are often employed by those hesitant to label regulations without legal effects as soft law.

Klabbers' perspective on soft law has evolved significantly over time Initially, he viewed soft law as redundant, arguing that hard law could adequately perform all its functions while maintaining its binary nature However, he later adopted a more radical stance, asserting that soft law is not only unnecessary but also potentially harmful, as it can undermine legal systems and threaten the rule of law Klabbers emphasized that even non-legally binding norms can influence behavior and fulfill roles traditionally associated with law, such as regulating conduct.

Soft law presents challenges to traditional legal sources and structures, offering greater diversity and broader regulatory choices Its significance in the development of law suggests a potential shift in legal theory, moving beyond a purely positivist interpretation Positioned on a continuum between binding hard norms and political frameworks, soft law retains its legal character despite not constituting a breach of legal obligation when disregarded Consequently, soft law is not legally irrelevant, as it can yield practical outcomes.

129 A Aust, ‘The Theory and Practice of Informal International Instruments’, (1986) 35:4 International and Comparative Law Quarterly 787-812 at 787.

130 G Ganz, Quasi-legislation: Recent Developments in Secondary Legislation, (London:

Sweet&Maxwell, 1987) Ganz takes as a subject of investigation quasi-legal norms in the national setting.

131 Essentially, these functions are gap-filling by serving as an interpretive guide

132 J Klabbers (1996), note Error: Reference source not found above, at 181.

133 J Klabbers (1998), note Error: Reference source not found above.

Soft law, as discussed by A.E Boyle and others, cannot be deemed 'unsanctioned' and is often linked to concepts like soft responsibility or soft liability While it does not establish legal obligations, governments cannot afford to overlook soft law, as it exerts extra-legal pressures through compliance mechanisms embedded within its instruments.

Soft law measures can significantly influence behavior and drive compliance, even without legal binding According to Trubek, Cottrell, and Nance, one effective method is through naming and shaming, which deters states from non-compliance by prompting them to adhere to soft law to avoid criticism This process is bolstered by a reputation mechanism, where the potential cost to a state's reputation becomes a crucial factor in their decision to comply with soft law instruments.

Discourse and debates among states can foster a unified approach to addressing problems, aided by the establishment of a common vocabulary that enhances the influence of soft law regulation Additionally, networking promotes learning among states, while coherent soft law proposals encourage states to adopt similar behaviors, leading to evaluations against established standards The exchange of policy knowledge allows actors to understand each other's governance systems, fostering a shared identity through interaction Over time, this continuous information sharing can create decentralized learning networks, demonstrating that, despite its non-legally binding nature, soft law can significantly influence behavior and potentially lead to future legislative changes.

(London: Kluwer, 1998), 285-309 at 291; F Snyder, ‘Soft Law and Institutional Practice in the European Community’, in S Martin (ed.), The Construction of Europe: Essays in Honour of Emile

135 A J P Tammes, note Error: Reference source not found above, at 195.

136 Ibid., at 189; J Sztucki, note Error: Reference source not found above, at 569.

Hard law-soft law relationships

Soft law and hard law interact in various ways, serving as alternatives or rivals to one another Their coexistence can be seen as complementary, while in some cases, they may merge to form hybrid constructs This article will explore these dynamics in greater detail.

The literature acknowledges the distinct attributes and limitations of soft and hard laws as regulatory alternatives While both hard and soft law instruments hold regulatory value, they serve different regulatory needs and complement each other’s weaknesses Specifically, soft law addresses issues arising from hard law regulation, whereas hard law mechanisms mitigate potential problems associated with soft law.

When considering hard law and soft law as complementary options, each presents unique advantages suited to specific contexts, making neither approach inherently superior The choice between hard and soft law requires a pragmatic assessment based on the nature of the issue at hand, as different circumstances may call for distinct regulatory measures In this framework, hard and soft laws function effectively within their respective domains.

Determining the purpose of a regulatory measure can be contentious, as it raises questions about whether its goals are primarily political or aimed at influencing behavior.

143 This classification of soft law-hard law interactions is based on D M Trubek and L G Trubek, ‘New Governance and Legal Regulation: Complementarity, Rivalry, and Transformation’, (2007) 13:3

Columbia Journal of European Law 539-594; G C Shaffer and M A Pollack, Hard vs Soft Law: Alternatives, Complements and Antagonists in International Governance, University of Minnesota,

Law School Legal Studies Research Paper Series, Research Paper No 09-23, available at http://papers.ssrn.com/sol3/papers.cfm?abstract_id26123.

144 L Senden, note Error: Reference source not found above, at 117

Soft law offers greater tolerance for diversity among states, particularly evident in the EU's diverse Member States, where preserving differences is crucial Unlike hard law, which seeks uniform solutions and may struggle to achieve consensus—especially in areas like direct taxation—soft law provides a flexible alternative that can help overcome integration deadlocks Additionally, soft law typically requires less time to implement compared to the lengthy processes associated with hard law Moreover, the development of soft law instruments involves participation from various stakeholders, making the process more democratic and enhancing the legitimacy of the EU This increased involvement allows citizens to have a greater influence on regulatory processes, potentially improving the acceptance of EU activities among its populace.

Soft law is often criticized for potentially undermining the rule of law and altering the traditional legal framework within the EU Concerns arise regarding the division of competences, as soft law may be misused to introduce legislation indirectly This poses a significant risk when soft law is perceived as a means to implement hard law solutions without the Member States' consent to relinquish their powers through conventional hard law processes.

S Smismans offers a critical perspective on the legitimacy of new governance, questioning the assumption that it leads to more democratic outcomes He argues that the presence of heterarchy and a diverse array of actors in decision-making processes does not necessarily enhance democracy To illustrate his point, he references the Community occupational health and safety policy as a case study.

In the contemporary European Union, Dawson proposes that the potential conflict between soft law and the rule of law may require the development of a more reflexive and dynamic interpretation of the rule of law.

European Union: Revision or Redundancy? EUI Working Papers 2009/24, available at http://cadmus.eui.eu/bitstream/handle/1814/11416/RSCAS

%202009_24.pdf;jsessionidA345AD248BCFE21484B89C2C131E11?sequence=1.

147 A J Martín Jiménez, Towards Corporate Tax Harmonization in the European Community: an

The rise of soft law measures in the EU challenges traditional interpretations of EU law established by treaties and the European Court of Justice When the EU possesses legislative competence, actions must be taken through formal legislation to ensure legal certainty and adherence to fundamental legal principles The introduction of ambiguous soft measures complicates the definition of EU law, thereby undermining the values of legal certainty.

Soft law may disrupt the institutional balance by bypassing key decision-making bodies, particularly the Parliament, which has expressed concerns about this issue The absence of formal procedures for consulting Parliament on proposed soft law instruments could undermine proper institutional processes and the rule of law.

An extreme example of the relationship between hard and soft law arises when they act as potential adversaries, competing for dominance in the regulatory sphere This rivalry can occur when both types of law are viewed as equally valid paths to integration, or when soft law is favored, despite the existence of older, binding hard law measures.

The coexistence of hard law and soft law is essential, as these two regulatory approaches can complement each other When operating within the same regulatory area, hard law and soft law can build on one another to achieve common goals This complementary relationship is particularly evident when soft law influences the adoption of legally binding regulations, enhancing the overall effectiveness of the legal framework.

148 L Senden, ‘Soft Law and its Implications for Institutional Balance in the EC’, (2005) 1:2 Utrecht

149 European Parliament Report of 28 June 2007 on institutional and legal implications of the use of

"soft law" instruments, Rapporteur: Manuel Medina Ortega, A6-0259/2007, available at http://www.europarl.europa.eu/sides/getDoc.do?type=REPORT&reference-2007-

Soft law measures can lead to the development of hard law by first establishing a foundation that allows Member States to align their national regulations This process gives time for the necessary political will to develop Additionally, soft law instruments may coexist with hard law, serving to elucidate the intent and objectives of the existing hard law provisions.

The hybrid interplay between soft law and hard law represents a significant evolution in regulatory processes, encompassing both complementarity and transformation De Búrca and Scott define hybridity broadly, while Trubek and Trubek focus on the merging of these systems This intensified relationship necessitates a reevaluation of legal understanding, as the distinction between legally binding and non-binding elements becomes less relevant In this context, soft law and hard law are interdependent, with each element relying on the other for effective regulation Notably, employment and fiscal policies exemplify these hybrid structures, highlighting the intricate connections between different regulatory domains.

The thesis posits that current EU corporate tax regulations represent a blend of soft and hard law measures, aligning with the definition suggested by de Búrca and Scott This hybrid nature of the regulations is thoroughly analyzed.

New modes of governance in the European Union

In recent years, the concept of governance has evolved across various disciplines, particularly within the European Union (EU), where a notable shift from old governance to new governance has emerged Old governance is characterized by the reliance on hard law, which played a pivotal role in the early success of European integration In contrast, new governance refers to governing without the strict framework of law, highlighting a more nuanced understanding than simply governing without a government, as the EU lacks a centralized government.

This section examines the emergence of new governance within the EU, highlighting its origins and various distinctive forms, such as soft law, which exemplifies this phenomenon It is important to note that traditional governance methods do not vanish with the introduction of new governance; rather, they coexist Additionally, the notion of 'new' governance may not be entirely novel, as similar approaches have been prevalent in other regulatory domains Thus, discussions surrounding 'new' governance must consider its historical context and existing practices in different policy areas.

The EU is experiencing a shift towards less prescriptive and more flexible regulatory approaches, emphasizing differentiation rather than uniformity This evolution does not imply that traditional governance methods are obsolete or that these new measures are entirely novel; rather, they have gained prominence as European integration seeks greater adaptability.

Colin Scott introduces the concept of 'new-ish governance' in the EU, emphasizing that these alternative governance modes are not entirely new, as they have always existed within the EU framework However, their usage has increased recently, highlighting their growing significance in contemporary governance practices.

‘Governing without Law or Governing without Government? ‘New-ish Governance and the

1.5.3.1 The emergence of new governance in the EU

Over the past two decades, the instruments employed by the EU to achieve its goals have evolved in response to the changing demands of European integration This shift has led to an increase in soft law regulatory mechanisms, significantly impacting decision-making and the legislative process While it is an oversimplification to condense the evolution of EU governance into a few paragraphs, this chapter aims to outline key developments that set the stage for a discussion on the distinctions between soft and hard law.

The emergence of new governance modes in the EU is largely driven by the need to adapt to evolving challenges and the limitations of traditional law-making mechanisms A significant factor in this shift has been the decline of the Community Method, which struggled to address the expanding scope of EU responsibilities beyond mere market integration As the EU began to tackle more sensitive areas such as social and environmental policies, it became clear that these non-economic goals required solutions that transcended the Community Method Member States were reluctant to relinquish their competencies in these sensitive domains, further complicating the introduction of hard law Additionally, the need to maintain national diversity posed further challenges, as hard law could not effectively accommodate the varied interests of individual Member States.

The challenge of maintaining uniformity in solutions through hard law becomes increasingly complex in the expanding European Union, which now comprises 27 Member States This growth has not only increased the number of participants but also diversified the interests represented among them, making it more difficult to achieve consensus.

Legitimacy of the EU’, (2009) 15:2 European Law Journal 160-173 at 161.

The European Union faces challenges in achieving unanimous agreements on legally-binding regulations that accommodate diverse national interests The enlargements of 2004 and 2007 significantly diversified corporate tax regimes within the EU, highlighting the complexities of integration among member states.

The European Union advocates for higher taxation to enhance social support, while newer Member States typically favor lower taxes and engage in tax competition Achieving a legally binding agreement that accommodates diverse tax priorities is increasingly difficult due to the principle of unanimity In response, a more flexible approach has been adopted to address these challenges.

New governance is seen as a potential solution to the EU's democratic deficit, which has made the institution appear complex and inaccessible to ordinary citizens By enhancing deliberation and involving a wider range of stakeholders in decision-making, new governance aims to increase the legitimacy of EU policy-making processes and, in turn, reduce the perceived democratic deficit.

The publication of the White Paper on European Governance in 2001 marked a significant moment in European discussions about governance This document aimed to enhance the EU's connection with its citizens, improve legislative effectiveness, and strengthen democracy within the Union For the first time, governance issues were systematically addressed in the EU context The White Paper highlighted various existing governance forms and emphasized the importance of utilizing diverse policy tools, as this diversity is crucial for ensuring the effectiveness, legitimacy, and transparency of EU actions It also suggested that legislation should be viewed as part of a broader solution, advocating for the integration of formal rules with non-binding instruments like recommendations.

156 J Scott and D M Trubek, note Error: Reference source not found above, at 8.

157 European Governance, note Error: Reference source not found above.

158 A similar opinion is expressed in the Commission Staff Working Document Instruments for a modernised single market policy, accompanying Document to the Communication from the

The European Commission's document, "A Single Market for the 21st Century," emphasizes the importance of non-binding measures as alternatives or complements to legislation in creating a more responsive and inclusive market It calls for a coherent approach in selecting various policy instruments, such as regulations, framework directives, co-regulation, and the open method of coordination However, the open method should not compromise the achievement of common objectives outlined in the Treaty or the political accountability of institutions, and it should only be used when legislative action is not feasible The White Paper also stresses the need to reinvigorate the Community Method, which has effectively served the Union for nearly fifty years, suggesting that it requires modernization to remain relevant.

Different governance modes may be necessary to achieve varying outcomes, and the White Paper advocates for a mixed approach rather than favoring a single regulatory method within the EU Both new governance mechanisms and the Community Method possess unique strengths, as discussed in section 1.5.2, which explores the interplay between hard law and soft law The soft law approach offers flexibility and a range of solutions, while hard law provides enforceability without relying on voluntary compliance In certain circumstances, incorporating a legally binding element may be essential for effective regulatory measures.

1.5.3.2 Examples of the new approach

New governance within the EU is complex and manifests in various forms, ranging from slight adjustments to traditional regulatory methods to a significant departure from the Community Method This section illustrates the diverse nature of this new regulatory approach.

In the 1980s, a shift towards a modified regulatory approach emerged, marked by the introduction of minimum harmonisation This change streamlined the lengthy process of adopting detailed directives, favoring a more efficient method that focused on establishing overarching directives instead.

159 European Governance, note Error: Reference source not found above

Classification of soft law measures in the EU

Soft law measures encompass a vast array of instruments beyond the non-binding recommendations and opinions outlined in Article 288 TFEU These instruments include resolutions, declarations, decisions made by Member State representatives in the Council, and guidelines To clarify the discussion surrounding soft law, a classification of its instruments is essential Senden's proposed categorization is particularly pertinent, as it highlights the relationship between soft law and hard law, focusing on the nature and function of various soft law instruments.

Soft law instruments play a crucial role in the European Union by serving preparatory and informative functions that lay the groundwork for future legislation These measures aim to stimulate public debate and consultation, ultimately facilitating the adoption of new laws Examples of such instruments include White Papers, action programs, and informative communications, which outline proposals for future legislative action in specific areas.

Instruments in the second category serve an interpretative and decisional purpose, offering essential guidance for understanding and applying EU law Rather than establishing new regulations, their primary objective is to facilitate the effective implementation of existing legal frameworks.

The Treaty facilitates a creative application of soft law measures, as highlighted by Senden For instance, practical tools like White Papers and communications are commonly employed to implement these measures effectively.

172 R R Baxter, note Error: Reference source not found above, at 549-566.

173 L Senden, note Error: Reference source not found above, at 81-83.

The Internal Market White Paper from the Commission to the European Council emphasizes the importance of interpretative measures in EU law, which summarize and clarify the interpretation of specific provisions These measures, often issued by the Commission based on case law, serve a post-law function In contrast, decisional instruments, such as guidelines, codes, and frameworks, provide a more detailed approach by indicating how EU institutions will apply the law in individual cases where discretion is allowed The Commission frequently utilizes these decisional instruments to guide the application of EU law.

On December 19, 2006, the European Commission communicated to the Council, the European Parliament, and the European Economic and Social Committee regarding exit taxation and emphasized the necessity for coordinated tax policies among Member States.

In December 2007, the European Commission communicated to the Council, the European Parliament, and the European Economic and Social Committee regarding the implementation of anti-abuse rules in direct taxation, as outlined in document COM (2007) 785 final This follows the earlier communication from 2006, emphasizing the importance of enforcing these regulations to combat tax abuse effectively.

2006 from the Commission to the Council, the European Parliament and the European Economic and Social Committee on Tax Treatment of Losses in Cross-Border Situations COM (2006) 824 final.

In their work, Senden and Prechal explore the concept of differentiation in EU law, particularly focusing on the role of community soft law They discuss how soft law mechanisms contribute to the differentiation process within the European Union, highlighting the implications for member states and the legal framework This analysis is part of a broader discussion presented in the book "The Many Faces of Differentiation in EU Law," edited by De Witte, Harif, and Vos.

177 For instance: Community Guidelines on State aid for Small and Medium-sized Enterprises (SMEs),

The third category of soft law measures includes steering instruments that serve as para-legal alternatives to formal legislation These measures are utilized when there is a lack of consensus or authority to legislate, yet some regulation is necessary Steering instruments establish rules of conduct to foster closer cooperation among Member States This category encompasses codes of conduct, recommendations, Council resolutions, declarations, and conclusions.

Classifying soft law measures can be challenging, as the names of regulatory instruments do not dictate their category It is essential to consider the context in which these measures operate and the surrounding regulatory developments when evaluating their role within the regulatory framework.

Soft law in the field of direct taxation

The area of direct taxation within the EU is significantly shaped by soft law instruments, which include three distinct groups of regulatory measures In 1993, the Commission introduced a non-legally binding recommendation aimed at establishing a unified system for taxing the income of non-resident workers This recommendation's principles were largely upheld by the European Court of Justice (ECJ) in the landmark Schumacker case, with subsequent rulings in cases such as Gschwind, Gerritse, and Wallentin further reinforcing its validity These developments highlight the evolving impact of the 1993 Recommendation on EU taxation policy.

178 L Senden and S Prechal, note Error: Reference source not found above, at 192.

179 Chapter 3 outlines soft law related to the direct tax jurisprudence of the ECJ Chapters 4 and 5 discuss the nature of the Code of Conduct in detail.

180 Commission Recommendation 94/79/EC of 21 December 1993 on the taxation of certain items of income received by non-residents in a Member State other than that in which they are resident, OJ

1994 L 39/22 In 1980, a proposal for a directive concerning harmonisation of income tax provisions with regards to the free movement of workers in the Community was submitted

181 Case C-279/93 Schumacker, note Error: Reference source not found above.

182 Case C-391/97 Frans Gschwind v Finanzamt Aachen-Auòenstadt [1999] ECR I-5451.

183 Case C-234/01 Arnoud Gerritse v Finanzamt Neukửlln-Nord [2003] ECR I-5933.

The case C-169/03 Florian W Wallentin v Riksskatteverket [2004] ECR I-6443 illustrates the role of soft law in shaping legal frameworks, as the European Court of Justice (ECJ) transposed principles from a Recommendation into its jurisprudence This indicates that soft law can serve as a preparatory measure, influencing hard law regulation However, this influence is only recognized retrospectively; without the ECJ's incorporation of these principles into binding law, the Recommendation would have merely functioned as a steering measure.

The Code of Conduct for Business Taxation, adopted by the Council in 1997, serves as the primary measure to curb tax competition among Member States This non-binding resolution, part of a broader tax package, emphasizes a political commitment that respects the rights and obligations of Member States as outlined in the Treaty Classified as a steering measure by Senden, the Code was introduced due to the inability to establish a hard law measure Further details are discussed in Chapter 4.

The final category of soft law measures includes Commission Communications, which were developed in response to ECJ jurisprudence These Communications address issues such as exit taxation, anti-abuse measures, and cross-border losses, aiming to enhance coordination among national tax systems While the Commission provides interpretations of relevant Court of Justice judgments, these interpretations are not legally binding If a Member State adheres to a communication that the ECJ later rejects, the Court's rulings take precedence as the authoritative source of EU law Ultimately, the Court of Justice holds the highest authority in these matters.

185 Preamble of the Code of Conduct, note Error: Reference source not found above.

186 Communication Exit Taxation and the Need for Co-ordination of Member States’ Tax Policies, note Error: Reference source not found above.

187 Communication Application of Anti-abuse Rules in the Area of Direct Taxation, note Error: Reference source not found above.

The Communication Tax Treatment of Losses in Cross-Border Situations serves as an interpretative framework, while Chapter 3 delves deeper into the characteristics of the three Communications.

Research objectives

This chapter highlights that the regulation of corporate taxation within the EU is complex and multifaceted, comprising three main components: directives, case law, and soft law The primary aim of this thesis is to explore and analyze the interactions and relationships among these different elements of the regulatory framework.

The discourse on EU tax regulation encompasses two interrelated aspects: the legal framework established by the Treaties and the political dynamics influencing taxation regulation While this thesis primarily focuses on the legal parameters guiding the EU's regulatory actions, it acknowledges that political factors can either hinder or facilitate these initiatives Although the author is not a political scientist and prioritizes legal considerations, the political context provides valuable insights into the regulatory processes and is discussed when pertinent.

This article explores the intricate relationship between soft law and hard law in EU corporate taxation by examining five key research questions It begins with an analysis of the Code of Conduct for Business Taxation, questioning whether it qualifies solely as a soft law measure Through a case study on EU tax competition regulation, the thesis contends that the Code's nature is more complex than it initially seems, ultimately revealing its hybrid character that encompasses both soft and hard law elements.

This thesis examines the interplay between hard law and soft law within the context of EU direct tax regulation, focusing on the integration of the Code of Conduct into the overall tax regulatory framework The Code is primarily viewed as a soft law instrument operating alongside traditional hard law measures that have long governed taxation Additionally, the research investigates the interactions between the European Court of Justice (ECJ) jurisprudence and various soft law instruments in this regulatory landscape.

The examination of hard law and soft law approaches in coordinating national direct tax systems reveals a shift in European integration strategies, indicating that harmonisation may not be the sole viable method Corporate tax regulation within the EU demonstrates a hybrid structure, reflecting a broader trend towards flexibility in regulatory practices This evolution raises important questions about the emergence and proliferation of diverse regulatory forms and their implications for traditional concepts of EU law in the context of direct taxation.

The issue of soft law regulation is examined within the international context, particularly through a comparative analysis of the OECD's initiative against harmful tax competition This study aims to enhance discussions surrounding the Code of Conduct, with the expectation that the OECD's efforts will continue to evolve.

‘harder’ due to the ineffectiveness of its soft approach to tax competition.

This analysis of the legislative and jurisprudential advancements in direct tax, along with the evaluation of outcomes from soft law initiatives in EU direct tax regulation, raises critical questions about the future of corporate tax regulation.

This thesis explores the potential for harmonisation versus a flexible approach in EU tax regulation, considering the effectiveness of soft law and the possibility of integrating both strategies.

Value of research into hard and soft law interplay

There is a great need to conduct research into interactions between different parts of

The article highlights the need for a deeper understanding of EU direct tax regulation, emphasizing the existing knowledge gap in this area Despite extensive literature on EU direct taxes, there is insufficient focus on the role of soft law and its impact on direct tax regulation While soft law is often analyzed in contexts not dominated by hard law, its relevance to direct taxation remains largely unexplored, indicating a significant area for further research.

EU law scholarship, as noted by Armstrong and Shaw, has historically prioritized the dominance of law through a positivist and doctrinal lens, often overlooking the significance of soft law developments within the EU While some studies, such as those by Gribnau and Radaelli with Kraemer, have touched on soft law in tax regulation, they fall short of providing a thorough understanding of the complexities involved These works primarily describe the current state of affairs without delving into the intricacies of the Code of Conduct or the implications of new governance models in direct taxation.

189 E.g employment policy and social policy J S Mosher and D M Trubek, note Error: Reference source not found above, at 63-88; D M Trubek and L G Trubek, ‘Hard and Soft Law in the

Construction of Social Europe: the Role of the Open Method of Coordination’, (2005) 11:3 European

190 See: K A Armstrong and J Shaw, ‘Integrating Law: An Introduction’, (1998) 36:2: Journal of

Common Market Studies 147-154 at 148, 150; K A Armstrong, ‘Legal Integration: Theorizing the

Legal Dimension of European Integration’, (1998) 36:2 Journal of Common Market Studies 155-174 at 155.

191 See for example: H Gribnau, ‘Improving the Legitimacy of Soft Law in the EU Tax Law’, (2007) 35:1 Intertax 30-44; H Gribnau, ‘Soft Law and Taxation: EU and International Aspects’, (2008) 2:2

192 C M Radaelli and U S Kraemer, ‘Governance Areas in EU Direct Tax Policy’, (2008) 46:2 Journal of Common Market Studies 315-336; C M Radaelli and U S Kraemer ‘Final Project Report, Project

The article "Changing Governance Architecture of International Taxation (TAXGOV)" highlights the foundational studies by Gribnau and Radaelli, which set the stage for deeper exploration into diverse regulatory approaches in direct taxation While Radaelli and Kraemer adopt a governance perspective in addressing tax regulation issues, they do not delve into specific tax policy instruments Instead, their analysis centers on the actors engaged in shaping the governance framework for direct taxation.

The literature on direct taxation in the EU often treats its regulatory components—hard law and soft law—as isolated elements, despite numerous attempts to analyze taxation in a broader context While there are textbooks that provide an overall description of European tax regulation, they primarily focus on a descriptive survey rather than exploring the interconnections between different regulatory frameworks This research aims to enhance the understanding of direct tax regulation by examining these relationships comprehensively.

While concerns about a lack of research interest in hard law are unfounded, critiques can be directed at the predominantly unilateral perspective evident in scholarly analysis of hard law tax regulation Current research on direct tax hard law tends to focus on technical aspects, viewing EU taxation primarily through the lens of tax law and its specific issues, rather than considering its broader implications within the EU context.

Extensive literature exists on direct tax jurisprudence within the internal market, yet direct tax rulings based on directives often go unnoticed by commentators Notable works in this area include contributions from M Dahlberg, F Vanistendael, and M Lang, J Schuch, and C Staringer, particularly in their publication "ECJ: Recent Developments in Direct Taxation" (The Hague: Kluwer, 2006), as well as insights from J R Hines Jr.

M Lang and R S Avi-Yonah, Comparative Fiscal Federalism: Comparing the European Court of

Justice and the US Supreme Court's Tax Jurisprudence, (Alphen aan den Rijn: Kluwer, 2007); D

Weber (ed.), The Influence of European Law on Direct Taxation : Recent and Future Developments, (Aalphen aan den Rijn: Kluwer, 2007) As far as direct tax legislation is concerned, see: D Weber,

The Proposed EC Interest and Royalty Directive aims to harmonize tax regulations within the European Union, addressing the taxation of savings income as discussed by S Bell in 2001 Additionally, C Panayi's analysis of the proposed amendments to the Savings Directive in 2009 highlights ongoing efforts to refine tax policies in response to evolving economic landscapes These works collectively underscore the importance of cohesive tax legislation in fostering transparency and efficiency in the EU's financial framework.

194 P Farmer and R Lyal, EC Tax Law, (Oxford: Clarendon Press,1994); L W Gormley, EU Taxation

Law, (Richmond: Richmond Law&Tax, 2006); B J M Terra and P J Wattel, note Error: Reference source not found above; M Helminen, EU Tax Law – Direct Taxation, (Amsterdam: IBFD, 2009)

The discourse surrounding European tax law, particularly direct taxation, primarily revolves around the rules and specific tax solutions endorsed by the European Court of Justice (ECJ) Scholars are focused on identifying the tax systems favored by the ECJ However, the examination of direct tax case law within the broader framework of EU law has received limited attention Recently, there has been a growing interest among legal scholars in exploring the interactions between different freedoms and how the ECJ addresses these relationships in direct tax cases.

This thesis aims to fill research gaps regarding direct taxation issues within the EU, examining the regulation of direct taxation as an interconnected network of evolving trends It highlights the dynamic nature of EU direct taxation, where governance drivers and modes continually change Furthermore, the study emphasizes the importance of soft law in the context of direct tax regulation, recognizing its potential influence on the future of regulatory frameworks in the Union, warranting thorough analysis.

This investigation reveals that soft law and hard law in EU direct tax regulation should not be viewed as opposing regulatory options, but rather as complementary elements that function together Instead of operating independently, these legal frameworks create a network that enhances tax coordination among Member States Given the challenges of reconciling diverse national tax systems through the traditional Community Method, alternative approaches to tax regulation have emerged, integrating both hard and soft law measures effectively.

The majority of academic discussions surrounding direct tax jurisprudence tend to be highly technical Notable contributions to this field include works by M Dahlberg, M Lang, J Schuch, C Staringer, F Vanistendael, D Weber, and J.R Hines Jr alongside M Lang and R.S Avi-Yonah.

197 S Kingston, ‘A Light in the Darkness: Recent Developments in the ECJ's Direct Tax

Regulating corporate taxation within the EU shares common values and objectives, employing various methods to achieve these goals These approaches are not mutually exclusive; rather, their effectiveness depends on the political commitment and willingness to implement change.

Direct tax jurisprudence and soft law measures are currently the most viable options for advancing EU direct tax regulation While coordination of direct tax systems within the internal market is essential, extensive harmonization is not desired by Member States, as it could lead to a state-like structure that contradicts the principle of 'no taxation without representation' and would require significant changes to EU frameworks.

EU direct tax regulation remains a complex hybrid, primarily relevant within the corporate tax field This thesis focuses specifically on this area, acknowledging that general solutions may not be applicable across all regulatory domains It emphasizes the challenges of addressing soft law and hard law, as oversimplification can obscure important nuances Understanding these concepts within the context of specific regulatory environments is crucial, as each sphere has unique political and economic factors that influence perceptions of effectiveness and the interplay between various regulatory approaches.

The structure of the thesis

This thesis consists of six chapters, with the first chapter laying the groundwork for exploring the interplay between hard law and soft law regulatory measures in direct taxation, a topic that will be further examined in subsequent chapters.

This article explores the distinction between soft law and hard law within the EU's regulatory framework, focusing on corporate tax regulation Chapters 2 and 3 delve into hard law concerning direct taxes, highlighting the challenges faced by traditional legislative measures in achieving successful positive integration The analysis reveals the reasons behind the shortcomings of hard law legislation Additionally, Chapter 3 examines the pivotal role of the European Court of Justice (ECJ) since 1986 in harmonizing direct taxation among Member States, showcasing its significant influence on EU tax regulation The chapter contrasts the notable achievements in direct tax jurisprudence with the relatively limited legislative framework, while also introducing a hybrid network of soft and hard law that addresses the outcomes of case law.

Chapter 4 explores the regulation of direct taxation through soft law measures, focusing on the significant example of the Code of Conduct for Business Taxation A comparative analysis reveals that the soft law approach to tax regulation is not limited to the EU but is also utilized by the OECD at the international level Insights gained from this context highlight the challenges and benefits of transnational direct tax regulation via soft law The chapter concludes that the OECD's soft law initiatives have increasingly transitioned to hard law measures, raising concerns about the effectiveness of soft law in achieving regulatory objectives and prompting questions about potential similar issues with the Code of Conduct.

Chapter 5 explores whether the Code should be classified as a purely soft law measure, focusing on its effectiveness in addressing tax issues within the EU It argues that, despite being presented as a soft law instrument, the Code functions more like hard law due to its operational characteristics The chapter emphasizes the importance of hard law elements in the Code, which played a crucial role in the success of the anti-harmful tax competition initiative and imposed limitations on national tax sovereignty Ultimately, it suggests that incorporating hard law aspects is vital for ensuring the effectiveness of EU regulation in sensitive areas Chapter 6 concludes the discussion.

This chapter highlights the significance of direct taxation for both the EU and its Member States, emphasizing the need for EU regulation to achieve the internal market objectives outlined in the Treaties It acknowledges the necessity of respecting national tax sovereignty while striving to align national interests with EU goals As a result, a complex regulatory framework has emerged, integrating both soft law and hard law instruments to effectively manage direct taxation within the EU.

The traditional hard law approach to European integration has evolved due to the rise of new voluntary governance methods As the EU expanded, the previous regulatory framework became unsustainable, highlighting the growing disparities in Member States' interests and the complexity of the issues addressed.

A combination of soft law and hard law may be the most effective regulatory approach to tackle corporate taxation issues within the EU This thesis aims to explore this hypothesis and contribute to the future direction of EU direct tax regulation A viable solution for regulating direct taxation hinges on the willingness of Member States and European authorities to engage in open dialogue, as the current debate remains in its infancy Many Member States are fundamentally resistant to discussing any form of tax coordination However, the innovative and nuanced approach to direct tax governance presented in this thesis holds the potential for meaningful change in this area.

THE HARD LAW APPROACH TO DIRECT TAXATION

Harmonisation of corporate taxation in the EU: a historical overview

2.1.1 Failed initiatives in direct tax harmonisation

Since the 1960s, numerous efforts have been made to establish uniform directives for direct taxes, including proposals for a common corporate tax system and the harmonization of specific tax aspects However, most of these initiatives were unsuccessful, with only one directive adopted until the 1990s, as the process was complex and challenging A change in approach eventually led to the agreement on four additional directives.

6 Proposal for a Council Directive on a Common Consolidated Corporate Tax Base, COM (2011) 121/4, available at http://ec.europa.eu/prelex/detail_dossier_real.cfm?CL=en&DosId 0263.

7 F Vanistendael, ‘The Ruding Committee Report: a Personal View’, (1992) 13:2 Fiscal Studies 85-95 at 85.

In April 1960, the Fiscal and Financial Committee was formed to assess the impact of varying national tax systems on the internal market and explore potential measures to address these differences By 1962, discussions initiated with the Neumark Report focused on selecting a unified corporate tax system.

The Neumark Committee outlined a three-stage process for tax harmonisation, beginning with reforms to turnover taxes The second phase would focus on company taxation reforms and some alignment in personal income taxation, alongside the adoption of a multilateral convention to prevent double taxation The final phase emphasizes the need for coordination among national tax administrations Regarding corporate taxation, the Neumark Report advocates for a unified income tax structure across all Member States and suggests implementing a split rate corporation tax system.

Following the release of the Neumark Report, it became clear that the European Economic Community (EEC) aimed to harmonize direct taxes In 1967, the Commission developed a program targeting the harmonization of these taxes, prioritizing the removal of barriers to the free movement of capital.

8 The Fiscal and Financial Committee is known as the Neumark Committee.

9 Report of the Fiscal and Financial Committee in The EEC Reports on Tax Harmonization: the

Report of the Fiscal and Financial Committee and the Reports of the Sub-Groups A, B and C An unofficial translation was prepared by Dr H Thurston, (Amsterdam: IBFD, 1963), p 98, (Neumark Report).

10 Ibid The study was general in nature and concerned both indirect and direct taxation systems.

A split rate tax system imposes different tax rates on retained earnings and dividends, incentivizing companies to distribute higher dividends rather than retain profits, as retained earnings are taxed at a higher rate This approach results in double taxation on profits.

13 Neumark Report, note Error: Reference source not found above, at 139.

14 Memorandum to the Council of 26 June 1967, Supplement to the Bulletin of the European

The Economic Community 8-67 emphasizes the need for harmonizing national tax systems to facilitate the free movement of capital within the EEC Key objectives include aligning withholding taxes on dividends and interest payments, coordinating methods to relieve double taxation, and ensuring fiscal neutrality Additionally, addressing the taxation of holding companies and the tax treatment of investments through intermediaries is crucial for promoting unrestricted capital movement.

Disparities in national tax laws have hindered mergers and acquisitions among companies in different Member States, prompting the need for solutions that ensure tax neutrality for both domestic and cross-border combinations The Commission identified that varying tax systems, rates, and profit computation methods created obstacles to the free movement of capital Consequently, there is a pressing need to harmonize national rules regarding taxable income categories, align tax rates, and coordinate tax collection processes Ultimately, establishing a general tax on company profits with consistent assessment methods and rates is a long-term objective for the EU.

The ambitious 1967 programme aimed to address not only cross-border movement barriers but also to establish a long-term harmonisation of corporate tax systems, with a formal proposal released in 1975 As a consequence of this initiative, two Directives were proposed in 1969, focusing on tax issues related to cross-border mergers and the tax challenges faced by related companies in different Member States However, these proposals were put on hold for two decades and were only adopted in the early 1990s.

On January 15, 1969, a proposal for a Council Directive was introduced regarding a unified taxation system for mergers, divisions, and asset contributions involving companies from different Member States The document, identified as COM (69) 5 final, is published in the Official Journal 1969 C 39/1 and is available only in French, German, Dutch, and Italian.

16 Proposal for a Council Directive of 15 January 1969 on the common system of taxation applicable to parent companies and their subsidiaries of different Member States, COM (69) 6 final, OJ 1969 C 39/7

17 See Chapter 2, sections 2.2.2 and 2.2.3 discussing these two legislative measures.

2.1.1.3 The ambitious plan for a corporate tax system

In July 1975, the Commission presented a proposal for a Directive aimed at harmonizing company taxation systems and withholding taxes on dividends, highlighting the need for a unified approach to direct tax harmonization due to the challenges posed by non-harmonized corporate tax systems on free circulation within the internal market Unlike previous reports advocating different tax systems, the 1975 proposal favored the imputation system and a standardized withholding tax on dividends, significantly limiting tax sovereignty Although the proposal was not adopted, it remained unformally rejected and later influenced the Burke Report's efforts to promote a harmonized corporate tax system.

Another attempt to support the adoption of a common tax system was undertaken in

The 1980 Burke Report presented a hesitant approach towards the concept of harmonising taxation within the EU, reflecting uncertainty about the future of this agenda While it acknowledged the necessity of tax harmonisation for the EU to fulfill its responsibilities, the report ultimately lacked the conviction needed to support significant changes in corporate taxation.

18 Proposal for a Council Directive concerning the harmonization of systems of company taxation and of withholding taxes on dividends, COM (75) 392 final, OJ 1975 C 253/2.

19 See footnote Error: Reference source not found above.

The classical tax system treats corporations as separate legal entities from their shareholders, resulting in profit distributions being taxed at both the corporate and shareholder levels, leading to double taxation of distributed profits This overtaxation may incentivize companies to retain earnings rather than distribute them Additionally, the system favors debt financing over equity financing, as dividends are not tax-deductible while interest payments typically are.

21 Under the dividend imputation system, to reduce distortions stemming from the double taxation of dividends, credit is given to shareholders for the corporation tax imposed on their dividend receipts R

R Officer, ‘The Cost of Capital of a Company under an Imputation Tax System’, (1994) 34:1

On March 26, 1980, the Commission presented a report to the Council regarding the potential for harmonizing tax systems within the Community This document, known as the Burke Report (COM (80) 139 final), was published in the Bulletin of the European Communities, Supplement 1/80, and outlines key insights into the convergence of tax policies across member states.

The Burke Report emphasized the need for harmonizing corporation tax systems through the implementation of a unified tax framework, featuring standardized tax rates and a consistent assessment basis It advocated for the adoption of the comprehensive common tax system proposal originally introduced in 1975.

The Burke Report highlighted the significance of direct tax systems in achieving the social and economic objectives of national economies Contrary to its previous support for the 1975 harmonisation plan, the Commission stated that while a common tax system could be beneficial for competition, efforts to harmonise would likely fail It concluded that harmonisation should occur gradually and in stages to prevent disruption, noting that the current climate was not suitable for establishing a timeline for implementation The report underscored the importance of political will among Member States for successful harmonisation of direct tax systems.

A summary of the limited legislative achievements

This section summarizes the key aspects of five direct tax directives that were adopted following a lengthy process It highlights the context in which these legislative measures were established, providing a clear overview of their substantive content.

To effectively combat tax evasion and avoidance, Member States recognized the need for improved cooperation in direct taxation, leading to the adoption of Directive 77/799/EEC This directive focuses on fostering enhanced collaboration among countries to facilitate the exchange of information regarding tax matters.

EU Direct Tax Policy’, in A Lymer and D Salter (eds.), Contemporary Issues in Taxation Research, (Aldershot: Ashgate, 2003), 145-165 at 156.

95 Proposal for a Council Directive to ensure minimum of effective taxation of savings income in the form of interest payments within the Community, COM (2001) 400 final, OJ 2001 C 270/259.

The Council Directive 77/799/EEC, established on December 19, 1977, focused on mutual assistance among Member States regarding direct taxation and insurance premium taxation, but was repealed in 2013 Key literature discussing both the old and new mutual assistance directives includes works by C Urtz on the admissibility of spontaneous information exchange in Austria, and M Shilcher's analysis of the directives related to tax claims assessment and recovery, featured in "Introduction to European Tax Law: Direct Taxation" by M Lang et al.

‘References to the Mutual Assistance Directive in the Case Law of the ECJ: a Systematic Approach’,

The 2009 Directive enhances the exchange of information among authorities, streamlining the assessment of taxes Its primary focus is on determining tax liability rather than the recovery of taxes.

Directive 77/799/EEC was deemed ineffective for ensuring adequate administrative cooperation and combating tax fraud, as it was created under different conditions than those of the current internal market Consequently, the European Commission proposed a new Directive in 2009, which was officially adopted in 2011 The deadline for member states to transpose the new Directive into national law was set for January 1, 2013, after which Directive 77/799/EEC will be repealed.

The Directive's preamble highlights the challenges posed by the growing mobility of taxpayers and the rise in cross-border transactions, making accurate tax assessments increasingly difficult This issue not only leads to double taxation but also fosters tax fraud and evasion, ultimately undermining the internal market's effectiveness To address these challenges, it is crucial for individual Member States to collaborate and share information, enabling them to manage their internal taxation systems more effectively Enhanced cooperation among tax administrations is essential to mitigate the negative impacts of these developments.

A crucial aspect of the new Directive is that Member States are prohibited from using bank secrecy as a reason to deny cross-border tax cooperation.

The 1977 Directive stipulates that Member States are not obligated to conduct inquiries or provide information if their laws or administrative practices prohibit them from doing so Consequently, a Member State is exempt from these requirements if compliance is hindered by its legal framework.

The recovery of tax claims is facilitated by a Council Directive focused on mutual assistance in the collection of both direct and indirect taxes Specifically, this is outlined in Council Directive 76/308/EEC, enacted on March 15, 1976, which addresses the recovery of claims associated with the financing of the European Agricultural Guidance and Guarantee Fund, as well as agricultural levies and customs duties.

98 Council Directive 2011/16/EU of 15 February 2011 on administrative cooperation in the field of taxation and repealing Directive 77/799/EC, OJ 2011 L 64/1.

99 See the Proposal for a Council Directive on administrative cooperation in the field of taxation, COM

100 Council Directive 2011/16/EU, note Error: Reference source not found above

Article 8(1) of the Council Directive 77/799/EEC highlights the obligation to provide information, even when it is protected by national banking secrecy laws The recent changes in the Directive are viewed positively, as banking secrecy has hindered tax cooperation and information exchange within the EU The exposure of the Lichtenstein affair in February further underscores the need for reform in this area.

2008 103 and the strong political condemnation of tax evasion practices that followed provoked a reaction in the EU

The new regulation mandates specific timeframes for responding to information requests and administrative inquiries Authorities are required to provide requested information promptly, with a maximum response time of six months from when the request is received If the authority already possesses the information, it must be delivered within two months.

The new Directive outlines three distinct types of information exchange among Member States: the exchange of information on request, which involves a specific request from one Member State to another; automatic exchange, characterized by the regular and systematic transmission of predefined information without prior requests; and spontaneous exchange, which allows for the ad-hoc communication of information at any time without advance notice.

The Directive establishes a structured framework for the mandatory automatic exchange of information concerning eight categories of income and capital taxes Starting from January 1, 2014, Member States are required to automatically share information for up to five of these categories, provided that the information is accessible.

102 This problem had an impact on the process of adopting the savings directive, as illustrated in the previous section.

103 The Liechtenstein Affair: German Banks Suspected of Helping Clients Evade Taxes, 21 February

The Liechtenstein tax affair encompasses a series of investigations by various countries into suspected tax evasion by their citizens through banks and trusts in Liechtenstein Notably, German tax investigators uncovered evidence suggesting that certain German financial institutions were involved in tax evasion activities utilizing foundations in Liechtenstein.

104 Article 5(1) of Council Directive 2011/16/EU, note Error: Reference source not found above.

Article 8 addresses income sources such as employment earnings, director's fees, life insurance products not governed by other EU regulations on information exchange, pensions, and income derived from immovable property.

Modifying the hard law approach: a chance for the CCCTB?

The emergence of new governance in the EU has prompted a reevaluation of the challenging journey toward harmonizing direct taxation through directives This shift has led the Commission to establish a revised tax policy aimed at enhancing regulatory coherence across member states.

130 A Lahodny-Karner, note Error: Reference source not found above, at 188

131 Information on the Joint Transfer Pricing Forum available at http://ec.europa.eu/taxation_customs/taxation/company_tax/transfer_pricing/forum/index_en.htm

132 Code of Conduct for the Effective Implementation of the Convention on the Elimination of Double Taxation in Connection with the Adjustment of Profits of Associated Enterprises, OJ 2006 C 176/8.

133 Resolution of the Council and of the Representatives of the Governments of the Member States of

20 June 2006, Meeting within the Council of on a Code of Conduct on Transfer Pricing

Documentation for Associated Enterprises in the European Union (EU TPD), 9738/06 FISC 74 OC

134 See Chapter 1, section 1.5.3 for an overview of the origins of new governance in the EU.

The 2001 Communication emphasizes the importance of greater tax coordination among Member States without necessitating the harmonization of their tax systems While the European Commission advocates for qualified majority voting on certain tax issues, unanimity continues to be required The challenges of achieving unanimous agreement on legislative proposals, particularly following recent EU enlargements, have prompted the EU to explore alternative instruments for initiating tax-related initiatives.

The Commission has traditionally relied on directives and regulations to advance direct taxation, believing these hard law instruments would ensure legal certainty However, their lack of success has sparked discussions about alternative policy tools for managing national tax systems The Communication acknowledges that soft legislation, including communications, recommendations, guidelines, and interpretative notices, could effectively guide Member States in applying Treaty principles and removing barriers to the internal market Furthermore, the 2001 Communication emphasized the potential of enhanced cooperation, suggesting it could benefit participating countries and encourage non-participants to engage.

Since 2001, the Commission has recognized that traditional hard law solutions alone cannot address all direct tax issues While directives that promote uniformity and centralize regulatory solutions are beneficial, they are not always feasible The EU acknowledges the need to explore alternative approaches to effectively tackle direct tax challenges.

On May 23, 2001, the European Commission issued a communication (COM (2001) 260 final) outlining key priorities for tax policy within the European Union This document was directed to the Council, the European Parliament, and the European Economic and Social Committee, emphasizing the need for a cohesive approach to taxation that supports economic growth and integration across member states.

137 See Chapter 1, section 1.4.2.1 analysing the Treaty provisions relevant to the harmonisation of direct taxes.

138 Communication Tax Policy in the European Union: Priorities for the Years Ahead, note Error: Reference source not found above, at 20 See also Chapter 2, sections 2.1 and 2.2.

139 Communication Tax Policy in the European Union: Priorities for the Years Ahead, note Error: Reference source not found above, at 22.

The integration of alternative paths within the EU highlights the necessity to adapt the traditional Community Method to address specific direct tax situations This approach fosters a more nuanced understanding of EU law by acknowledging the broader context in which it operates Embracing a soft law perspective and the potential for enhanced cooperation can improve the effectiveness of the legal system, ultimately redefining established interpretations of law.

Enhanced cooperation emerged from discussions before the Treaty of Amsterdam, reflecting the Member States' differing views on the pace and direction of European integration This approach recognizes the limitations of the EU's traditional hard law model, which emphasizes uniformity and restricts discretion among member states As the relationships within the Union become more complex, a reevaluation of this regulatory framework is necessary to accommodate diverse national interests.

Enhanced cooperation should only be pursued as a last resort when the EU as a whole cannot achieve its objectives within a reasonable timeframe This mechanism allows at least nine Member States to engage in closer collaboration in treaty-covered areas, excluding those where the EU holds exclusive competence, even if other Member States are not prepared for deeper integration In the realm of direct taxation, enhanced cooperation provides a pathway for Member States that support advancing tax legislation to collaborate, while still respecting the tax sovereignty of those that choose not to participate.

Measures adopted as a result of enhanced cooperation are not considered to constitute part of EU acquis communautaire 143 Moreover, non-participating Member

141 D Chalmers, G Davies and G Monti, European Union Law, 2 nd ed., (Oxford: Oxford University Press, 2010), p 113.

States play a crucial role in the enhanced cooperation process by participating in discussions that shape legislative adoption, though they do not have voting rights Additionally, Member States that choose not to participate initially have the option to join the cooperation efforts at a later stage.

Enhanced cooperation requires specific criteria to be met before implementation, which explains its limited application thus far Since March 2011, enhanced cooperation has been approved in two key areas: divorce law and patent law Additionally, there is a proposal under consideration for enhanced cooperation concerning direct taxation.

Enhanced cooperation in direct taxation does not imply a complete shift away from traditional regulatory frameworks Instead, it represents a complementary approach that can coexist with hard law instruments, ensuring a balanced and effective regulatory environment.

The European Commission has proposed Council Regulation 147, marking a significant step towards hard law measures in EU patent regulations This proposal indicates that enhanced cooperation in direct taxation could also lead to similar hard law regulatory frameworks However, the Commission appears to favor greater flexibility and voluntary participation in the integration of EU direct taxes, suggesting a more accommodating stance towards traditional legislative instruments Ultimately, the development of a hard law instrument for direct taxation within the context of enhanced cooperation implies a balanced approach to regulatory measures.

2.3.3 Common Consolidated Corporate Tax Base: the latest Directive proposal

The possibility of applying enhanced cooperation to the field of direct taxes arises in respect of the proposal for the CCCTB for EU-wide company activities Ideas about

146 A First in EU History: Enhanced Cooperation to Help International Couples is in Force, 05 August

In December 2010, the European Commission took significant steps towards the implementation of a unitary patent system, allowing certain member states to advance in this area This initiative, highlighted in press releases IP/10/1035 and IP/10/1714, aims to streamline patent protection across Europe, enhancing innovation and competitiveness For more details, visit the European Commission's official website.

The proposal for a Council Regulation aimed at enhancing cooperation in establishing unitary patent protection highlights the importance of applicable translation arrangements (COM (2001) 16 final) In 1988, the idea of a common tax base emerged to complement the 1975 initiative for harmonized tax rates, with the goal of minimizing discrepancies among corporate tax systems across Member States However, the draft proposal for harmonizing the tax base for enterprises did not progress to a formal directive, primarily due to the hesitance of many Member States to adopt such measures.

In the 2000s, the EU revisited the concept of a common tax base for multinational companies, known as the CCCTB, aimed at addressing transfer pricing issues and reducing compliance costs across 27 different tax systems while enhancing tax transparency The European Commission planned to present a legislative proposal for the CCCTB by 2008; however, in September of that year, it announced a delay due to the need for further work on certain technical aspects, as stated by Commissioner Kovács.

Assessing the failure of the conventional hard law approach

Hard law solutions for direct tax regulation have faced challenges primarily due to the requirement of unanimity among Member States and the significant diversity of national tax systems The European Commission's approach, often perceived as imperious and lacking consultation with Member States, has further complicated the process Regardless of the extent of harmonization proposals, all Member States must agree to align their national taxes at the EU level, where even one dissenting Member State can halt progress Given the varied social and political traditions reflected in each country’s tax system, achieving consensus on a unified solution proves to be a daunting task.

As the number of Member States continues to rise, achieving unanimous decisions has become increasingly difficult The Commission acknowledges that maintaining unanimity for all taxation decisions hampers necessary coordination across Europe, prompting proposals to transition to Qualified Majority Voting (QMV) in specific tax areas, although the voting rules remain unchanged.

Since the 1960s, there have been significant changes in proposals for a common tax system across Europe For an in-depth analysis of the differences between national tax systems, refer to the "Structures of the Tax Systems in Poland, Hungary, the Czech Republic, and Slovenia: Final Report" and the "Taxation Trends 2011 in the European Union," both available on the European Commission's website.

The challenges in harmonising direct taxation through EU directives may arise from the significant level of harmonisation achieved in indirect taxes, particularly with the introduction of VAT This shift required Member States, except for France, to replace existing turnover taxes with a new indirect tax system, leading to substantial changes in national tax frameworks and a considerable transfer of regulatory powers Consequently, this transformation may have made Member States more hesitant to pursue harmonisation of direct taxes, as they could become more protective of their sovereignty in this area when faced with a loss of regulatory influence elsewhere.

2.4.2 The future of hard law regulation

Current European integration efforts face challenges, as existing directives may not succeed fully However, progress has been made, particularly in addressing double taxation on cross-border activities, which promotes transactions within the EU Member States have supported these directives, recognizing their economic benefits while maintaining a manageable level of tax sovereignty Additionally, they were persuaded by the Commission's claims that these initiatives are essential and align with the principle of subsidiarity.

Progress in harmonising direct taxation through a strict legal framework appears unlikely, particularly after addressing double taxation in intranational transactions The next logical step would involve aligning tax bases or rates, yet this seems unfeasible as some Member States may view such harmonisation as excessive While the proposal for the CCCTB directive has been published, expectations for its successful implementation through traditional means are low, with unanimous agreement anticipated to be unattainable Consequently, enhanced cooperation is being explored as an alternative to the uniform application of the CCCTB directive.

159 It is unnecessary to explain thoroughly why cumulative turnover taxes were found harmful for the intra-EU trade Suffice to say that VAT system was considered less distortive.

The enhanced cooperation mechanism transforms the collaboration on the CCCTB by merging traditional directives with non-legally binding soft governance Unlike traditional directives, which become binding EU law for all Member States and can lead to state liability for non-implementation, soft regulation merely suggests behaviors without imposing legal obligations Enhanced cooperation enables directives to apply only to participating Member States, thereby changing the regulatory nature of directives and allowing for a more flexible approach to EU law.

The hard law approach to direct taxation, reliant on unanimity, has reached a standstill, prompting the need for alternative regulatory methods to facilitate progress The EU appears to recognize that directives in direct taxation may have exhausted their potential To advance, a shift in regulatory strategy is essential, with enhanced cooperation being one option to modify hard law Additionally, as discussed in Chapters 3 and 4, regulation through direct tax case law and the soft law approach can further diversify the regulatory landscape for direct taxation.

This chapter examines the EU's direct tax directives, revealing two key conclusions: the limited number of adopted directives reflects a lack of success in harmonizing direct tax regimes, and these directives fail to establish a comprehensive framework Their narrow focus addresses isolated issues rather than providing systematic solutions, highlighting a significant departure from the Commission's initial goals for a unified corporate tax system Overall, traditional hard law measures have not significantly curtailed tax sovereignty.

160 This framework is incomplete because, for example, the problem of losses has not been resolved through a directive See Chapter 2, section 2.1.1.5.

Chapter 3 proceeds to examine the second element of hard law regulation It focuses on influential direct tax case law Effectively, Chapter 3 contrasts achievements in regulating direct tax through jurisprudence with the limited legislative framework presented in this chapter.

COMPLETING THE HARD LAW REGULATORY PUZZLE: AN

In search of the balance between tax sovereignty and the internal market

Under the Treaty, certain tax measures that hinder the internal market are deemed unacceptable, raising questions about the extent of the Court's regulatory influence on national tax sovereignty To clarify this distinction, it is crucial to examine case law examples that illustrate how the Court has navigated the balance between upholding national tax policies and ensuring the freedoms of the internal market.

Direct tax jurisprudence has evolved in distinct waves, mirroring the progression seen in general internal market case law The European Court of Justice (ECJ) initially interpreted fundamental freedoms through a pure discrimination approach, gradually transitioning towards the principle of non-discriminatory restrictions.

7 Examples of secondary tax law cases include the following: cases concerned with the Parent- Subsidiary Directive are: Joined Cases C-283/94, C-291/94 and C-292/94 Denkavit International BV,

In the case of VITIC Amsterdam BV and Voormeer BV v Bundesamt für Finanzen [1996] ECR I-5063 (Case C-58/01), as well as Océ Van der Grinten NV v Commissioners of Inland Revenue [2003] ECR I-9809, the judgments emphasize the implications of the Parent-Subsidiary Directive and fundamental freedoms within the European Union Notably, Case C-284/06 further illustrates these principles in action, highlighting their significance in cross-border taxation and corporate structures.

Finanzamt Hamburg-Am Tierpark v Burda GmbH [2008] ECR I-04571 or Case C-303/07 Aberdeen Property Fininvest Alpha Oy [2009] ECR I-5145 An example of a case on the Fiscal Mergers

Directive is Case C-321/05 Hans Markus Kofoed v Skatteministeriet [2007] ECR I -5795 The Mutual Assistance Directive along with the fundamental freedoms was a legal basis for: Case C-451/05

Européenne et Luxembourgeoise d’investissements SA (ELISA) v Directeur général des impôts and Ministère public [2007] ECR I-8251; Case C-318/07 Hein Persche v Finanzamt Lüdenscheid, [2009]

Cases involving the interpretation of national tax laws in relation to secondary tax law are less frequent than those concerning direct tax measures and free movement principles However, there has been a noticeable increase in the number of these cases being referred to the European Court of Justice (ECJ) by national courts and tribunals in recent times.

Hinnekens identified two generations in the application of Treaty principles to direct taxation The first generation focuses on discriminatory cases, while the second generation addresses non-discriminatory restrictions within the internal market.

Hinnekens, ‘The Search for the Framework Conditions of the Fundamental EC Treaty Principles as Applied by the European Court to Member State’s Direct Taxation’, (2002) 11:3 EC Tax Review 112-

The market equality test, also known as the principle of market equality, examines the balance between fundamental freedoms and tax sovereignty in the context of direct taxation G Bizioli discusses this concept in his article, highlighting recent case law from the European Court of Justice (ECJ) that addresses these critical issues This analysis emphasizes the ongoing tension between ensuring fair competition within the EU market and maintaining national tax policies.

11 This is also called the market access test Ibid., at 133.

An analysis of direct tax case law indicates a simplified division of developments, particularly regarding the European Court of Justice's (ECJ) stance on non-discrimination and obstacle approaches Initially, direct tax adjudications focused on the discrimination approach, which was already established in non-tax jurisprudence However, the ECJ has not fully embraced the broader concept of market access in direct tax cases as it has in other areas Consequently, the ECJ's recent perspective on direct tax barriers appears less stringent for Member States compared to other fields Additionally, the justifications presented by Member States for measures that violate EU law often lack strength; the ECJ has frequently ruled that national tax rules contravene internal market principles, rejecting the defenses offered by Member States in most cases.

3.1.1 The discrimination approach: its legal foundation and meaning

Non-discrimination is fundamental to European integration, rooted in the Treaty While the Treaty does not have a single specific provision addressing discrimination, Article 18 TFEU establishes a general principle against discrimination based on nationality However, this provision is limited in its application to direct tax cases involving discriminatory measures, as it serves a residual function and is only relevant when the Treaty lacks more specific guidelines.

The market access approach has its origins in case law concerning the free movement of goods, notably illustrated by the Cassis de Dijon case (Case 120/78 Rewe-Zentral AG v Bundesmonopolverwaltung für Branntwein [1979] ECR 469) This principle has since extended to encompass other fundamental freedoms, including the free movement of workers, as demonstrated in the Bosman case (Case C-415/93 Union royale belge des sociétés de football association ASBL v Jean-Marc Bosman, Royal club liégeois SA v Jean-Marc Bosman and others and Union des associations européennes de football (UEFA) v Jean-Marc Bosman [1995] ECR).

I-4921 Case C-55/94 Reinhard Gebhard v Consiglio dell'Ordine degli Avvocati e Procuratori di

The cases Milano [1995] ECR I-4165 and C-76/90 Manfred Sọger v Dennemeyer & Co Ltd [1991] ECR I-422 highlight the principles of freedom of establishment and free movement of services within the European Union Scholars suggest that the European Court of Justice (ECJ) began applying the market access approach as early as the Dassonville case (Case 8/74 Procureur du Roi v Benoợt and Gustave Dassonville [1974] ECR 837) This evolution of legal interpretation is discussed in J Snell's article, “The Notion of Market Access: a Concept or a Slogan?” published in the Common Market Law Review.

13 See Chapter 3, section 3.1.3.2 regarding this development.

In the Phil Collins case, AG Jacobs clarified the significance of Article 18 TFEU, which was formerly Article 12 TEC This provision not only facilitates economic integration but also represents a powerful symbol of unity within the European Union.

EU Opinion of AG Jacobs in Joined Cases C-92/92 and C-326/92 Phil Collins v Imtrat

In the case of Handelsgesellschaft MbH and Patricia Im- und Export Verwaltungsgesellschaft mbH v EMI Electrola GmbH [1993] ECR I-5145, paragraph 11, the court addressed specific expressions of the non-discrimination principle It emphasized that the provisions regarding fundamental freedoms serve as special laws (leges specialis) that enhance the general principle of non-discrimination based on nationality.

Discrimination based on nationality involves distinguishing between internal and foreign circumstances when exercising the right to free movement It refers to treating similar situations differently or different situations similarly, highlighting the importance of similarity and comparability Simply treating two situations differently does not automatically indicate discrimination; for it to be established, the situations in question must be comparable.

Discrimination can be categorized into two types, with the first type being direct discrimination based on nationality This explicit form of discrimination is generally considered unlawful unless justified by specific grounds outlined in the Treaty Furthermore, any discriminatory rule must be proportionate to be considered justifiable, even if it violates EU law.

Indirect discrimination is a prevalent issue in direct tax cases, where national and foreign entities, including products, investments, and workers, are ostensibly treated equally However, in practice, distinctions based on nationality often occur Such indirectly discriminatory measures may be justified under a broad, non-exhaustive framework known as 'imperative requirements in the general interest' or 'overriding requirements.'

15 This follows from Article 18 TFEU It states that ‘without prejudice to any special provisions any discrimination on grounds of nationality shall be prohibited’.

16 D Weber, Tax Avoidance and the EC Treaty Freedoms: a Study of the Limitations under European

Law to the Prevention of Tax Avoidance, (The Hague: Kluwer, 2005), p 83

17 See, for example, Case 13/63 Commission v Italy [1963] ECR 165, paragraph 6; Case C-107/94 P

H Asscher v Staatssecretaris van Financiởn [1996] ECR I-3089, paragraph 42.

18 Case 152/73 Giovanni Maria Sotgiu v Deutsche Bundespost [1974] ECR 153, paragraph 3.

19 See: Articles 45(3), 52(1) and 65(1)(b) TFEU The explicit derogations from these fundamental freedoms are: public policy, public health and public security.

The relationship between hard law direct tax jurisprudence and soft law measures

The case law of the European Court of Justice (ECJ) plays a crucial role in shaping national tax laws and addressing direct tax issues within the EU The European Commission adopts a dual approach to tackle these challenges in the internal market, issuing both overarching strategy documents and targeted communications on specific topics This strategy originated from a 2001 Communication that highlighted the need to better understand the implications of significant ECJ rulings on Member States' corporate tax regulations and double taxation treaties To aid Member States, their judicial systems, and businesses, the Commission provides guidance aimed at ensuring that non-harmonised direct tax regimes align with EU law and ECJ case law.

96 Communication from the Commission to the Council, the European Parliament and the Economic and Social Committee Tax Policy in the European Union: Priorities for the Years ahead, COM

(2001) 260 final; Communication An Internal Market without Company Tax Obstacles-

Achievements, Ongoing Initiatives and Remaining Challenges, note Error: Reference source not found above.

97 Communication from the Commission to the Council, the European Parliament and the Economic and Social Committee Towards an Internal Market without Tax Obstacles: a Strategy for Providing

The European Commission's proposal COM (2001) 582 final aims to address the consolidated corporate tax case for companies operating across the EU By enhancing adherence to the Treaty, this initiative seeks to eliminate tax barriers within the internal market, thereby promoting a more integrated and competitive business environment.

In 2003, the Commission issued a Communication to guide the implementation of key ECJ rulings on individual dividend taxation, emphasizing the need for national tax rules to align with EU law It urged Member States to collaborate for swift resolution and warned that failure to reach coordinated solutions could lead to legal action against those with non-compliant dividend tax regulations The ECJ had already determined that differing tax treatments for domestic and inbound dividends violated the free movement of capital, referencing significant cases such as Verkooijen, Manninen, and Lenz.

In 2006, the European Commission introduced initiatives aimed at enhancing cooperation and coordination of national direct tax systems to eliminate fiscal barriers within the internal market This renewed focus on direct taxation was largely driven by a rise in litigation from taxpayers contesting national tax rules for non-compliance with EU law Consequently, the jurisprudence of the European Court of Justice (ECJ) played a significant role in shaping these developments.

98 Communication of 19 December 2003 from the Commission to the Council, the European

Parliament and the European Economic and Social Committee on Dividend Taxation of Individuals in the Internal Market, COM (2003) 810 final.

99 Case C-35/98 Staatssecretaris van Financiởn v B.G.M Verkooijen [2000] ECR I-4071.

100 Case C-319/02 Petri Mikael Manninen [2004] ECR I -7477.

101 Case C-315/02 Anneliese Lenz v Finanzlandesdirektion für Tirol [2004] ECR I-7063.

102 Communication of 19 December 2006 from the Commission to the Council, the European

Parliament and the European Economic and Social Committee on Co-ordinating Member States’

Direct Tax Systems in the Internal Market, COM (2006) 823 final.

Communications based on the case law related to the problems of exit taxation 103 , anti-abuse measures 104 and cross-border losses 105 were issued

The European Commission's Communication on exit taxation for emigrating individuals and businesses draws inspiration from key tax judgments, notably Lasteyrie du Saillant and N It urges Member States to reassess their national anti-abuse rules, particularly concerning thin capitalization and controlled foreign companies, in light of principles established by the European Court of Justice (ECJ) in cases such as Lankhorst-Hohorst, Thin Cap GLO, and Cadbury Schweppes Furthermore, the Communication on cross-border loss relief is significantly influenced by the ECJ's ruling in the Marks and Spencer case.

Having as their main objective the coherent interaction of national laws within the

The EU emphasizes the importance of compliance with its principles, highlighting areas that need improved coordination among Member States Through three Communications, the Commission clarifies the implications of ECJ judgments on exit taxation, cross-border loss offsetting, and anti-abuse measures, encouraging Member States to adopt these interpretations in their tax systems In this context, soft law serves as a valuable complement to hard law regulations, informed by case law.

103 Communication of 19 December 2006 from the Commission to the Council, the European

Parliament and the European Economic and Social Committee on Exit Taxation and the Need for Co- ordination of Member States’ Tax Policies, COM (2006) 825 final.

104 Communication of 10 December 2007 from the Commission to the Council, the European

Parliament and the European Economic and Social Committee on the Application of Anti-abuse Rules in the Area of Direct Taxation COM (2007) 785 final.

105 Communication of 19 December 2006 from the Commission to the Council, the European

Parliament and the European Economic and Social Committee on Tax Treatment of Losses in Cross-

106 Case C-9/02 de Lasteyrie du Saillant, note Error: Reference source not found above.

107 Case C-470/04 N, note Error: Reference source not found above.

108 Case C-324/00 Lankhorst-Hohorst, note Error: Reference source not found above.

109 Case C-524/04 Test Claimants in the Thin Cap Group Litigation v Commissioners of Inland

110 Case C-196/04 Cadbury Schweppes, note Error: Reference source not found above.

111 Under Senden’s classification of soft law measures presented in Chapter 1, section 1.5.4., the Communications, prima facie, can be grouped as pure interpretative instruments.

The Commission, acting as the guardian of the Treaties, aims to address key challenges in the internal market caused by insufficient coordination of national tax regulations In light of the difficulties faced in implementing traditional hard law, the Commission has shifted its focus towards enhancing the variety of regulatory tools available to better align national direct tax systems.

The non-legislative approach serves as an effective tool for advancing direct tax policies, similar to the peer pressure mechanisms established by the Code of Conduct The Commission suggests utilizing various instruments, such as recommendations, guidelines, and interpretative notices, to enhance this strategy This soft law approach is particularly impactful when grounded in legal foundations from the Treaty and ECJ case law By employing these instruments, the Commission aims to guide Member States in applying Treaty principles and swiftly eliminating barriers to the internal market.

In the realm of personal taxation, a unique process emerged where a soft law measure, specifically a Recommendation from the Commission, preceded the Court's case law This soft law served as a precursor to more stringent regulations, as tax jurisprudence evolved into a primary source of regulation, particularly for cross-border workers’ taxation Over time, the Court integrated elements of this soft law into its decisions, but ultimately, tax case law became the more comprehensive and influential regulatory framework.

The Commission has increased the frequency of infringement proceedings against Member States that breach EU law regarding direct taxation, in addition to issuing soft law instruments For statistical evidence supporting this initiative, refer to Chapter 3, section 3.3.

113 Communication from the Commission to the Council, the European Parliament and the Economic and Social Committee Tax Policy in the European Union: Priorities for the Years ahead, COM

114 The process of coordination of personal taxation within the EU has not been of great interest to the

EU Among the most important initiatives in this regard, one has to point out the Directive on the taxation of savings income See Chapter 2, section 2.2.5.

115 Commission Recommendation 94/79/EC of 21 December 1993 on the taxation of certain items of income received by non-residents in a Member State other than that in which they are resident, OJ

The principles of this Recommendation were largely confirmed by the ECJ in the

The Schumacker case highlights the European Court of Justice's (ECJ) departure from established guidelines, as it does not reference the Recommendation or clarify its deviation from the specified rules Unlike the soft law measure, which clearly states that earning 75% of relevant income in the host state qualifies for national treatment, the ECJ employs vague language without defining a specific percentage Furthermore, the ECJ fails to clarify what constitutes earning income "entirely or almost exclusively" in the source state, leading to potential arbitrariness and legal uncertainty This principle has been reinforced in subsequent rulings.

Gschwind, 117 Gerritse 118 and Wallentin 119 It is worth noting that the Gschwind case indicates that the limit should be set higher than the 75 % suggested in the Commission Recommendation.

The interaction between direct tax case law and EU regulatory measures is increasingly evident, as the Commission has begun to implement more non-binding initiatives inspired by the European Court of Justice (ECJ) jurisprudence This interplay between hard and soft law serves to eliminate barriers within the internal market Consequently, the Commission's renewed focus on direct taxation systems largely stems from the negative integration efforts of the ECJ To amplify the impact of the Court's tax rulings, the Commission has adopted various soft law measures, including communications aimed at enhancing the effectiveness of these decisions.

Recent direct tax rulings have alleviated numerous barriers to cross-border activities However, the European Court of Justice (ECJ) does not offer Member States definitive guidance on addressing national tax rules deemed non-compliant.

EU law allows the Court to identify breaches of EU principles but does not provide guidance on amending national tax systems This creates an opportunity for the Commission to intervene, as it can offer clarifications and constructive guidance regarding direct tax decisions.

116 Case C-279/93 Schumacker, note Error: Reference source not found above.

117 Case C-391/97 Frans Gschwind v Finanzamt Aachen-Auòenstadt [1999] ECR I-5451.

118 Case C-234/01 Arnoud Gerritse v Finanzamt Neukửlln-Nord [2003] ECR I-5933.

119 Case C-169/03 Florian W Wallentin v Riksskatteverket [2004] ECR I-6443.

The implementation of direct tax judgments by Member States often varies significantly, risking incoherence within national tax systems and jeopardizing the uniform application of EU law principles This inconsistency can lead to increased complexity in direct tax regulation To mitigate these challenges, soft law instruments can be utilized to address asymmetries in legal approaches among Member States, highlighting potential legal issues and proposing solutions to prevent conflicts or litigation Additionally, these instruments can facilitate the creation of new tax rules when previous ones are deemed unlawful by the Court.

DISCOVERING NEW LANDS: THE SOFT LAW APPROACH TO

The road to the tax package

4.1.1 Monti’s initiative: from Verona to Mondorf-les-Bains

The 1990s marked a significant shift in direct taxation efforts, driven by Mario Monti, the Commissioner for the Internal Market, Financial Services, and Taxation His focus on harmful tax competition elevated the issue on the political agenda, revitalizing discussions around direct tax regulation after years of stagnation Monti fostered dialogue among the Commission, the Council, and Member States, emphasizing the principles of subsidiarity and sovereignty, ensuring that any proposed solutions would consider the diverse interests of all Member States.

In April 1996, the Council of Ministers for Economic Affairs and Finance (ECOFIN) convened in Verona to discuss Commissioner Monti's proposal on "Taxation in the European Union." This meeting marked the beginning of a comprehensive EU tax strategy that addressed multiple interconnected tax issues, including business taxation, VAT, social security contributions, and personal income taxation The Verona Memorandum served as a foundational document for reflection and debate on these critical topics.

6 Chapter 2 provides an overview of direct tax harmonisation proposals since the 1960s.

7 Monti was in charge of tax policy in the period 1995-1999 Frits Bolkestein was Monti’s successor between 1999 and 2004

8 The Ruding Committee had already warned the EU Member States about harmful forms of tax competition in 1992 See Chapter 2.

The Verona Memorandum, also referred to as the Monti Memorandum or the First Monti Report, outlines key discussions on taxation within the European Union, as presented in the SEC (96) 487 final document for the Informal Meeting of ECOFIN Ministers This report, authored by A J Martín Jiménez, emphasizes the need for corporate tax harmonization across EU member states to enhance economic cooperation and competitiveness.

Community: an Institutional and Procedural Analysis, (London, The Hague and Boston: Kluwer,

1999), p 143. taxation within the EU It drew attention to the negative consequences of the lack of a coordinated approach to this regulatory sphere.

The Monti Memorandum highlighted three interconnected challenges for EU tax policy: stabilizing Member States' tax revenues, ensuring the smooth operation of the single market, and fostering employment It noted that harmful tax competition negatively impacted national tax revenues by eroding the tax base, a trend exacerbated by the increasing mobility of production factors As capital became more mobile than labor, there was a decline in capital taxation while labor taxes rose, leading to structural changes in tax systems To address these risks, closer tax coordination at the EU level was proposed, and the Verona Memorandum signaled the Commission's commitment to exploring solutions for these challenges.

Following the Verona Memorandum's publication, a High Level Group was established, comprising personal representatives of ECOFIN ministers, to foster discussions among Member States on tax policy issues The Group produced a report addressing the development of tax systems within the EU, responding to the Commission's taxation policy outlined in the Verona Memorandum The report emphasized a shared recognition among the Group members of the significance of tax rules in achieving a fully integrated single market, although opinions varied on the urgency and necessity of EU intervention in this area.

The report emphasized the importance of addressing harmful tax competition and establishing shared principles for identifying detrimental tax measures Nonetheless, it highlighted the hesitance among many finance ministers to engage in a harmonization initiative for income taxation and the lack of backing for implementing a minimum corporate tax rate.

10 Taxation in the European Union: Report on the Development of Tax Systems, COM (96) 546 final This Report is also known as the Second Monti Report.

The report highlighted a general agreement among Member States on the necessity of lowering labor taxes; however, differing opinions emerged on the methods to accomplish this objective Additionally, it revealed a lack of consensus regarding the future direction of EU tax policy.

The final part of the Second Monti Report highlighted the Commission's conclusions from the High Level Group meetings and referenced a 1996 Verona meeting paper It stressed that any EU taxation proposals must adhere to the principles of proportionality and subsidiarity, emphasizing that harmonization should not occur merely for its own sake but to safeguard national tax sovereignty As detailed in Chapter 1, section 1.1.3, a unified approach would help limit tax competition, allowing states to maintain independent taxation decisions Additionally, the Commission indicated its intention to advance several initiatives, including the development of common criteria to be incorporated into a 'code of good conduct' regarding tax competition.

Following the Second Monti Report and the ECOFIN informal meeting in Mondorf-les-Bains in September 1997, the European Commission acknowledged the urgent need for improved coordination of national tax systems In response, a Communication was published outlining a comprehensive package of measures aimed at addressing harmful tax competition This proposed package included four potential components designed to combat such practices effectively.

To enhance direct taxation, it is essential to implement three key measures: first, addressing distortions in the taxation of interest on savings; second, abolishing withholding taxes on cross-border payments of interest; and third, eliminating withholding taxes on royalties.

14 See Chapter 1, section 1.1.2 for a broader reflection on tax sovereignty.

15 Second Monti Report, note Error: Reference source not found above, p 10.

On October 1, 1997, the Commission presented a communication to the Council outlining a comprehensive package aimed at fostering tax coordination within the European Union, specifically addressing harmful tax competition This initiative included a non-binding Code of Conduct for Business Taxation, alongside measures to rectify significant distortions in indirect taxation Additionally, the communication featured an annex containing an initial draft of the proposed Code of Conduct.

The Code is a crucial element aimed at preventing economic distortions and protecting tax bases within Member States, developed by the Taxation Policy Group with acknowledgment of Member States' cooperation While there was broad support for its adoption as a non-legally binding instrument, the effectiveness of the Code hinges on strong political commitment from Member States The Commission's initial emphasis on "strong political commitment" suggests a desire for the Code to be perceived as a more robust regulatory instrument, potentially implying obligations akin to legally binding commitments However, the final text refers to the Code simply as "a political commitment," which may leave Member States uncertain about its intended nature and implications.

In response to the commitment to the Code, numerous Member States have called on the Commission to reassess its fiscal state aid policy and fully utilize its Treaty powers to address harmful tax competition The Commission has indicated its willingness to positively engage with this request, highlighting the connection between the prohibition of State aid and tax competition, which is further explored in Chapter 5.

17 Chapter 2 presents the two directives.

18 A substantive analysis of the Code of Conduct is provided in Chapter 4, section 4.2.

19 Communication Towards Tax Co-ordination in the European Union: a Package to Tackle Harmful

Tax Competition, note Error: Reference source not found above, paragraph 13.

4.1.2 The adoption of the Code of Conduct

Following the Second Monti Report, the ECOFIN Council convened a meeting where the Commission was tasked with presenting revised proposals for the tax package Key elements from the ongoing discussions were included in a Communication released on November 5, 1997, which aimed to serve as the foundation for a political agreement at the ECOFIN Council meeting in December 1997 Although the reasons for the Commission's request to refine its proposals were not clarified, an amended draft of the Code of Conduct was included with the Communication.

The Commission's request for an improved tax proposal arose from accusations of encroaching on national tax competencies in its initial draft, which some Member States deemed too restrictive regarding their tax sovereignty This concern was highlighted in paragraph 6 of the November Communication, where the Commission acknowledged the importance of respecting national competencies The revised tax package, developed by the Commission, was based on extensive collaboration with Member States Although some Member States sought a more ambitious package, political realities made this unfeasible, leading to the abandonment of the fourth element related to indirect taxation.

The Code of Conduct for Business Taxation

This section delves into the essential elements of the Code, focusing on its approach to tax competition Chapter 1 highlights the absence of a universal legal definition of tax competition It outlines the criteria established in the Code for identifying tax rules classified as harmful tax measures Additionally, it emphasizes the rollback and standstill commitments that Member States have agreed to under the Code.

4.2.1 Harmful tax competition under the Code of Conduct

The preamble to the Code recognizes the benefits of fair tax competition while highlighting that certain types of tax competition can have detrimental effects The Code specifically addresses these harmful practices and applies to measures that significantly influence business location within the Community Tax measures covered by the Code encompass laws, regulations, and administrative actions.

The 28 Code of Conduct outlines essential guidelines for effectively implementing the Convention on the Elimination of Double Taxation, specifically concerning the adjustment of profits for associated enterprises Additionally, the Resolution on the Code of Conduct regarding Transfer Pricing Documentation for Associated Enterprises in the European Union provides a framework to ensure compliance and transparency in transfer pricing practices These documents, published in the Official Journal (OJ) 2006 C176, serve as critical resources for maintaining fair tax practices and preventing double taxation within the EU.

The Code of Conduct identifies tax measures as potentially harmful if they result in a significantly lower effective tax rate, including cases of zero taxation, compared to the general levels applicable in the respective Member State This assessment encompasses various factors such as the nominal tax rate and tax base, rather than focusing solely on the overall corporate tax rate of a Member State Essentially, the Code targets specific measures that lead to a reduced tax burden, indicating that only one type of tax competition is addressed within its framework.

According to the Code, business tax measures are deemed harmful only if they significantly influence the location of business activities within the EU If a tax measure has a minimal or negligible impact on investment location decisions, it falls outside the Code of Conduct's scope However, the challenge lies in determining the extent to which a tax measure affects location decisions, a clarification that the Code does not provide.

The initial drafts of the Code proposed a broader scope, encompassing not only business tax measures but also special tax regimes for employees that could influence the location of business activities This recognition highlights the importance of considering various tax implications beyond traditional business taxation.

32 B J Kiekebeld, note Error: Reference source not found above, at 22.

The second draft of the Code proposed an initial evaluation two years post-implementation to determine if general tax measures could be deemed harmful and if the Code's scope needed expansion Although this review was ultimately abandoned due to political pressure, it is important to recognize that tax competition through general tax measures can still have detrimental effects.

Towards Tax Co-ordination in the European Union: a Package to Tackle Harmful Tax Competition, note Error: Reference source not found above, paragraph P.

34 Paragraph C of the Annex to Communication Towards Tax Co-ordination in the European Union: a

Package to Tackle Harmful Tax Competition, note Error: Reference source not found above;

Paragraph C of the Annex to Communication A Package to Tackle Harmful Tax Competition in the

The European Union's business taxation policies can significantly impact investment location decisions The Council Conclusions from December 1, 1997, proposed that special tax arrangements for employees might be included in the Code's revision However, this expansion has not yet occurred, and the material scope of the Code remains unchanged.

4.2.2 The criteria for establishing harmful tax regimes

The Code of Conduct does not specify which measures are considered harmful tax regimes, but it suggests a two-step process for identifying them First, it assesses whether a tax measure significantly influences business location within the Community and whether it leads to a substantially lower effective tax rate, including zero taxation, compared to the general levels in the respective Member State If these criteria are met, the tax measures must undergo further evaluation against additional requirements to determine if they are indeed harmful.

Paragraph B of the Code establishes five criteria which should be taken into consideration when determining whether a tax measure is harmful or

Paragraph N of the Code outlines the monitoring and review process, urging the Council and Member States to evaluate the Code's content two years post-adoption.

The initial draft of the Code featured less stringent conditions for special tax regimes for employees, requiring a tangible impact on business location to be considered harmful In contrast, the second draft broadens this criterion, stating that even a potential influence on business activity location is sufficient to classify a tax regime as harmful This revised approach aligns with the final version of the Code, which acknowledges that the detrimental nature of business tax measures can be identified through both actual and potential significant effects on the location of business activities.

37 Code of Conduct, note Error: Reference source not found above, paragraph A.

When evaluating the harmful nature of tax measures in autonomous regions of the EU, a key issue arises regarding whether the assessment should consider the overall taxation of the Member State or focus on the specific autonomous territory The Primarolo Report does not provide a clear resolution to this dilemma, as evidenced by the differing analyses of measure A005 (Navarra coordination centres) against Spain's standard corporate tax rate, while measure B012 (exempt offshore companies and captive insurance regime in Gibraltar) was evaluated based on Gibraltar's normal corporate tax rate This inconsistency is particularly relevant in the context of State aid conditions Furthermore, the Code of Conduct indicates that the criteria for assessing harmful tax measures are not exhaustive, as highlighted by the phrase "inter alia," suggesting that additional characteristics not explicitly listed may also be considered in determining harmfulness Consequently, it is possible for measures that do not align with the specified factors to still be classified as harmful.

1 An indication that a tax measure is harmful might be given when it is established that tax advantages are accorded only to non-resident taxpayers or with regards to transactions carried out with non-residents It is claimed that, in that respect, tax measures are created solely for the purpose of attracting foreign tax bases at the expense of other tax jurisdictions

2 Tax measures are regarded as harmful when the advantages guaranteed by them are ring-fenced from the domestic economy Thus, such tax measures do not have a negative influence on the domestic tax base

3 The Code of Conduct also lays down a requirement to examine whether tax advantages are granted irrespective of conducting real economic activity or substantial economic presence in the Member State offering tax advantages The provision of tax benefits to businesses that are not economically active or present in a Member State indicates that a country consciously pursues tax policies designed to attract mobile tax bases from other Member States

The Code of Conduct as a soft law instrument

This section emphasizes that the Code functions primarily as a soft law measure within a landscape dominated by hard law regulations This interpretation can be viewed in two ways: firstly, the Code is a soft law element within a tax package that also contains two legally binding components; secondly, in a wider context, the Code is seen as a soft law measure integrated into EU direct tax regulation, which largely consists of hard law instruments such as directives, recommendations, and jurisprudence.

Before the soft law features of the Code become subject to closer examination, it is first analysed whether the choice of a non-binding instrument to tackle harmful tax

68 Council Conclusions on EU relations with EFTA countries, 17423/1/10 REV 1 (en) LIMITE, paragraphs 24 and 25.

The Dutch delegation expressed in the final report that while it is dedicated to implementing the principles of the Code in its associated territories, specifically Aruba and the Netherlands Antilles, it lacks the constitutional authority to compel these regions to adhere to the agreed-upon principles.

The competition arose from the belief that a soft law measure offered a more favorable solution than a hard law instrument, or alternatively, it was viewed as a compromise due to the impracticality of achieving hard law.

4.3.1 A first choice or a second best compromise?

The Code originated as a non-binding measure due to the shortcomings of the hard law approach previously endorsed by the Commission during European integration Its approval and implementation should be viewed as part of a lengthy series of proposals from the Commission dating back to the early 1960s This shift towards exploring new regulatory avenues reflects a pragmatic and politically compromised response, rather than a firm conviction that soft law offers superior solutions to direct tax regulatory challenges.

The Code of Conduct is characterized as a soft law measure within the traditionally hard law-dominated regulatory environment of taxation, marking a shift towards less rigid governance approaches This choice for soft law was not a positive endorsement of its inherent values, but rather a reaction to the limitations of hard law in achieving fiscal integration While the EU has generally embraced softer governance forms, the transition in direct tax regulation remains incomplete, as the Code is integrated within a broader tax package that includes directives.

71 Chapter 2 examines why the hard law integration path was problematic for the EU.

72 See Chapter 1, section 1.5.3 for an outline of new forms of EU governance.

The adoption of a soft law instrument in EU taxation can be attributed to the modified approach of Commissioner Monti, which facilitated a compromise leading to the tax package's approval This new multidimensional strategy effectively combined various issues and considered both hard and soft law measures, balancing the interests of different Member States and institutions Tax coordination at the EU level was framed as a means to strengthen the internal market while enhancing the fiscal powers of national governments Learning from past failures in EU direct tax harmonization, Commissioner Monti proposed a more sophisticated regulatory strategy to advance direct taxation regulation, emphasizing the need to shift the direction and character of the regulatory approach.

Several Member States have expressed a desire for a more ambitious tax coordination package However, extensive discussions within the Council and the TPG reveal that such goals are currently unachievable due to the reluctance of some members to embrace tax coordination In light of this, the Commission believes that the proposed package represents a significant advancement toward enhanced coordination and efforts to combat harmful tax competition.

Union Moreover, the Commission believes that the package offers the real prospect of agreement between Member States (…) 73

The difficulty in assessing whether the European Commission initially intended to shift from hard law to soft law solutions in its tax package arises from limited access to background materials Available documents do not analyze the rationale for presenting the Code as a non-binding resolution, nor is there a published debate on the benefits and drawbacks of soft law versus hard law in direct taxation Given that adopting a soft law instrument marks a significant change in the EU’s approach to direct taxation, one would anticipate a clear explanation for this decision However, the absence of such an explanation may not be surprising, as the EU generally operates without providing detailed justifications for its policy choices.

The 73 Communication addresses harmful tax competition within the European Union, highlighting a shift towards softer governance methods However, the introduction of the Code as an innovative approach to direct taxation lacked sufficient clarification regarding its classification as a soft law measure, which was a significant oversight.

The selection of a soft law instrument appears to be a necessary compromise influenced by prevailing political circumstances, as there is no formal justification for this choice While literature suggests that the Commission may have initially intended to adopt a directive rather than a code of conduct, no primary sources or credible references support these claims.

The approval of the EU tax Code by Member States represents a significant milestone in tax regulation, introducing an alternative approach to addressing tax issues This development highlights that harmonisation is not the sole method for European integration, as both soft and hard law measures can effectively co-regulate the tax field However, as elaborated in Chapter 5, the EU has not fully capitalized on the potential of soft law, choosing instead to depend on the more rigid aspects of the Code to ensure its effectiveness.

4.3.2 The soft side revealed in the Code’s name

The Code of Conduct exhibits several characteristics of soft law, with its formal designation as a Council resolution being the most evident Officially titled the "Resolution of the Council and the Representatives of the Governments," this designation underscores its non-binding nature while still aiming to guide behavior and expectations among member states.

Member States, Meeting within the Council of 1 December 1997 on a Code of Conduct on Business Taxation As explained in Chapter 1, section 1.2.2, the EU has

74 See for instance: H Gribnau, note Error: Reference source not found above, at 93; C M Radaelli, note Error: Reference source not found above, at 11.

The European Union (EU) possesses law-making competence that is distinct from the general powers of national legislatures, as it can only legislate in areas where Member States have granted it authority through treaties Understanding the sources of EU law, particularly in a traditional sense, is crucial for differentiating between binding and non-binding resolutions Measures that lack legal binding force do not qualify as sources of EU law According to Article 288 TFEU, EU law is established through directives, regulations, and decisions.

Article 288 TFEU distinguishes between hard law and soft law, explicitly omitting resolutions from its enumerated law-making instruments, which include directives, regulations, and decisions Resolutions, along with recommendations and opinions, are categorized as soft law, meaning they do not impose legal obligations on Member States The Code of Conduct, identified as a regulatory measure, further exemplifies this classification, highlighting that it does not serve as a source of law Additionally, the list of non-legally binding instruments under Article 288 TFEU is not exhaustive, allowing for the inclusion of other measures like guidelines and codes of conduct to aid in the development of EU policy through a soft law approach.

Soft law measures, while not legally binding, play a significant role in influencing behavior and driving change Their non-binding nature does not diminish their relevance, as they can impact various channels and mechanisms within legal and regulatory frameworks.

4.3.3 The Code of Conduct as a political commitment

Soft law in the context of international tax issues

To address transnational tax issues, both the EU and OECD have utilized soft law approaches, driven by concerns over the detrimental effects of tax competition However, the OECD's focus is more limited, primarily targeting the illegality of tax havens, while the EU's soft law initiative encompasses a wider perspective within the framework of the internal market.

96 Report from the Code of Conduct Group (Business Taxation) to the ECOFIN Council on 3

The 2002 progress report indicated that there were no agreed descriptions for rollback proposals concerning the exempt companies regime and the free zones regime in Aruba, as well as the free zones regime in the Netherlands Antilles However, the 2003 progress report confirmed that an agreement on the rollback proposals for these three measures was ultimately reached.

This section focuses on the interplay between soft law and hard law in the OECD's anti-tax competition initiatives, rather than comparing the material aspects of EU and OECD projects It concludes that the OECD's soft law approach has evolved into a more sophisticated solution, integrating recent hard law measures, such as tax information exchange agreements, with traditional soft law mechanisms.

4.4.1 The regulatory structure of the OECD

The OECD, rooted in a tradition of cooperation among its members, aims to guide national governments by establishing globally accepted standards and rules One of its initiatives, the tax competition project, seeks to create an international soft law framework that delineates acceptable and prohibited practices in the realm of international tax competition.

98 This comparison has already been carried out See for example: A Easson, ‘Harmful Tax

Competition: the EU and OECD Responses Compared’, (1998) 3:1 EC Tax Journal 1-15; C Pinto, note Error: Reference source not found above; E Osterweil, ‘OECD Report on Harmful Tax

Competition and European Union Code of Conduct Compared’, (1999) 39:6 European Taxation 198- 202; E Osterweil, ‘The OECD and the EU: Two Approaches to Harmful Tax Competition’, (1999) 3:2

99 OECD, Convention on the Organisation for Economic Co-operation and Development, 1960, available at http://www.oecd.org/document/7/0,3746,en_2649_201185_1915847_1_1_1_1,00.html.

100 The list of the OECD Members has expanded over the years and today there are 34 Members: Australia, Austria, Belgium, Canada, Chile, Czech Republic, Denmark, Estonia, Finland,

The Organisation for Economic Co-operation and Development (OECD) currently includes countries such as France, Germany, Greece, and the United States, among others Since 2007, there has been potential for the OECD's enlargement, with Russia invited to discuss membership Additionally, the OECD has extended enhanced engagement opportunities to Brazil, China, India, Indonesia, and South Africa, moving closer to its vision of becoming a truly global organization.

101 R M Hammer and J Owens, Promoting Tax Competition, 2008, available at www.oecd.org/dataoecd/63/11/1915964.pdf.

Krasner defines regimes as collections of principles, norms, rules, and decision-making procedures that shape the expectations of actors in international relations He emphasizes that these regimes serve as crucial intervening variables Similarly, Haas highlights that regimes emerge from the growing interdependence among self-interested states, which can lead to potential conflicts.

The OECD functions as a platform for dialogue among equals, as evidenced by its regulatory framework Its activities primarily involve non-binding soft law, enforced through surveillance and peer review, highlighting its governance through deliberation and soft influence In regulatory governance, the OECD employs various instruments, including decisions, international agreements with members and non-members, recommendations, and declarations.

Decisions made by the OECD Council are binding on all Members and must be implemented in accordance with the Convention, following appropriate national constitutional procedures Decisions and recommendations require unanimous agreement among Members, unless specified otherwise An abstention from voting by a Member does not invalidate the decision, which remains applicable to other Members, but not to the abstaining Member While international treaties and conventions within the OECD are legally binding for the parties involved, the production of OECD hard law acts is relatively low, and these decisions and agreements do not have direct legal effect within the Member States' legal systems.

103 M Marcussen, ‘OECD Governance through Soft Law’ in U Mőrth (ed.), Soft Law in Governance and Regulation: an Interdisciplinary Analysis, (Cheltenham: Edward Elgar, 2004), 103-128 at 103.

The 104 Council, consisting of one representative from each Member State and a representative from the European Commission, holds significant decision-making authority During its regular meetings, the Council outlines priorities and establishes a strategic direction for the activities of the OECD.

105 R Woodward, The Organisation for Economic Co-operation and Development (OECD), (New York: Routledge, 2009), p 6, 63.

107 According to Woodward, agreements and conventions account for approximately 20% of legal governance of the OECD Over 80% is composed of recommendations and decisions See: R

According to Marcussen, only 36 of the OECD's legal acts are legally binding, primarily focusing on environmental regulation, which is relatively modest compared to other law-making organizations These binding instruments must be formally transposed into national law to become enforceable in national courts.

OECD recommendations, while not legally binding, carry significant moral weight and reflect the political will of its Members, who are expected to implement them Abstaining from a vote on a recommendation does not invalidate it for other Members, who may still choose to adopt it Similarly, declarations made by OECD Members outline policy commitments but are also not legally binding; however, they are monitored by the OECD to ensure adherence.

The OECD establishes a non-binding international framework aimed at fostering sustainable economic growth, employment, and improved living standards among its Member countries while ensuring financial stability Although it lacks extensive law-making authority, the OECD serves as a vital forum for dialogue, enabling Member states to address common challenges By facilitating collaboration and promoting peer pressure and political influence, the OECD plays a crucial role in clarifying national policies and encouraging cooperative efforts among its Members.

108 M Marcussen, note Error: Reference source not found above, p 106.

The legal status of an OECD Act and the procedure for its adoption are discussed in detail in the note by N Bonucci, which can be accessed at http://www.oecd.org/dataoecd/26/29/31691605.pdf Additionally, insights from R Woodward's work, referenced on page 70, further contribute to understanding this topic.

110 N Bonucci, note Error: Reference source not found above.

The OECD serves as a vital platform for governments to compare policy experiences, address common challenges, and identify best practices It fosters cooperation in both domestic and international policies, leveraging peer pressure to encourage policy improvements Additionally, the Organisation produces internationally-agreed instruments, decisions, and recommendations essential for countries to advance in a globalized economy.

OECD: Organisation for Economic Co-operation and Development, available at http://www.oecd.org/dataoecd/15/33/34011915.pdf, p 7.

The OECD operates as a cooperative organization rather than a supranational authority, relying on its member countries to share information and insights essential for fulfilling its objectives Continuous consultations and research among members are fundamental to its functioning.

4.4.2 The OECD project against harmful tax competition

THE CODE OF CONDUCT FOR BUSINESS TAXATION: A HARD