On 11 May 2022, the European Commission published a directive proposal for a debt‑equity bias reduction allowance, also called the DEBRA proposal.
The DEBRA proposal is intended to even out the differences in tax treatment between debt and equity financing by introducing a notional deduction on growth in equity and an additional interest deduction limitation rule.
Allowance on equity
According to the DEBRA proposal, an allowance on equity shall be deductible, for ten consecutive tax years, for income tax purposes up to 30% of the relevant taxpayer's EBITDA. If the deductible allowance is greater than the relevant taxpayer's net taxable income, the excess allowance shall be carried forward without limitation in time. Allowance on equity exceeding the 30% of EBIDA limitation may be carried forward for a maximum of five tax years.
The base of the allowance on equity shall be calculated as the difference between the level of net equity at year‑end and the level of net equity at year‑end for the previous tax year. To determine the allowance on equity, the base of the allowance is then multiplied by the 10‑year risk‑free interest rate for the relevant currency and increased by a risk premium of 1% or, where the relevant taxpayer is a small‑to‑medium enterprise (SME), a risk premium of 1.5%.
Additional interest deduction limitation
The DEBRA proposal includes an additional interest deduction limitation rule. The proposed rule means that 15% of the relevant taxpayer's cost for borrowing – being interest expenses minus interest income (negative net interest) – shall be non‑deductible for income tax purposes. This limitation would be applicable before the limitation rules introduced in the EU Anti‑Tax Avoidance Directive.
The DEBRA proposal includes several anti‑abuse rules. The rules would, e.g., exclude certain increases in equity that originates from intra‑group loans or transfers of participations or of existing business activities as going concerns, or contributions in cash from a person who is tax resident in a non‑cooperative jurisdiction. However, the relevant taxpayer may be allowed deductions if it can provide sufficient evidence that the relevant transaction has been carried out for valid commercial reasons and does not lead to a double deduction of the defined allowance on equity.
If the DEBRA proposal is adopted, the EU Member States will need to implement the proposed measures into their domestic tax legislation by 31 December 2023 and apply them as of 1 January 2024.
Schjødt's tax lawyers in Sweden and Norway are following the development closely.