VZCZCXRO8492
RR RUEHLA
DE RUEHMD #0794/01 2220812
ZNR UUUUU ZZH
R 100812Z AUG 09
FM AMEMBASSY MADRID
TO RUEHC/SECSTATE WASHDC 1060
RUEATRS/DEPT OF TREASURY WASHDC
INFO RUCPDOC/USDOC WASHDC
RUEHLA/AMCONSUL BARCELONA 4077

UNCLAS SECTION 01 OF 03 MADRID 000794 
 
SENSITIVE 
SIPDIS 
 
STATE FOR EUR/WE, EEB/IDF/OFD, AND EEB/CBA 
TREASURY FOR OIA: T. O'KEEFE AND OTP: J. HARRINGTON 
COMMERCE FOR 4212/D.CALVERT 
 
E.O. 12958: N/A 
TAGS: EINV EFIN ECON PGOV PREL SP
SUBJECT: GUIDANCE REQUEST ON TAX INTERPRETATION ISSUE AFFECTING 
FOREIGN MULTINATIONAL COMPANIES 
 
SENSITIVE BUT UNCLASSIFIED - PLEASE PROTECT ACCORDINGLY 
 
¶1. (U) This is an action request.  Please see paras 2 and 13. 
 
¶2. (SBU) Summary and action requests: Post has received requests for 
assistance in regard to what appears to be a change in GOS 
interpretation of tax incentives for foreign-owned multinational 
holding companies based in Spain.  Such holding companies have been 
deducting interest on loans taken out for foreign acquisitions, but 
in recent years the Spanish tax authority has been disallowing many 
deductions on the grounds of "abuse of law" constituting alleged tax 
avoidance.  A number of U.S. companies have undergone lengthy tax 
inspections leading to hefty assessments which they are now 
challenging in administrative courts.  Businesses say they face 
significant contingent liabilities and a climate of ambiguity and 
uncertainty.  At least one firm argues that the practice 
discriminates against foreign companies (others disagree) and 
conflicts with the U.S.-Spain double taxation treaty.  Post requests 
guidance in responding to the requests for assistance and to the 
argument that GOS practice conflicts with the double taxation 
treaty.  End Summary and action requests. 
 
Requests for Help 
----------------- 
 
¶3. (SBU) Post was approached earlier this year by the American 
Business Council (ABC) and AmCham Spain concerning the Spanish 
government's tax treatment of foreign-owned multinational holding 
companies based in Spain(Companies Holding Foreign Assets, or 
Entidades de Tenencia de Valores Extranjeros, ETVEs).  This issue 
was prominent in the press a few years ago and was raised then by 
the AmCham, but we are not aware that post or the USG ever decided 
to take any action at that time.  We have met with several companies 
to gain a better understanding of the issue before seeking 
guidance. 
 
Incentives Enacted... 
--------------------- 
 
¶4. In the late 1990s, in an effort to attract foreign-owned 
multinationals to establish holding companies in Spain, the Spanish 
Congress passed a series of measures that created a very friendly 
regime for such companies.  Holding companies based in Spain could 
deduct the interest on loans taken out to purchase companies (or 
shares in companies) outside of Spain, and dividends and capital 
gains of such foreign subsidiaries were exempted from Spanish taxes. 
 A holding company in Spain could write loan interest on foreign 
acquisitions off against income on its operations in Spain, 
resulting in significant tax advantages.  These provisions were 
deemed possible in part because Spain has double taxation treaties 
with the U.S. and most European countries.  In response to the new 
rules, a number of U.S. companies, as well as numerous European 
companies, set up holding companies in Spain to consolidate their 
foreign operations.  According to one source, the ETVEs regime 
enabled Spain to attract more than 100 billion euros in foreign 
capital between 2000 and 2005. 
 
GOS Disallows Firms' Use of Incentives 
-------------------------------------- 
¶5. (SBU) However, beginning in about 2006, the Spanish Ministry of 
Economy and Finance and its tax authority, the State Agency for Tax 
Administration (AEAT), began questioning the tax returns of 
foreign-based multinationals.  Not long thereafter, AEAT's 
Inspections division initiated a series of lengthy tax inspections 
which resulted in hefty assessments for a number of companies.  Many 
foreign multinationals saw their books inspected for the period 
2004-6 and many of their deductions disallowed, resulting in large 
tax bills.  The companies also anticipate more inspections for more 
recent years.  The tax authorities claim that many foreign-based 
holding companies were conducting financial activity purely within 
the same group that did not show any underlying economic rationale 
or real business purpose and thus constituted an "abuse of the law," 
an action that, while technically consistent with the letter of the 
law, was contrary to its spirit or philosophy. 
 
¶6. (SBU) Business representatives and some private tax experts argue 
that while there may have been some instances where holding 
companies in Spain conducted transactions within the same group for 
the purpose of tax avoidance, tax authorities are disallowing 
deductions on all such internal operations regardless of whether 
there may be a legitimate business reason for them.  There may be as 
many as 300 foreign-based multinationals that have conducted the 
sort of financial operations for which deductions are now being 
disallowed, in part because some professional business and tax 
consultants were advising prospective investors of the tax 
 
MADRID 00000794  002 OF 003 
 
 
advantages of conducting operations from a Spanish-based holding 
company, and many companies followed their advice.  It also bears 
repeating that the Spanish government's purpose in enacting the 
legislation was precisely to attract foreign-owned multinationals to 
set up shop in Spain. 
 
¶7. (SBU) In assessing unpaid taxes, authorities have refused to 
negotiate or discuss settlement, considering it a matter of 
principle to collect in full.  A number of foreign-owned 
multinationals, estimated at 25-30 so far (though there may be 
more), have been found to owe back taxes.  In addition to 
significant contingent liabilities, such companies are required to 
post bond while appealing the tax agency's assessment.  They also, 
uncomfortably, find themselves in an adversarial relationship with 
the tax authorities.  Affected companies have appealed to the 
Central Economic Administrative Tribunals (Tribunal Economico 
Administrativo Central - TEAC); most cases are still pending, though 
one or two have been decided in favor of the government.  Since the 
TEACs are part of the Ministry of Economy and Finance, companies 
expect that they will rule for the government in most cases. 
Companies that lose in the TEAC have the option of appealing to the 
independent judiciary, specifically the National Court (Audiencia 
Nacional).  There is at least one case - involving a Swiss, not a 
U.S., company - that lost in the TEAC and has appealed to the 
Audiencia Nacional, but the process is very lengthy and could take 
3-4 years.  A party that loses in the Audiencia Nacional has the 
option of appealing to the Supreme Court, an even lengthier process. 
 Among the U.S. companies affected are Pepsico, Exxon Mobil, 
Chevron, GE, HP, and General Mills. 
 
Criticism from Business Groups 
------------------------------ 
¶8. (SBU) Groups representing foreign investors have criticized the 
Ministry and the tax authority for their actions.  These investors 
assert that if the government does not like the consequences of the 
law as written (e.g., loss of significant tax revenues), it should 
change the law rather than engaging in dubious and expansive 
interpretations.  They point out that other EU countries have 
legislated to eliminate tax loopholes and benefits that are 
determined to be too generous to business, but Spain has not. 
 
¶9. (SBU) The National Foreign Trade Council, a Washington-based 
association of some 300 U.S. business enterprises engaged in all 
aspects of international trade and investment, sent a letter in June 
2008 to the Secretary of State (Vice Minister equivalent) for 
Finance, Carlos Ocana, outlining the problem and urging the 
government either to abide by the law's provisions as written or to 
amend the law.  However, experts believe the GOS is reluctant to 
amend the law because a) this would be seen as an admission that the 
holding companies were in compliance and that it was the government 
that was misinterpreting the law; and b) any new law would not be 
retroactive and the government might thus have to "grandfather" in 
companies that set up holdings based on the current law. 
 
¶10. (SBU) Based on the inspections that have taken place, 
foreign-owned multinationals are now on notice that the government 
will not allow write-offs for a range of activity conducted within a 
group, despite the language of the law.  In addition, word has now 
spread among the foreign investor community to avoid setting up 
holding companies in Spain because of this issue.  Foreign holding 
company investment has declined sharply in recent years.  However, 
numerous companies, including the U.S. companies mentioned above, 
have several years' worth of disallowed deductions resulting in 
large and unexpected tax bills, and there will be more of the same 
as authorities continue to conduct tax inspections applying the same 
criteria. 
 
Swiss Leading the Charge 
------------------------ 
¶11. (SBU) The law firm of Baker & McKenzie (incorporated in 
Switzerland), which advises several U.S. companies, has been the 
most aggressive advocate on this issue.  The Swiss Embassy has also 
been active, as several of the most seriously affected companies are 
Swiss-owned, and has encouraged post to weigh in with the GOS. 
Other Embassies have not played a prominent role, though 
multinationals from a several European countries are affected. 
 
¶12. (SBU) When a Baker & McKenzie attorney raised the issue with 
State Secretary for Finance Ocana at an ABC-hosted breakfast, Ocana 
replied that the law is clear enough and does not need modification. 
 In addition to the assertions of ambiguity, uncertainty, and 
unfounded interpretation, Baker & McKenzie argues that the 
government's approach also discriminates against foreign companies 
in that few if any Spanish (as opposed to foreign-based) holding 
companies have been inspected and any that have, have not had their 
 
MADRID 00000794  003 OF 003 
 
 
deductions disallowed.  They assert further that such discriminatory 
practice conflicts with Spain's obligations under the U.S.-Spain 
Double Taxation Treaty, and suggest that one possible solution would 
be for the USG to invoke the Mutual Agreement Procedure found in 
Article 26 of that Treaty and request government-to-government 
negotiations.  Other tax experts state that the impact of the 
government's interpretation of the law falls on foreign-owned(but 
not Spanish) holding companies because Spanish holding companies are 
structured differently and do not engage in the kind of operations 
within the group that the tax authorities are disallowing.   Under 
this theory, the effect, but not necessarily the intention, of the 
Spanish government's action would be considered disadvantageous to 
foreign-based multinationals. 
 
¶13. (SBU) Post requests guidance in responding to the requests for 
assistance and to the argument that GOS practice conflicts with the 
double taxation treaty. 
 
DUNCAN