Apple's stateless firm tax claims likely broke Irish law

The Dáil (Lower House of Irish parliament) will today debate last week's announcement of the European Commission finding that Ireland granted Apple €13bn in illegal state aid. The EC had treated Irish shell companies as being used for an artificial allocation of profits while Apple's designation of these entities as stateless with no tax residencies, appears to have been a breach of Irish law.

Besides the stateless issue, when Apple for example states that 65% of fiscal 2015 profit was foreign-sourced while also saying that most profit is generated in the US, it takes a lot of fake invoicing to move $47bn from various foreign units to the Irish shell companies — a different standard of course applies but in recent months Ireland jailed local bankers for categorising inter-bank loans as deposits.

Apple did allocate some intellectual property (IP) to the shell companies.

Both the Irish Government and Apple plan to appeal the European Commission finding to the European Court of Justice.

The state aid decision concerns rulings on profit allocation to branches granted by the Irish Revenue in 1991 and 2007 in favour of AOE (Apple Operations Europe) and ASI (Apple Sales International) — Apple Operations International (AOI) is Apple's principal overseas subsidiary and it is a parent of AOE which in turn is a parent of ASI. The 3 firms have the official status in Ireland as Irish registered non-resident (IRNR) companies. They are commonly called shell firms even though they may own a real-world branch operation.

On Tuesday the Department of Finance issued an Explanatory Memorandum on the Apple issue to members of the Dáil and Seanad.

“The tax rulings issued by Ireland endorsed an artificial internal allocation of profits within Apple Sales International and Apple Operations Europe, which has no factual or economic justification,” according to the European Commission.

Finance Act 1999 & stateless firms

According to the Department of Finance "An Irish registered non-resident (IRNR) company is one which is incorporated in Ireland under Irish company law but is not resident here for tax purposes because the company is controlled and managed abroad."

To reduce the use of IRNR companies for criminal activity, the Finance Act of 1999 included a number of measures.

Section 83 required to be delivered deliver to the Revenue Commissioners a statement in writing containing particulars of—

(ii) in the case of a company which is incorporated, but not resident, in the State— (I) the name of the territory in which the company is, by virtue of the law of that territory, resident for tax purposes.

Chartered Accountants Ireland issued the following summary:

Companies which are incorporated in the State but non-resident due to the exceptions as set out in Section 82 must provide the following information:

The country of residence;
Where they are treated as being non-resident because they are controlled by persons resident in a EU or tax treaty country and the company or a related company is carrying on a trade in the State, they must identify the name and address of the company;
Where under a Double Taxation Agreement they are not regarded as resident they must
— where the company is controlled by a quoted company, give the name and address of the registered office of the quoted company
— in any other case, give the names and addresses of the individuals who beneficially own the company

It's not clear when Apple decided that its Irish shell companies were stateless for tax purposes as its foreign tax rate was at about 12% in 2002 and it fell sharply from 2007 to 1.9% in fiscal 2012.

Apple told investigators from the US Senate's Permanent Subcommittee on Investigations that AOI since its formation in 1980, had not declared a tax residency in Ireland or any other country as "Ireland uses a management and control test to determine tax residency, while the United States determines tax residency based upon the entity’s place of formation."

While the Senate panel report of May 2013 says on being questioned if management and control of the Irish companies was in the US, staff said it: "had not determined the answer to that question."

However, the report also says:

Because AOI was set up and continues to operate without any employees, the evidence indicates that its activities are almost entirely controlled by Apple Inc. in the United States. In fact, Apple’s tax director, Phillip Bullock, told the Subcommittee that it was his opinion that AOI’s functions were managed and controlled in the United States.

In effect Apple failed to comply with Irish laws as the Irish registered companies were tax resident in the US as they were controlled and managed from there.

The Irish authorities were also negligent in not for example checking what the tax residency status of the Apple IRNR companies was when a new tax ruling was issued in 2007 and whether Apple had been compliant with the 1999 law.

It was well-known that Microsoft and Google were using Irish shell companies in Bermuda for tax avoidance and Facebook had registered Irish companies with domicile in the Cayman Islands.

However, Apple had closed down its Cayman company earlier in the decade and through the use of the Cork campus address for the shell companies, it was able to present them to other tax jurisdictions as normal onshore operations.

How Apple found a bigger tax loophole than the Double Irish

The following is an extract from the US panels May 2013 report (Exhibit 1a here)

Apple explained that, although AOI has been incorporated in Ireland since 1980, it has not declared a tax residency in Ireland or any other country and so has not paid any corporate income tax to any national government in the past 5 years. Apple has exploited a difference between Irish and U.S. tax residency rules. Ireland uses a management and control test to determine tax residency, while the United States determines tax residency based upon the entity’s place of formation. Apple explained that, although AOI is incorporated in Ireland, it is not tax resident in Ireland, because AOI is neither managed nor controlled in Ireland. Apple also maintained that, because AOI was not incorporated in the United States, AOI is not a U.S. tax resident under U.S. tax law either.

When asked whether AOI was instead managed and controlled in the United States, where the majority of its directors, assets, and records are located, Apple responded that it had not determined the answer to that question. Apple noted in a submission to the Subcommittee: “Since its inception, Apple determined that AOI was not a tax resident of Ireland. Apple made this determination based on the application of the central management and control tests under Irish law.” Further, Apple informed the Subcommittee that it does not believe that “AOI qualifies as a tax resident of any other country under the applicable local laws.”

For more than thirty years, Apple has taken the position that AOI has no tax residency, and AOI has not filed a corporate tax return in the past 5 years. Although the United States generally determines tax residency based upon the place of incorporation, a shell entity incorporated in a foreign tax jurisdiction could be disregarded for U.S. tax purposes if that entity is controlled by its parent to such a degree that the shell entity is nothing more than an instrumentality of its parent. While the IRS and the courts have shown reluctance to apply that test, disregard the corporate form, and attribute the income of one corporation to another, the facts here warrant examination.

AOI is a thirty-year old company that has operated since its inception without a physical presence or its own employees. The evidence shows that AOI is active in just two countries, Ireland and the United States. Since Apple has determined that AOI is not managed or controlled in Ireland, functionally that leaves only the United States as the locus of its management and control. In addition, its management decisions and financial activities appear to be performed almost exclusively by Apple Inc. employees located in the United States for the benefit of Apple Inc. Under those circumstances, an IRS analysis would be appropriate to determine whether AOI functions as an instrumentality of its parent and whether its income should be attributed to that U.S. parent, Apple Inc.

Apple in its 10-K filing with the US Securities and Exchange Commission last October said: "The Company’s effective tax rates for 2015, 2014 and 2013 differ from the statutory federal income tax rate of 35% due primarily to certain undistributed foreign earnings, a substantial portion of which was generated by subsidiaries organized in Ireland, for which no US taxes are provided when such earnings are intended to be indefinitely reinvested outside the US." 

The "undistributed foreign earnings, a substantial portion of which was generated by subsidiaries organized in Ireland" in the real world resulted from accounting transactions that were motivated by tax avoidance.

When Apple makes it mandatory filing of data on foreign affiliates to the US Bureau of Economic Analysis, Ireland is its most profitable overseas location — the Irish authorities say it has nothing to do with them and Apple's CEO Tim Cook says it's "political crap" for the European Commission to consider the profits as being related to Ireland!

A Finance Act in late 2013 responded to the US Senate report with a measure to prevent further abuse of the tax residency laws. 

Enda Kenny, taoiseach, interview on RTÉ Six One News on Apple, 2 Sept, 2016