Pillar II is a tax scheme that will be applied in the EU and OECD countries in addition to their national corporate tax systems. This was developed to make multinational enterprises (MNEs) pay a minimum 15% tax in their home country on income arising in each country they operate in. The global minimum tax applies to MNEs with consolidated revenues of more than EUR 750 million a year.
Latvia’s Ministry of Finance had finalized a draft legislation for partially implementing the Pillar II global minimum tax (GloBE) rules as per Council Directive (EU) 2022/2523 of 14 December 2022.
The partial implementation introduces certain related reporting requirements but excludes the income inclusion rule and undertaxed payment/profit rule because Latvia has decided to postpone the enforcement of these laws until 31 December 2029.
The aim of DAC6 is to ensure transparency and fairness in taxation, as well as to counter tax avoidance. Failure to comply with DAC6 could mean facing sanctions under local law in EU countries and reputational risks for businesses, individuals, and intermediaries.
Latvia has implemented Council Directive (EU) 2018/822 of 25 May 2018 amending Directive 2011/16/EU as regards mandatory automatic exchange of information in the field of taxation in relation to reportable cross-border arrangements (DAC6). The Taxes and Duties Act was amended, giving rise to the Cabinet of Ministers’ regulation concerning the Automatic Exchange of Information on Reportable Cross-Border Arrangements.
DAC6 applies to cross-border tax arrangements that are entered into by an EU taxpayer with other entities in the European Union or non-EU countries and provides for reporting of the arrangement to the tax authorities if certain hallmarks are met.
The Latvian legislation is effective from 1 July 2020, and reports retroactively cover arrangements implemented between 25 June 2018 and 1 July 2020.
It is required to file information with the national tax authority within 30 days of the first of the following dates:
- on the day after the reportable cross-border arrangement is made available for implementation
- on the day after the reportable cross-border arrangement is ready for implementation
- when the first step in the implementation of the reportable cross-border arrangement has been made, or
- (only when an intermediary is involved) when the intermediary provided aid, assistance, or advice.
Under DAC6, an arrangement is reportable if:
- the arrangement meets the definition of a cross-border arrangement, and
- the arrangement meets at least one of the hallmarks A-E specified in Annex IV of the DAC6 Directive.
The scope of taxes covered under the Latvian legislation is fully lined up with DAC6 and applies to all taxes except NSIC, VAT, customs duties, and excise duties.
Under DAC6, cross-border arrangements are defined as arrangements concerning more than one EU member state or an EU member state and a third country. The hallmarks can be distinguished as hallmarks that are subject to the main benefit test (MBT) and those that cause a reporting obligation without being subject to the MBT.
Cabinet Regulation on Latvian Mandatory Disclosure Rules provide the same definition with respect to reportable cross-border arrangements as the DAC6 Directive. In line with the Directive, the Latvian MDR legislation does not apply to domestic arrangements.
Latvia has implemented Council Directive (EU) 2021/514 (DAC7) on administrative cooperation in the field of taxation to extend the EU tax transparency rules and reporting obligations to digital platforms and platform operators. Digital platforms and platform operators are required to provide information on the income of sellers using digital platforms from 2023. These rules impose a reporting obligation on digital platforms operating within and outside the European Union.
The Latvian legislation is effective from 1 January 2023. Digital platforms and platform operators will have to file their first reports to the member states for 2023 by 31 January 2024.
To secure the enforcement of reporting rules and to ease the administrative burden on digital platforms, the reporting obligation will apply to cross-border, as well as domestic, transactions.
The DAC7 reporting obligation will cover the following activities:
- Lease of real estate, including residential and commercial property, as well as any other type of real estate and car parks.
- Individual services.
- Sales of goods.
- Any type of rental transport.
Digital platforms that only process payments, record or advertise goods/services, and redirect/forward users will be exempt from the reporting obligation. The exemption will also cover platform operators for one-off sellers of goods (up to 30 sales with annual fees of up to EUR 2,000) and for rental agreements of companies, such as hotel chains or travel organisers, that have provided more than 2,000 rental agreements through the platform in a tax period.
Implementation of base erosion and profit shifting (BEPS) provisions
Following the OECD initiative, Council Directive (EU) 2016/881 amending Directive 2011/16/EU as regards mandatory automatic exchange of information in the field of taxation was introduced on 25 May 2016. Under the directive, Latvia is a part of the mandatory automatic exchange of information (AEOI) mechanism in the field of taxation and has implemented the CbC report by adopting the Cabinet of Ministers’ Regulation No. 397 of 4 July 2017.
Latvia has transposed the OECD Common Reporting Standard (CRS) as well as Council Directive 2014/107/EU amending Directive 2011/16/EU as regards mandatory automatic exchange of information in the field of taxation, into domestic law. Latvian financial institutions covered by the CRS must report certain income and asset information on certain non-resident account holders to the Latvian tax authorities.
While drafting the new CIT Act, Latvia already transposed some of the rules of the Anti-Tax Avoidance Directives (ATAD 1 and 2) (i.e. limitations on the deductibility of interest, a general anti-abuse rule, rules to tackle hybrid mismatches).
Limitations on the deductibility of interest
The CIT Act fully transposes the interest limitation rule prescribed by ATAD. In other words, where a taxpayer’s interest expenses for the financial year exceed EUR 3 million on borrowings or finance leases from parties that are not credit institutions (financial institutions) of Latvia, the EEA, or a country that has an effective DTT with Latvia, the CIT base should include any interest charges over and above 30% of the taxpayer’s EBITDA.
A general anti-abuse rule
Under the Latvian CIT Act, flow-through dividends are not exempt from CIT where the taxpayer’s main intention, or the main reason a related party was set up or exists, or the main purpose of the transaction, was to claim a tax exemption on dividends available under the CIT Act or the PIT Act.
Rules to tackle hybrid mismatches
Provisions of the Latvian CIT Act require the taxpayer to neutralise the consequences of a hybrid mismatch by increasing the tax base. It is proposed to have a secondary adjustment as well as a primary one (a secondary adjustment will be made when the other party to the transaction, who is not an EU member state and has not adopted measures for neutralising hybrid mismatches, fails to make a primary adjustment).
In order to neutralise a double deduction, provisions of the CIT Act prescribe that if both countries involved in the transaction are EU member states, the payee has to increase the tax base by an appropriate amount deducted under the law of the payor’s country. If the other party is in a non-EU country, the EU company will have to resolve the hybrid mismatch regardless of the payor’s/payee’s status.
To neutralise a deduction without inclusion, the onus of increasing the tax base should lie with the payor if the parties are EU-registered companies. If the payor is established in a non-EU country, the EU payee will have to ensure the payment is properly included in taxable income.
Special rules govern a chain of transactions where the EU company technically does not create a hybrid mismatch, but assessing that chain leads to the conclusion that a hybrid mismatch arises in the non-EU country, i.e. the payment received and included in the tax base is offset by another payment for that transaction in the non-EU country, which creates a double deduction. The EU taxpayer should eliminate this by adding to the tax base the deduction taken in the non-EU country for offsetting the hybrid mismatch.
Provisions of the CIT Act also place the taxpayer under an obligation to increase the tax base by the income of an unrecognised foreign PE, with separate rules for transparent (hybrid) units.
A hybrid mismatch itself results in a deemed profit distribution that should be included in the tax return for the last tax period of the financial year.
Latvia has completed the adoption of the ATAD 1 provisions. New rules on the tax treatment of assets a taxpayer moves abroad free of charge have been included in the CIT Act. The tax base is to exclude any assets a taxpayer moves to a foreign country free of charge and makes them available for a period of up to 12 months:
- for financing securities
- as collateral
- to meet capital adequacy (so-called 'prudential capital') requirements, or
- for liquidity management.
EU state aid investigations
Latvian law provides the necessary references to EC Regulation No. 651/2014, which ensures that the EU funding intensity complies with EU rules for state aid. Currently, there are no investigations on the part of the European Commission with regard to Latvian tax law.
Double tax treaties (DTTs) and intergovernmental agreements (IGAs)
Latvia has effective DTTs with 63 countries and continues developing its tax treaty network. Latvia has signed the OECD's Multilateral Convention on Mutual Administrative Assistance in Tax Matters.
Latvia has also signed an IGA with the United States (US) government to implement the tax reporting and withholding procedures associated with the Foreign Account Tax Compliance Act (FATCA). On 2 April 2014, the US Treasury announced that the IGA was ‘in effect’ and, on 27 June 2014, the US Treasury and Latvia signed and released the IGA.