The deductibility of interest expenses has been limited since 2014, but only in relation to related party debt. Currently, interest expense is always deductible up to the amount of interest income. Further, interest expense exceeding interest income (“net interest expense”) is deductible provided that the amount does not exceed EUR 500,000. If the said EUR 500,000 threshold is exceeded, Finland applies a fixed ratio rule limiting a Finnish company’s tax deductions for net interest expenses on related party debt to 25% of its EBITD (as adjusted for tax purposes). For calculation purposes, however, both related party and third party debt are taken into account and in case the net interest expenses exceed EUR 500,000 even with 1 EUR, the entire amount is subject to the fixed ratio rule. The rules apply on a company-by-company basis, although, for example, amounts of group contributions are added back or deducted, as applicable, from the EBITD figure. Further, the restrictions on interest deductibility are not applied if the borrower company’s equity ratio (equity vs total balance) is equal to or higher than the same ratio calculated on the basis of a consolidated group balance sheet of the ultimate parent (the “balance sheet test”). In addition, certain industry sectors, such as banking, insurance and most real estate businesses, are currently also excluded from the application of the rules.
In response to the Anti-Tax Avoidance Directive (ATAD I) compiling the BEPS issues identified in the BEPS project, the Finnish government issued last Thursday (27 September) a government bill (HE 150/2018) introducing new restrictions on the tax deductibility of interest expenses that are more consistent with the OECD recommendations. Under the government bill, the fixed ratio rule of 25% will remain, but the limitations will be extended to cover also third party debt. Similarly, the EUR 500,000 de minimis rule on related party debt will remain, but companies will, additionally, be faced with a net interest expense threshold of EUR 3,000,000 on third party debt. However, for calculation purposes, net interest expenses on third party debt are always deducted first and net interest expenses on related party debt may be deducted only to the extent that they are within the 25% fixed ratio rule, in circumstances where the total amount of net interest expenses exceed the EUR 500,000 threshold.
Contrary to the draft government bill issued in January 2018, this final government bill, however, upholds the exclusion of the banking and insurance sector from the scope of the rules. Also certain public infrastructure projects are proposed to be excluded from the scope of the restriction, but the extent of the excluded infrastructure projects is still under consideration. Apart from the foregoing exclusions, all businesses are effectively proposed to come within the scope of the new rules, although purely independent companies (non-group companies) will still be left out. Also the balance sheet test is proposed to remain, contrary to the earlier draft government bill. However, the final government bill provides that the balance sheets being compared should be prepared in accordance with the same accounting principles, or, alternatively, that the consolidated balance sheet at the group level should be converted to the taxpayer’s corresponding accounting principles in order for the test to apply.
Clearly, the EUR 3,000,000 de minimis rule on third party debt will target large businesses where the majority of the BEPS issues lie, which to some extent will minimise the impact on smaller companies. For real estate companies, the proposed new rules may have a particular impact on the cost of capital as they tend to be more highly leveraged in Finland compared with many other businesses. This could potentially affect their investment decisions and make some marginal investments uneconomic. Further, in the real estate business, EBITD is often also an ineffective way to measure debt leverage as a number of Finnish real estate companies have a fairly low EBITD due to their structure. Also, as real estate companies are currently not in a position to use the Finnish group contribution regime (which is an issue that is not addressed in the government bill), the impact on real estate companies could potentially be more severe compared to others, unless the group contribution rules are amended. Therefore, specific attention should be paid to real estate investment structures to comply with the new rules.
It should also be noted that the government bill includes a definition of interest that would be broaden its content when compared to the past. Interests would include also expenses related to the acquisition of debt financing, such as guarantee, withdrawal and credit fees as well as expenses related to amendment of financing terms and conditions. However, the government bill clearly determines that a so-called maintenance charge paid by shareholders of mutual real estate companies (and housing companies) should not be viewed as interest even though a part of the maintenance charge would, in itself, cover interest and other financing expenses of the mutual real estate company. This position is extremely important for the real estate sector, as a view to the contrary would have put the real estate sector under pressure to restructure and would have been in contradiction with the ultimate purpose of mutual real estate companies.
Finally, under the grandfathering rule, interest expenses on third party loans concluded before 17 June 2016 are outside the scope of the application. This exemption would, however, not apply to the extent that the terms and conditions of such loans are subsequently amended, which obviously can raise concerns of interpretation in the future.
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