PricewaterhouseCoopers’ report "Taxation of emissions trading within the EU"
18 May 2006 - After nearly 17 months of trading under the EU Emissions Trading Scheme, there are still significant uncertainties and inconsistencies in relation to the tax treatment of emission, a new report by PricewaterhouseCoopers revealed. The report, "Taxation of Emissions Trading within the EU", compares the way in which EU Member States handle the taxation of emissions trading.
It found that:
- Few European countries have issued definitive guidance on the treatment of CO2 trading for tax purposes. Following the withdrawal of international guidance on accounting for emission rights in June 2005, significant divergence in the approach to both accounting and tax treatment (which in the majority of EU countries follow the accounting treatment) has arisen;
- There are also differences between countries regarding tax qualification and the tax deductibility of penalties;
- Notwithstanding the agreement on the treatment of emissions trading for VAT purposes in the EU VAT Committee, there are still detailed differences in the detailed rules between countries; and
- A number of important issues remain to be answered in relation to tax treatment of CDM and JI transactions.
According to Marco Lubbelinkhof, European Tax Leader Climate Change Services at PricewaterhouseCoopers:
“The inconsistencies and uncertainties in tax treatment will result in imperfections and inefficiencies in the market and will need to be addressed by the European Commission and by Member States. But in the meantime they present tax planning and arbitrage opportunities for companies, particularly those with operations in multiple jurisdictions”.
“For example, in Germany and France penalties are deductible, but not in the Netherlands and Poland,” said Jelle Keijmel, a specialist in the taxation of emissions trading at PricewaterhouseCoopers.
“As a result international groups of companies put their shortages of emission rights in a country with the most favourable tax regime saving on the corporate income tax levied on the penalty. The existing situation therefore offers arbitration opportunities for internationally operating organisations. To have a level playing field in emissions, these inconsistencies will need to be addressed.”
The report also finds that the way in which emission rights should be treated for tax purposes differs significantly from country to country. For example, one country may regard the rights as inventory, while in another country they are treated as either current or non-current intangible assets. This differing treatment of CO2 emission rights results in an unequal tax treatment between countries. For instance, it affects the valuation, amortisation and profit recognition of emission rights, which might in turn result in double taxation or no taxation at all.
However, this lack of harmonisation also provides opportunities for countries to distinguish themselves from other countries in emission trading. Keijmel points out that some countries apply a special tax regime. “Hungary is a particular example of this, since so-called pooling entities in this country use a scheme under which they may deduct 50% of the proceeds as costs. Furthermore, pooling entities can very well be used for compliance, monitoring and trade activities within a group of companies,” he says.
The report noted that the treatment of project-based credits created under the frameworks of Joint Implementation (JI) and the Clean Development Mechanism (CDM) also differs greatly across EU Member States. The use of these credits for compliance purposes depends on the implementation of national legislation to link the CDM and JI schemes to the EU-ETS. This legislation has been progressed further in some countries (such as the Netherlands) than in others (such as Ireland and Portugal). In these, the tax treatment has tended to be aligned with that of regular CO2 emission rights; however, since the set-up of these projects is entirely different, many unanswered questions remain regarding their VAT treatment, cost allocation and valuation.
In the Czech Republic, the tax treatment generally follows the accounting recognition of emission rights. The tax law does not provide for any specific provisions with respect to emission rights.
“As to the accounting treatment, there still may be found areas of uncertainty in the Czech Republic, for instance, fair market valuation of emissions rights and year-end shortfall recognition which influences the tax side,” said Stefan Falis, a consultant specializing in the taxation of emissions trading in the Tax and Legal Services department at PricewaterhouseCoopers, Czech Republic. “Given the overall surplus of emission rights in Czech Republic and due to an increasing amount of inter-company transactions in this area, the determination of proper transfer prices in related party transactions has become a relevant issue over this year.”
