One of the most fundamental proposals made by the OECD was that a company's tax deduction for interest expenses should be limited to 30% of earnings before interest, taxes, depreciation, and amortisation (EBITDA). It is important to note that the starting profit figure for this limit is not accounting profits, but is the taxable profits in the relevant jurisdiction. It therefore excludes, for example, foreign dividend income that is not taxable in the UK due to the dividend exemption.

This proposal is intended to correct the current tax bias that favours debt over equity, but would have a dramatic effect on UK businesses, which generally have capital structures that have developed on the assumption that interest costs are tax deductible. HM Revenue & Customs (HMRC) has already consulted on the BEPS interest deductibility proposal, acknowledging that this change would have a significant effect on UK businesses, but the results of this consultation have not yet been published (www.practicallaw.com/2-620-4537).

The draft directive adopts the BEPS proposal, including the BEPS proposed alternative approach, where the funding restriction for a member of a group of companies would look at the group's equity to debt ratio rule, rather than the company's EBITDA, but does not currently include the BEPS proposed public benefit project exclusion.

Many member states, including Germany, Italy and Spain, already have an equivalent rule in place, and so are unlikely to be affected materially by this aspect of the draft directive. It should be noted, however, that this proposal does not affect only tax avoidance situations, and the German Supreme Court, for example, has raised doubts as to whether these types of restrictions are constitutional.

The draft directive would require member states to tax a company on the undistributed profits of its unlisted subsidiaries where certain conditions are met. A controlled foreign company (CFC) apportionment to the parent of the subsidiary's profits would be required where more than 50% of the income of a subsidiary arises from a variety of areas (including not only interest and royalties, but also dividends and intra-group services) and the subsidiary pays actual tax which is less than 40% of the tax it would have paid had it been subject to tax in the parent company's jurisdiction.

This could represent a significant backward step for the UK's CFC rules (for background see Briefing "New CFC proposals: enhancing UK tax competitiveness?"). For example, the UK's current partial exemption for group finance companies would seem to be contrary to the draft directive, as least to the extent that the finance company is based outside the EU.

The draft directive does, however, include an attempt to define how CFC rules should operate within the EU; something with which HMRC struggled when it reformed the UK's CFC regime. The draft directive suggests that CFC rules should apply to a subsidiary in another member state only if either the establishment of the subsidiary is wholly artificial or the subsidiary engages in "non-genuine arrangements which have been put in place for the essential purpose of obtaining a tax advantage". If this is an accurate articulation of the EU requirements, it is likely that many EU-resident subsidiaries that currently are thought to fall within the scope of the UK's CFC rules might actually fall on the right side of the line.

The switch over proposal in the draft directive is not a BEPS recommendation but derives from the EU proposal for a common consolidated corporate tax base; something that remains unpopular with the UK. The switch over proposal would limit the application of the UK's dividend exemption and substantial shareholding exemption from capital gains tax where the headline rate of tax applicable to the relevant non-UK subsidiary is less than 40% of the UK corporation tax rate. The UK's low corporation tax rate should in practice, limit the effect of this provision to tax havens.

The UK introduced a general anti-abuse rule (GAAR) in 2013, but it was carefully drafted with a double reasonableness test that was intended to limit its scope to egregious behaviour, and not capture all tax planning (see feature article "General anti-abuse rule: casting a wider net"). The draft directive would seem to require the UK to enact a broader GAAR, which would apply to any non-genuine arrangements carried out for the essential purpose of obtaining a tax advantage. Where the GAAR applies, the draft directive would require tax to be calculated by reference to the economic substance of the arrangements.

The draft directive requires member states to impose an exit tax when assets leave a member state for tax purposes, with the tax being calculated on the basis of the market value of the asset. Where the asset is transferred to another EEA country, the taxpayer is entitled to defer the payment of the tax over at least five years.

Broadly speaking, the UK already has this regime in place, although one benefit of the draft directive's approach is that, when assets are transferred into the UK, the UK would be required to allocate a market value base cost for tax purposes.

It is in some ways unfortunate that the Commission seems to be determined to be seen as a leader, rather than a follower, on BEPS, which could result in a hurried implementation of the BEPS proposals in a way that, in some instances, is at odds with the OECD's recommendations. As the draft directive requires the unanimous agreement of all 28 member states, it is far from being a done deal.

Having said that, there appears to be some enthusiasm within the EU for the draft directive to be pushed through on a rapid timetable, and it may not be easy in the current political climate for any member state to express itself to be against a proposal that purports to tackle tax avoidance.