EU Commission: draft Directive on tax incentive to reduce debt-equity bias
Source : BSP
1 juin, 2022 par
vanessa Icardi Serrami

On 11 May 2022, the European Commission (hereafter the “Commission”) published a proposal to create a level playing field for debt and equity from a tax perspective. The Commission proposes to introduce a debt-equity bias reduction allowance (hereafter “DEBRA”) and a further limitation of the tax deductibility of exceeding borrowing costs. 


As a reminder, a company can finance itself with debt or equity and the majority of EU countries give a more advantageous tax treatment to debt than to equity by allowing companies to deduct interest payments from their tax base and by applying lower withholding taxes on interest payments than on dividend payments. Thus, the current tax regime of most countries, by favouring debt, encourages companies to borrow and be highly leveraged. The Commission’s objective is to end or at least significantly reduce the difference between debt and equity financing within the European Union all under the banner of the European corporate tax strategy to achieve a fair and efficient taxation system in the European Union. 

For this purpose, the Commission’s draft directive (hereafter the “DEBRA Directive”) shall apply to all taxpayers subject to corporate income tax in a Member State as well as to permanent establishments located in the EU of entities with tax residence in a third country. Nonetheless, financial institutions shall be excluded from the scope of application of the DEBRA Directive. 

Key features 

With a view to align debt and equity, the Commission proposes to grant a tax deduction for increases in equity financing. The Commission aims to achieve that, as a result of the proposed changes, business financing will no longer be influenced by tax considerations but be based on commercial considerations only. Companies will therefore be able to choose the type of financing they need for their business. 

The equity allowance should determined as follows: 

DEBRA = Allowance Base x Notional Interest Rate

The allowance base shall be computed as the difference between the level of net equity at the end of the tax year and the net equity at the end of the previous tax year, thus encompassing the sum of equity increases over a specific year, but excluding increases in the tax value of the taxpayer’s participation in the capital of associated enterprises and its own shares. The notional interest rate shall be the 10-year risk-free interest rate for the relevant currency, and increased by a risk premium of 1% or, in the case of SMEs, a risk premium of 1,5%. 

The equity allowance is intended to be deductible for 10 consecutive tax years, as long as the allowance does not exceed 30% of the taxpayer’s taxable income. Secondly, if this allowance exceeds the taxpayer’s net taxable income, then the excess amount of the allowance shall be carried forward without time limitation. In addition, the taxpayer will be able to carry forward for a maximum of five tax years, the part of the allowance that exceeds 30% of the EBITDA. 

If after having obtained an allowance on equity, the base of the allowance, i.e. the net equity variation, is negative (e.g. due to a capital reduction), an amount equal to the negative allowance should become taxable for 10 consecutive years, up to the overall increase of the net equity for which such allowance has been obtained, unless the taxpayer provides sufficient evidence that this is due to accounting losses incurred during the year or due to a legal obligation to reduce capital.

Furthermore, the Directive introduces anti-abuse rules, according to which the base of the allowance on equity does not include amounts of any increase which is the result of granting loans to between affiliated undertaking, a transfer of shares or business activities, or contributions of cash from a resident in a jurisdiction that does not exchange information, unless valid commercial reasons exist. The aim being to avoid a double deduction of the allowance on equity. Additional anti-abuse rules are foreseen in case the equity increase derives from contributions in kind or investments in assets.

Finally, the proposal intends to introduce a further restriction on the deductibility of excess borrowing costs (as defined under the directive 2016/1164 of 12 July 2016, hereafter the “ATAD Directive”), by limiting the deductibility of excess borrowing costs up to an amount corresponding to 85% of such costs. In case said amount would end up being higher than the amount determined under the ATAD Directive (e.g. by application of the EUR 3,000,000 threshold) the lowest amount would apply.

Member States will be required to communicate to the Commission, within 3 months as of the end of each tax year a certain amount of information, such as for example the number of taxpayers who have benefited from the measure, the total amount of exceeding borrowing costs, the total amount of non-deductible exceeding borrowing costs, the number of taxpayers to which the anti-abuse measures have been applied and the evolution in the Member State of the debt/equity ratio of its taxpayers. 


The current proposal would allow equity increases to generate a tax deductible DEBRA, thus reducing the debt bias from a tax perspective, as long as said increases are not used to invest in the equity of related parties or have been derived from intra-group loans, so as to avoid the double counting of tax deductible DEBRA within the European Union. 

The notional interest rate to be applied on the equity increases is expected to amount to the 10-year risk-free interest rate for the relevant currency, increased by a risk premium of 1% or, in the case of SMEs, a risk premium of 1,5%. 

If the DEBRA Directive is voted in its current form, Member States will have to transpose the DEBRA Directive before 31 December 2023, for entry into force in domestic legislation from 1 January 2024.