DEBRA: When Unstoppable Aspirations for Debt-Equity Parity Meet Immovable Tax Systems - Intertax View DEBRA: When Unstoppable Aspirations for Debt-Equity Parity Meet Immovable Tax Systems by - Intertax DEBRA: When Unstoppable Aspirations for Debt-Equity Parity Meet Immovable Tax Systems 53 2

Achieving debt-equity parity in corporate taxation has long been a sought-after holy grail in the quest for capital structure neutrality; however, the latter does not always align with the former. The United States devoted significant thought on how to reach both, especially in the 1990s, but eventually did not achieve either with its tax reforms at the dawn of the twenty-first century.

Now, it is Europe’s turn to try. This is what the European Commission aims to accomplish with its Directive Proposal for a Debt Equity Bias Reduction Allowance (DEBRA). It would introduce a notional interest deduction on increases in a firm’s equity and a dual-limiting rule that would cap deductible interest at 85% of exceeding borrowing costs (interest paid minus interest received) in addition to interest deductibility already being restricted to 30% of a firm’s earnings before interest, taxes, depreciation, and amortization (EBITDA).

This article shows that DEBRA fails to achieve capital structure neutrality and does not ensure debt-equity parity. It skews the tax treatment of debt without promoting greater diversification in the portfolio choice of financing sources for corporate Europe as European companies remain heavily reliant on bank lending compared to their American counterparts.

 Last, the article suggests that the risk of debt-financing outsourcing as a potential consequence of DEBRA could inadvertently impact direct investments between Europe and some of its main trading partners, including the United States and the United Kingdom. This process is already underway in America with more anti-abuse provisions emerging in its tax treaties and federal tax regulations for the cross-border payment of interest and dividends

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