Proposed EU Commission directive to “unshell” shell entities

On 22 December 2021, the European Commission published a proposal for a directive to prevent the misuse of shell entities for tax purposes, described as “unshell directive” or also referred to as ATAD III.

The draft Directive aims to identify and penalise entities that do not maintain sufficient substance within the EU.

Additional reporting requirements would be imposed on entities that did not meet the substance requirements, and such entities would also be denied the benefits of double tax treaties relief and EU tax directives (such as EU Interest and Royalty Directive and the EU Parent-Subsidiary Directive).  

The draft Directive is likely to increase communication between the Member States through automatic exchange of information on all entities within scope, regardless of whether they are shell entities are not. 

Identification of shell entities within the scope

Entities will be identified by the use of three “gateway” tests. If an entity “passes through” all the gateways, it will be brought within the scope of the Directive and subject to additional reporting requirements. The gateway tests are as follows:

  1. More than 75% of the entity’s revenue is from “relevant income”. Broadly, “relevant income” refers to “passive” income sources, for examples dividends, interest and royalties. The definition also includes income from services that were outsourced by the entity to associated entities.
  2. The entity is engaged in cross-border activity such that:
    • More than 60% of the book value of the entity’s assets was located outside the member state of the entity; or
    • At least 60% of the entity’s income is earned or paid out of cross-border transactions.
  3. The entity has outsourced the administration of its day-to-day operations and decision making on significant functions.

It should be noted that the above tests are applied for the two proceeding years. If the Directive comes into force in 2024, this would result in 2022, and 2023 is considered for the purpose of the tests.

Excluded entities

Certain entities are excluded by derogation from the above gateway tests. These include:

  • Companies that have transferable security admitted to trading or listed on a regulated EU market or multilateral trading facility.
  • Regulated financial undertakings.
  • Entities that hold shares in operational businesses where they are resident in the same Member State as the operational business and their beneficial owners.
  • Entities with at least five full-time employees who exclusively carry out income-generating activities.
  • Entities that qualify as securitisation special purpose entities.

Additional reporting requirements

Entities that meet the above gateway tests will be required to report via their tax returns on whether they meet certain minimum substance requirements.

Entities that have passed the gateway tests and do not meet the substance requirements will be presumed to be shell entities for the purposes of the directive.

The draft Directive allows the presumption of lack of substance to be rebutted by entities under certain circumstances. This would require the entity to demonstrate that it either:

  • does have substance in the Member State of claimed residence; or
  • is not being used to obtain a tax advantage.

Tax consequences for shell entities

The tax consequences for an entity of being deemed a shell entity include the following:

  • The Member State in which the shell entity claims tax residence will either not issue a tax resident certificate or will issue a tax resident certificate which includes a warning.
  • Advantages conferred by double taxation agreements and EU Directives could be disallowed by the other EU Member States.
  • The allocation of taxing rights to the other Member States.
  • If the shell’s shareholders are not resident in the EU, Member States will withhold tax on payments to the shell entity.
  • The imposition of penalties if the shell entity does not meet the relevant reporting obligations. The Directive broadly leaves the penalties at the discretion of the individual Member States but proposes a penalty of at least 5% of the shell entity’s turnover.

Exchange of Information on shell entities

The Directive proposes an automatic exchange of information between the Member States on any entities in the scope of the Unshell Directive, regardless of whether these are shell entities or not.

Additionally, a Member State would also be able to request the Member State of the entity to conduct an audit of that entity and communicate the outcome to the former Member State in a reasonable time frame.

Next steps for the Proposed Directive

The Directive must be adopted unanimously by all Member States before being transposed into domestic legislation.

If the draft Directive is adopted by the Member States, the Commission proposes that Member States transpose the Directive into their national laws by 30 June 2023 for the Directive to apply from 1 January 2024.

If you have any questions in relation to the above, or if you would like to discuss this topic further, please contact a member of the Mazars corporate tax team below:

Staff Member




Cormac Kelleher

Tax Partner

01 449 4456

Aisling Curran

Corporate Tax Director

01 449 6319

February 2022

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