A Guidance Note for Local Authorities in Scotland
Contents
1. Introduction
2. Non-Domestic Rates Relief
3. What is State aid?
4. State aid and Non-Domestic Rates Relief
5. Developments in Fiscal Aid: Regional Selectivity
Annex A
Charities and Not-for-Profit Organisations
Local Services
Hardship Relief
INTRODUCTION
State aid is a European Commission (EC) term which refers to forms of public assistance given to undertakings on a discretionary basis, with the potential to distort competition and affect trade between Member States.
The EC generally prohibits State aid but considers that certain types of aid may be considered compatible with the Treaty. The State aid rules comprise various articles of the EC Treaty, regulations, frameworks and guidelines, and these set out what aid may be allowed. The rules are designed to ensure that aid granted by Member States does not distort trade or competition throughout the EC.
Each public body, or aid administrator, is responsible for ensuring its public expenditure is State aid compliant. This includes central government, local authorities and other public bodies administering public funds. State aid rules apply to support given to organisations involved in economic activity (‘undertakings’). An undertaking does not have to be profit-making if the activity carried out is one which has commercial competitors. Public and voluntary sector organisations, such as universities and charities, could be classified as undertakings if they are involved in economic activity (see also Annex A).
NON-DOMESTIC RATES RELIEF
Non-domestic rates are levied on the basis of a national poundage rate (set annually by Scottish Ministers) multiplied by the rateable value of the property occupied. The rateable value broadly represents the yearly rent the property could have been let for on the open market on a particular date. Scottish local authorities have discretion, under certain circumstances, to grant rate relief from all or part of the amount of non-domestic rates payable in certain circumstances.
WHAT IS STATE AID ?
State aid refers to public assistance given to undertakings which has the potential to distort competition and affect trade between Member States. There are five criteria or questions which need to be considered in order to establish whether a measure constitutes State aid:
1. Is the measure granted by the State or through State resources?
As well as central government departments, this includes local authorities and other public, or private sector, bodies designated or controlled by the State. State resources include tax exemptions, as these are equivalent to the consumption of State resources in the form of fiscal expenditure.
2. Does it confer an advantage to an undertaking?
A benefit to an undertaking, granted for free or on favourable (non-commercial) terms, could be State aid. This includes the direct transfer of resources, such as grants and soft loans, and also indirect assistance – for example, relief from charges that an undertaking normally has to bear, such as a tax exemption, reduction or deferment.
3. Is it selective, favouring certain undertakings?
Aid that targets particular businesses, locations, or types of firm (e.g. SMEs or other sectors), is considered selective. A general measure affecting the whole of the Member State’s economy, e.g. a nationwide fiscal measure, is not considered a State aid.
4. Does the measure distort or have the potential to distort competition?
If aid strengthens the position of the beneficiary relative to other competitors then this criteria is likely to be met. The potential to distort competition does not have to be substantial or significant, and this criterion may apply to small amounts of aid and firms with little market share (see also Annex A). Most interventions have the potential to distort competition.
5. Is the activity tradable between Member States?
The EC interpretation of this is broad – it is sufficient that a product or service is subject to trade between Member States, even if the aid beneficiary itself does not export to the EU. Consequently most activities are viewed as tradable.
Where all five criteria are met, State aid is involved and the State aid rules apply. Where one or more of the criteria appears not to be met, then funding is unlikely to constitute State aid. We recommend that you check with the State Aid Unit where any doubt exists.
STATE AID & NON-DOMESTIC RATES RELIEF
State aid rules apply to aid measures in any form and are equally applicable to tax measures such as non-domestic rates relief. To ensure consistency and equality across the EU, guidance is provided in the Commission notice on the application of state aid rules to direct business taxation (98/C/384/03).
[1]
Tax measures open to all economic undertakings within a Member State are, in principle, general measures and not State aid. The reason for this is that general measures are open to all on an equal basis.
Expanding on this, provided the measures are applied to all firms and to the production of all goods, the following do not constitute State aid:
- tax measures of a purely technical nature (for example, setting the rate of taxation, depreciation rules and rules on loss carry-overs; provisions to prevent double taxation or tax avoidance);
- tax measures pursuing general economic objectives through a reduction of the tax burden related to certain production costs (research and development, the environment, training, employment).
Any measure intended partially or wholly to exempt firms in a particular
sector from the charges arising from the normal application of the general system where there is no justification for this exemption on the basis of the nature or general scheme of this system constitutes State aid.
[2] Therefore, where a tax measure distorts competition by favouring selected undertakings, for example, by region or by sector, then it breaches competition rules and constitutes State aid which should comply with the State aid regulations.
Tax relief reduces an undertaking’s current expenditure. The EC takes a particularly negative view of such operating aid and generally prohibits it. Operating aids are only approved in exceptional circumstances and subject to certain conditions, for example, certain types of environmental protection aid, and certain regions where it must be temporary and degressive.
The EC requires Member States to notify all State aid unless it falls under an existing approval (or within de minimis limits). Various regulations and frameworks set out the types of aid which the Commission is likely to approve. These aim to address market failures and support EU objectives and cover the following areas:
- Small and Medium Sized Enterprises;
- Training;
- Employment;
- Environmental Protection;
- Research and Development and Innovation;
- Regional Development;
- Risk Capital; and
- Rescue and Restructuring.
Proposed aid must be notified to the EC for approval before it is awarded. The Block Exemption regulations (currently covering SME, Training, Employment and Regional aid) simplify this procedure and enable aid schemes to be implemented more quickly. Failure to comply with notification requirements automatically makes the aid unlawful and recoverable.
De Minimis Aid
The EC considers that public funding to a single recipient of up to €200,000 (approximately £135,000) over a 3 year rolling fiscal period has a negligible impact on trade and competition, and does not require notification. This is known as de minimis aid and it can be given for most purposes, including operating aid. Exclusions include the fisheries and coal sectors, certain agriculture and transport activities, or undertakings in difficulty.
The de minimis ceiling applies to all public assistance given to an undertaking as de minimis funding over the previous 3 years. As such, it can be difficult to administer. Prior to awarding de minimis aid, all previous de minimis aid the recipient has received over the last three years must be determined and cumulated to ensure the proposed aid will not breach the ceiling. The onus is on the body granting aid to ensure that the limit is not exceeded. On award, the recipient should be informed that the aid is de minimis, and the value in euros (at the time of offer). It is also recommended that the following paragraph is included in the offer letter.
“Under EC regulation 1998/2006 (de minimis aid regulation), this is a de minimis aid. There is a ceiling of €200,000 (approximately £135,000) for all de minimis aid provided to any one firm over a three-year period. Any de minimis aid awarded to you under this offer letter will be relevant if you wish to apply, or have applied, for any other de minimis aid. For the purposes of the de minimis regulation, you must retain this letter for three years from the date on this letter and produce it on any request by the UK public authorities or the European Commission. (You may need to keep this letter for longer than three years for other purposes.)”
It is recommended that, given the small ceiling, de minimis is used only where there are no other options.
Why comply with State aid rules ?
As the EC generally considers State aid to be incompatible with the Common Market in goods and services, it takes a serious view of aid which contravenes the State aid rules. In recent years, increasing priority has been given to applying State aid rules more rigorously. Aid in excess of de minimis limits which has not been notified and which is not covered under an approved scheme is classed as unlawful aid.
Where aid is found to be unlawful or illegal, the Commission can insist that aid be halted and the recipient required to repay the aid, plus interest. Aggrieved competitors may also seek legal action for damages, and infringement procedures could be commenced against the Member State.
Risk Assessment
The EC has sole competence in State aid issues. It is not always clear whether a measure meets the State aid tests, or how it should be treated, and in these circumstances, a risk-based assessment should be considered. This takes into account the factors involved and the risk of implementing a measure without formal EC opinion.
A risk assessment should consider a number of factors. These include the extent to which the measure might be considered a State aid and its conformity with the State aid rules (would it be approvable?). It is also important to consider the likelihood of State aid challenge – from an aggrieved competitor or another Member State – as well as the impact of any challenge.
In respect of financial risk, recipients may have to repay illegal aid with interest, regardless of the effect on the recipient, while a complainant could seek financial compensation for damages from the aid granter. Reputation and delivery of objectives are also at high risk if a measure is later found to be incompatible and has to be repaid.
Where a risk assessment is undertaken and suggests a measure is ‘low risk’, i.e. unlikely to cause incompatible distortion of competition on trade, consultation with State aid advisers, lawyers and senior officials is recommended before any final judgement is made on whether to award aid.
DEVELOPMENTS IN FISCAL AID : REGIONAL SELECTIVITY
A main criterion the EC takes into account when considering State aid and tax measures is whether it provides, in favour of certain undertakings in the Member State, an exception to the application of the tax system. The common system applicable to the Member State is first determined. It is then examined to determine whether the exception to the system or differentiations within that system are justified ‘by the nature or general scheme’ of the tax system. That is to say, whether they derive directly from the basic or guiding principles of the tax system in the Member State concerned. Where this is not the case, then State aid is involved.
A recent European Court of Justice ruling
[3] on a tax benefit in the Azores has provided further thinking on regional selectivity and a potential framework under which there could be potential to vary rates of tax paid by business in Scotland.
The Azores Government, which has a degree of tax autonomy, reduced the rates of national company tax by 30% in comparison to Portuguese rate. This was notified to the EC for approval but a full investigation concluded that the measure constituted aid. Portugal appealed, arguing that it was justified by the nature of the tax system. Following further investigation, the Court of Justice concluded that the tax reduction had to be assessed in relation to the whole Member State – the context in which it was selective. The Court set out a number of criteria to distinguish between local jurisdictions being autonomous from central government and preferential local tax schemes derogating from central taxation. For the first time, the Court held that a sub-national body could levy taxes which deviate from those applied in rest of country provided it is:
- politically separate;
- has no central interference; and
- the shortfall is not made up by central government.
While this did not hold for the Azores in this case, the decision provides a potential framework under which it may be possible to vary certain tax rates within Scotland. This has not yet been tested with the EC, and to meet the conditions for autonomy, the differential would need to be set nationally and apply uniformly to all businesses across Scotland.
Annex A
Charities and not-for-profit organisations
State aid refers to public assistance given to an undertaking on a discretionary basis which has the potential to distort competition and trade. There is no strict definition of an ‘undertaking’ in EU law but it is generally taken to be any entity engaged in economic activity. This could encompass both private and public bodies, and it does not matter if it has a charitable status. A ‘social’ aim does not exclude a body from the State aid rules, and consideration must therefore also be given to State aid when aid is going to charities and not-for-profit organisations. A key factor is the organisation’s activities and whether they are likely to distort competition. Selling new or used goods is generally considered to be economic activity.
Whether an undertaking is a charity, a commercial business or a social enterprise – and irrespective the undertaking’s income – aid to that organisation will be a State aid if it meets the five State aid tests. In some circumstances, however, local charities or not-for-profit organisations may be deemed to be serving a purely local market (see below).
Local Services
One of the five State aid questions is whether the activity is tradable between Member States. To affect trade, goods or services need not actually be exported but need only be tradable between Member States. For this reason, this criterion is usually met. An exception is Local Services – examples of which may include single businesses such as a local garage or hairdresser – small-scale businesses serving the local community only.
There is no definitive list from the Commission of what would be considered eligible as a local service and each case must be considered on its own merits. Some small, localised, commercially insignificant activity may not be considered as likely to distort competition or trade between Member States. However, case law shows that even very small amounts of aid can affect trade. Even where there seems to be no discernible effect on competition, the Commission may take the view that aid represents a barrier to outside companies investing in an area.
Hardship Relief
Local authorities have discretion to give up to 100% relief from business rates, normally in extreme cases of hardship. As hardship relief is by definition operating aid, and as the EU generally prohibits such aid, such relief can only be given under the De Minimis regulation. Therefore, in practice, the amount of hardship relief granted to any one business must not exceed the de minimis limit (currently €200,000 over 3 years). However apparently well deserved, such relief will nevertheless constitute State aid and be unlawful if it exceeds the de minimis limit.
As with all other rates reliefs, reasonable care must be taken to ensure that the relief is State aid compliant, for example by ensuring a decision to award hardship relief does not breach the de minimis limits. In practice, as hardship relief is always discretionary and is granted on a case-by-case basis, it should be straightforward for local authorities to set up procedures to manage the risks involved by making a proper assessment of State aid issues on each individual case.
[2] Case 173/73 Italy v Commission [1974] ECR 709
[3] Portugal v European Commission C-88/03