Greece struggles to blunt tax impact of Europe's 'Delaware' effect

Locals and tourist walk through the grounds of the National Palace of Culture on January 31, 2016 in Sofia, Bulgaria.
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Locals and tourist walk through the grounds of the National Palace of Culture on January 31, 2016 in Sofia, Bulgaria.

Already at the heart of one migration crisis, Greece is struggling with another that has gone largely unnoticed, but may create new headaches for the country's battered economy.

Debt troubles and the resulting political and economic turmoil has prompted a growing number of Greek companies to migrate operations to neighboring countries such as Bulgaria and Cyprus, where taxes are a fraction of what they are in Greece. The shift has exacerbated what was already a common occurrence in the Hellenic Republic: Tax evasion, which government officials estimate costs the economy $20 billion in annual revenue.

Thanks to an attractive tax regime, Bulgaria has emerged as the European Union's very own version of America's Delaware, a haven for companies looking to play tax arbitrage. With a corporate tax rate of 10 percent, low incorporation costs and a glide path for foreign companies to set up shop, scores of Greek companies are seeking shelter in Bulgaria. The country's tax rate is even more generous than the 12.5 percent seen in Ireland — also a draw for multinational corporations looking to elude the grasp of the tax man.

According to Bulgaria's Registry Agency, almost 14,400 Greek companies registered there by the end of 2014. Provisional data also shows that an additional 4,500 Greek-owned companies were founded in Bulgaria in 2015 — a stunning average rate of 12 companies a day.

Bulgarian Chamber of Commerce director Gabriela Dimitrova told CNBC that Greece currently tops the list of the countries with foreign companies registered in Bulgaria, with those numbers "constantly growing."

Read MoreWhy 2016 could bring a new Greek crisis

Greece's tax avoidance problem

For the Hellenic Republic, at least part of its problem appears to be efforts to comply with the terms of its financial bailout. International creditors have demanded Greece end widespread tax avoidance.

A European Commission source told CNBC that officials are working with Greece to ensure corporate taxation that is effective, limits uncertainty, and contains no distortions. At the same time, technical assistance is being provided to address the issue of income shifting across borders, the source added.

Nikos Siakantaris, a managing partner at Greek tax firm UnityFour Private Consulting House, explained that Greek business migration to Bulgaria initially started in the last decade. At first, factories from Northern Greece moved there to take advantage of the reduced labor cost.

Later, however, business migration transformed into full fledged tax flight, which has accelerated in the past couple years due to Greece's economic crisis. Capital controls imposed in 2015 accelerated the effect of companies seeking shelter, Siakantaris added.

"It is noticeable that we are receiving numerous daily requests from either individuals or legal entities that wish to relocate for tax purposes to countries with lower tax rates, compared to the Greek ones," Siakantaris said. This flight of Greek companies to Bulgaria is possible thanks to the European Union's (EU) free movement of capital and labor, which many companies exploit to seek lower tax rates.

According to European and Greek legislation, EU companies must pay tax on their profits within the EU, where the activity takes place.

Yet many Greek-owned, Bulgarian based companies appear to issue invoices directly in Bulgaria for services provided in Greece. This sleight of hand allows these entities to pay the more favorable Bulgarian rate, but represents an obvious drain on tax revenue in Greece — where corporate tax rates are currently at 29 percent.

The practice of cross border tax arbitrage comes in many variations, and is a source of concern for European tax authorities. Last year, Greece proposed a 26 percent withholding tax on Greek transactions that come from havens like Bulgaria and Ireland, raising the ire of Bulgarians.

George Pitsilis, Greece's secretary general of public revenue (the republic's version of the IRS) told CNBC recently that tax authorities are growing more vigilant about shelter-seeking corporations.

"We have already planned a communication campaign to inform taxpayers about schemes and vehicles used for tax evasion and tax avoidance, with a view to enhance voluntary compliance and prevent the use of such structures," Pitsilis said. "Our next goal is to identify the artificial arrangements which create certain taxpayers, exploited abusively freedoms conferred by EU law and move to the implementation of already existing tax provisions precisely to address such abuses," he added.

In an effort to deter tax competition between EU member states, the European Commission urges countries to share tax-related information with one another. The initiative, called Country by Country reporting (CbCR), aims to allow authorities to spot tax avoidance schemes and better target audits.

Information sharing helps to avoid instances where some Greek companies receive tax benefits from Greece even as they are incorporated in another EU economy.

"In practice, Greece is refunding VAT [value added taxes] to Greeks who appear to be registered in Bulgaria. This is called tax cannibalism," UnityFour's Siakantaris told CNBC.