GOOG Alphabet Inc

Alphabet unit says it is cooperating and complies fully with the country's laws

By Sam Schechner 

PARIS -- Dozens of tax investigators swooped into Google's French headquarters on Tuesday in a surprise raid, escalating a tax dispute in which French authorities have sought more than EUR1 billion ($1.12 billion) from the search firm.

France's tax prosecutor said the raid is part of a newly disclosed probe, opened in June 2015, into aggravated tax evasion by the company, now a part of Alphabet Inc. That probe stems from a complaint from France's tax authority, which has since at least 2011 been investigating Google and demanded more than EUR1 billion in back taxes and fines, according to people familiar with the matter.

Google's office in central Paris, set up in a period mansion, was sealed off tightly on Tuesday. The large wooden doors that open onto its courtyard were closed and an outside consultant for Google said she was unable to get in for a meeting because of the continuing raid.

"We are cooperating with the authorities to answer their questions, a Google spokesman said. "We comply fully with French law."

The raid is a new signal that Google's and other tech companies' long-simmering tax disputes in Europe are starting to boil. The French case is among biggest in a series that could lead other tax authorities and other companies to seek similar back taxes and tax-evasion fines. Italy, which reached a tax settlement between Apple Inc. late last year, is also pursuing Google for around EUR300 million in back taxes.

The European Union's executive arm has also been investigating alleged sweetheart tax deals enjoyed by Amazon.com Inc. and Apple Inc., cases that could lead to orders to repay years of back taxes. Both companies deny receiving any special treatment.

The threat of legal action -- coupled with new tax rules proposed by the Organization for Economic Cooperation and Development, and a new "diverted profits tax" in the U.K. -- has also raised pressure on companies to change their tax structures to pay more taxes in countries where they do business.

Facebook Inc. in April began directing U.K. clients to start paying an affiliate in the country rather than funneling that money through Ireland and then on the to Cayman Islands, boosting its tax payments in the U.K. Last summer, Amazon.com Inc. made a change to its European structure to begin collecting revenue from units in individual European countries, including France, rather than through Luxembourg.

Google also said in January that it would make a similar change in the U.K., effectively boosting what it would pay in taxes there. But that commitment was also coupled with a GBP130 million ($190 million) settlement of a tax audit by U.K. authorities stretching back a decade, leading to criticism from politicians who said France's ongoing probe showed that the company should have paid more.

The U.K. is Google's second-largest market after the U.S., with $5.15 billion in revenue from U.K. clients for the first nine months of 2015. The company doesn't disclose the revenue it gets from French clients, but analysts have estimated that it comes in at No. 3 in Europe, behind Germany.

In the wake of Google's U.K. tax deal, people familiar with the matter said that the company wasn't in any serious discussions to settle its French case, because the gap between what the French tax authority is demanding and Google thinks should be paid was so large. "Both sides are very confident of their positions," one of the people said at the time, adding: "Very likely it will end up in court."

At issue in the French tax case is a common one in Europe, where companies book all of their client revenue at a headquarters in one EU country while reimbursing units in other countries for their costs for marketing, support and other ancillary functions. Among those that use the structure are Uber Technologies Inc. and Airbnb Inc., according to company filings.

French authorities argue however that Google, which collects the vast majority of its revenue from European clients at its Irish unit, actually does more business in France than that structure implies. Specifically, they argue that Google executives negotiate advertising deals in Paris, and that such activity gives Google's Irish unit a "permanent establishment," or taxable presence, in France.

Google has argued however that the hundreds of salespeople and programmers it employs in Paris don't actually close any advertising deals with clients. Most Google advertising revenue comes from automated systems where advertisers buy ads to appear when Google users search for a certain word.

"The investigation aims to see whether Google Ireland Ltd, has a 'permanent establishment' in France, and in not declaring some of its activity in French territory hasn't fulfilled its tax obligations, notably in terms of income tax and sales tax," France's financial prosecutor's office said Tuesday, while its officers -- including some 25 IT experts -- were still holed up in Google's offices.

The question in this case may lead to years of litigation across multiple countries and companies. Under new OECD recommendations, the standard for how to determine whether a company has a permanent establishment in a given country has changed to push more taxable activity to countries where companies' customers are based, though it remains unclear so far how much, tax lawyers have said.

Write to Sam Schechner at sam.schechner@wsj.com

(END) Dow Jones Newswires

May 25, 2016 02:49 ET (06:49 GMT)

Copyright (c) 2016 Dow Jones & Company, Inc.