A key adviser to Europe's highest court has said that firms setting up operations in Ireland to reduce their tax burden are not abusing EU law.
However, he has recommended to the European Court of Justice (ECJ) that member states have the right to claw back tax from overseas firms set up purely to avoid tax.
The opinion issued yesterday by Philippe Léger, advocate general at the ECJ, was welcomed by tax experts as a major boost for Ireland's strategy of attracting foreign investment by offering one of Europe's lowest corporate tax rates - 12.5 per cent.
The ECJ follows the opinion issued by its advocate generals in 80 per cent of cases.
The adviser's opinion was issued following a complaint lodged by the confectionery group Cadbury Schweppes against British tax rules, which the firm alleges break EU law and discourage companies from establishing overseas subsidiaries.
Cadbury Schweppes, which set up two IFSC operations to benefit from Ireland's low corporate tax rate in the 1990s, claims it is owed about €12.5 million for tax that Britain unfairly retained on profits made by its Irish subsidiaries in 1996.
The two subsidiaries are involved in raising finance and providing finance to other subsidiaries in the Cadbury Schweppes group.
Britain's inland revenue ruled that the two subsidiaries fell foul of Britain's "controlled foreign company" (CFC) tax rules, which enable the authorities to levy tax on an overseas subsidiary of a British parent firm if there is a substantial difference in tax rate.
But in a complicated opinion based on the facts of the Cadbury Schweppes case, Mr Léger ruled that tax authorities in member states could levy tax on overseas subsidiaries only when they were set up as "wholly artificial arrangements to circumvent national law".
"The establishment by a parent company of a subsidiary in another member state for the purpose of enjoying the more favourable tax regime in that other state does not constitute, in itself, an abuse of freedom of establishment," he said.
The Institute of Chartered Accountants said the advocate general's opinion was particularly important because it recognised that not all decisions to locate businesses in the Republic were driven by artificial tax avoidance reasons.
Meanwhile, PricewaterhouseCoopers (PwC) said the opinion - if supported by the ECJ - could lead more British firms to establish group financing operations in the Republic.
"The IFSC had always been on the British CFC hit list irrespective of what level of activities were carried on here," said Feargal O'Rourke, tax partner at PwC.
"What this judgment effectively says is that, once an IFSC subsidiary of a UK headquartered company has a physical presence with substantive and genuine activities, then this would appear to have the protection of the EU's freedom of establishment right."
The advocate general said it was for the national courts to assess, using criteria put forward in the opinion, whether the overseas unit had been set up to avoid tax.
These criteria include the degree of physical presence in the country, the economic value of the activity to the group overall, and whether the activity is genuine.
Declan Butler, international tax partner at Deloitte, said, in this respect, the opinion was not as clear-cut as might have been expected.
"It's unfortunate that he went into the 'motive test' and that he kicked this back to the national courts," he said.
A British finance ministry spokesman said: "We welcome the fact that the advocate general has not found the UK's CFC rules contrary to EU law."
Tax experts, however, said the British government could still lose such claims in UK courts, along with significant tax revenues.
"I think it will be quite difficult for member states to prove something is wholly artificial," said Mark Persoff of law firm Clifford Chance.