For the first time, the Dutch Supreme Court has denied the benefit of the EU Parent-Subsidiary Directive based on the existence of a 'wholly artificial arrangement'. It decided that a dividend paid by a Dutch holding company to a Luxembourg holding company in 2012 was subject to 2.5% Dutch corporate income tax, being the rate provided for under article 10(1)(a) of the Luxembourg-Netherlands double tax treaty (the standard Dutch corporate income tax rate at the time was 25%).
LuxCo was neither engaged in an active trade or business nor acted as an intermediate holding company between an active group company and an active subsidiary. That, together with a lack of substance, caused the Court of Appeal to conclude (and the Dutch Supreme Court to affirm) that there was a 'wholly artificial arrangement'. Therefore, pursuant to the ECJ's decisions in the Danish conduit cases (see our posts of April, July or September 2019), it was mandatory to deny the benefits of the EU Parent-Subsidiary Directive, which would otherwise have exempted the dividend from the Dutch corporate income tax charge . This makes the decision also the first explicit confirmation by the Dutch Supreme Court that these decisions by the ECJ mean that the Dutch tax authorities have an obligation to deny benefits under EU Directives.
Impact of the decision
Whilst the case involved the 2012 tax year and the relevant legislation has since been amended, these amendments were not intended to make any substantive changes. So, the decision applies to the relevant legislation in its current form.
Unfortunately, it leaves open the answer to several questions which are of particular relevance to private equity funds which have routed their fund investments through EU holding companies:
- Would the outcome be different, if DutchCo had been an active subsidiary (rather than a holding company) and another active group company sat above LuxCo?
- What level of activity is needed to make holding and managing participations a sufficiently active business activity so that the arrangement cannot be said to be 'wholly artificial'?
Background on the case
Under the Dutch Corporate Income Tax Act, a non-resident shareholder is subject to 25% Dutch corporate income tax in respect of dividends derived from a Dutch resident company in which it holds a substantial interest (generally, an interest of 5% or more), if such interest is held with a view to avoiding individual income tax or dividend withholding tax of the ultimate beneficial owner. To determine whether such an avoidance purpose exists, one has to look through the corporate chain of ownership. The look-through stops when one reaches an entity that is engaged in an active business enterprise or, if there is no such entity, when one reaches an individual that indirectly holds a substantial interest in the Dutch company. Finally, one has to compare the Dutch tax liability of the so-identified ultimate beneficial owner, if it held the interest in the Dutch entity directly, and the tax liability, if the corporate structure was respected.
In the case at hand, no active entity sat above LuxCo . The ultimate beneficial owner of the structure was an individual resident in Switzerland. Under the provisions of the Netherlands-Switzerland double tax treaty, the individual would have incurred a 15% Dutch individual income tax liability. Because this was more than the 2.5% tax liability incurred by LuxCo, a savings motive was presumed, and LuxCo was unable to adduce sufficient evidence to show that the arrangement had economic reality:
- LuxCo did not perform a relevant function within the group
- LuxCo neither carried on an active business enterprise nor acted as an intermediate holding company between a group engaged in an active business and an active subsidiary
- LuxCo lacked substance because it had neither its own office space nor any employees
- The amount of costs incurred by LuxCo indicated that all it did was to hire the limited services of a trust company that were necessary to keep the company in existence and to render support services
Based on these factors the interposition of LuxCo was considered to be a 'wholly artificial arrangement' and LuxCo could not claim an exemption from Dutch corporate income tax under the EU Parent-Subsidiary Directive.