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The Spanish Supreme Court stands as the latest pacta sunt servanda watch

The Court declined to disapply the reduced royalties withholding tax rate under the Spain-Switzerland Tax Treaty on the basis that the recipient of the royalties was not their beneficial owner because the relevant article did not include a beneficial ownership requirement. 

In line with its previous—and highly important—ruling of 3 March 2020, the Spanish Supreme Court recently handed down a ruling dated 23 September 2020 establishing, from a Spanish tax standpoint, the limits on both the dynamic interpretation of tax treaties and the Spanish tax authorities’ ability to cite matters involving beneficial-ownership clauses when not expressly addressed in the relevant article of the tax treaty.

What happened?

The ruling analyzes the application of the 5% reduced withholding tax rate set out in the Spain-Switzerland Tax Treaty to royalties representing a portion of the price paid by a Spanish retailer company (SpainCo) for the acquisition of finished products from its related-party Swiss distributor company (SwissCo) in 2006 and 2007.

 The legal owner of the intangible assets (from which the royalties originated) was a US company (USCo) that licensed the use of the assets to SwissCo. In turn, SwissCo sold the finished products among the group’s European retailers, including the use of the brands and trade names required to commercialize the products in their corresponding territories.

This SwissCo’s distribution system was set up after a group restructuring in 2005, and had been preceded by the direct licensing of the intangibles from USCo to SpainCo.

The Spanish tax authorities took the position that the implicit royalties paid by SpainCo could not benefit from the reduced withholding tax rate established in the Spain-Switzerland Tax Treaty given that SwissCo could not be deemed the beneficial owner of that income. Nor did the tax authorities’ assessment accept the application of a look-through approach that would have allowed SpainCo to enjoy the benefits under the Spain-US Tax Treaty in connection with the royalties flow, this on the basis that the income’s ultimate destination was unclear.

The tax treaty and the beneficial-ownership clause

Although in force since 1967, the Spain-Switzerland Tax Treaty was amended through a protocol in 2006 to include beneficial-ownership provisions in articles 10 (dividends) and 11 (interest). However, neither the protocol nor any subsequent amendment introduced a beneficial-ownership requirement applicable under article 12 (royalties).

What did the Supreme Court say?

The case law settled by the Supreme Court with its ruling of 23 September affirms the application of the Tax Treaty’s reduced withholding-tax rate on the royalties paid by SpainCo to SwissCo on the following grounds:

  • The literal and systematic interpretation of the Spain-Switzerland Tax Treaty cannot lead the tax authorities to reject the application of the reduced withholding-tax rate on royalties by arguing that the recipient of that income does not qualify as the beneficial owner. This is evidenced by the fact that the Tax Treaty’s provision on royalties was not amended—as occurred with the provisions included in connection with dividends and interest—to include a beneficial-ownership clause.
  • The dynamic interpretation can only be accepted when it is consistent with the wording of the applicable tax treaty or any other domestic provision. Otherwise, by applying the dynamic interpretation and relying on non-binding guidelines (such as the OECD Model Convention and the Commentaries on the same), judges could breach the legislation to which they are bound.
  • The interpretation and application of the Tax Treaty, as a mechanism to avoid double taxation, cannot ignore the actual taxation of the royalties in the hands of SwissCo, at the risk of frustrating the very aim of the Tax Treaty.
  • The beneficial-ownership clause cannot be regarded as an ius naturale principle that prevails over the intent of the contracting States, as reflected in the literal wording of a tax treaty.

The Court made, in obiter dicta, an interesting statement on the entitlement of SpainCo to apply the Spain-US Tax Treaty in the (hypothetical) event that the Spain-Switzerland Tax Treaty had not applied. In the Court’s view, denying that SwissCo is the beneficial owner of the royalties could only lead to assigning such condition to USCo and, therefore, to the application of the Spain-US Tax Treaty to that income. This statement clearly moves toward the potential application in Spain of a look-through approach as inferred, among others, in the Commentaries on the OECD Model Convention (par. 12.7 on the commentaries to article 10) and in the ECJ Danish Cases (par. 94 of the judgment dealing with the Interest-Royalties Directive).


The ruling has been lauded by tax practitioners, who, in recent years, had become accustomed to the courts’ continuous consecration of any mechanism that pursue allegedly abusive situations, although frequently doing so at the expense of legal certainty. The Supreme Court, rightfully so, has enshrined the contractual commitments undertaken by Spain through the ratification of an international convention as a limit on the aggressive scope of those interpretations undertaken by domestic tax authorities. We hope that this case law represents more than a flash in the pan and that it may even impact the interpretation and application of domestic provisions.

The Spanish Supreme Court has sided with legal certainty by creating a backstop to the over-expansive approach taken by the Spanish tax authorities and other judicial bodies to anti-abuse measures (particularly beneficial-ownership clauses), confirming the changing tide that began with its 3 March 2020 ruling


avinas, uriamenendez, tax treaties, spanish tax, royalties, withholding tax, beneficial ownership