On April 21, 2014 the Dutch Supreme Court judged in several joined cases (ECLI:NL:HR:2017:638) of which the Advocate General stated in his opinion that they were a consequence of the incorrect judgment of the Court of Justice of the European Union in the Bosal case (Case C-168/01). The AG calls the contested tax planning structure a form exploiting a gap that was created by the aforementioned judgment of the CJEU
In the Bosal case the CJEU ruled that:
“Council Directive 90/435/EEC of 23 July 1990 on the common system of taxation applicable in the case of parent companies and subsidiaries of different Member States, interpreted in the light of Article 52 of the EC Treaty (now, after amendment, Article 43 EC) precludes a national provision which, when determining the tax on the profits of a parent company established in one Member State, makes the deductibility of costs in connection with that company's holding in the capital of a subsidiary established in another Member State subject to the condition that such costs be indirectly instrumental in making profits which are taxable in the Member State where the parent company is established.”
In his opinion from August 25, 2016 the AG furthermore states that with its judgment the CJEU created a mismatch between exempted income from participations and the deductibility of costs that are directly attributable to that exempted income. According to the AG such fiscal coherence-distorting jurisprudence obviously entails constructions such as those that are contested in the underlying case.
High level summary of the facts of the underlying case
Under the scheme a taxpayer purchases tax capacity from non-related third parties. Subsequently the taxpayer obtains intra-group loans of such amounts that in principle 1 interest term fully utilizes this tax capacity (preferably within the financial year in which the tax capacity was obtained). The amounts that are obtained via the intra-group loans are used to either purchase shareholdings to which the participation exemption applies, or to make (hybrid) capital contributions into (Luxembourg) group entities to which the participation exemption applies. In short: the purpose of the scheme is to eliminate capital gains realized by non-related third parties for tax purposes. The benefit (avoiding Dutch corporate income tax due over the capital gains realized by the non-related third parties) was shared between (the group of) the interested parties in the underlying case (X1 – X9), the non-related parties (the sellers of the tax capacity) and an intermediary.
During the years 2004 – 2008 the X-Group, of which the ultimate parent company is a resident of Switzerland and which activities consist out of banking activities, obtained Dutch resident entities (X1 – X9) from non-related third parties. Shortly before these entities were obtained by the X-Group, these entities transferred their assets or enterprise to a then still related entity. By doing so these entities realized taxable capital gains (the tax capacity). Consequently at the moment each of the entities X1-X9 became part of the X-Group, the balance of the respective entity solely consisted out of liquidities, equity and a corporate income tax debt that related to the capital gains the respective entity realized over the sale of its assets/enterprise. For X1, X2, X3, X4, X5, X6, X7, X8 and X9 the total corporate income tax debt amounted to more than 91 million euro. Shortly after the X-Group obtained an entity a financial reorganization took place. As a result of such reorganization, existing loans that initially did not run through the Netherlands were redirected through the obtained entity. After the interposing of the aforementioned entities the loans grew in seize because the entities obtained such huge intra-group loans that the amount of interest due over these loans could fully compensate the capital gains that X1-X9 realized shortly before the change in their ownership (preferably even within the year in which the respective interested party was obtained by the X-Group). The funds that X1-X9 obtained via these intra-group loans were subsequently contributed as (hybrid) capital into foreign group entities (to which the participation exemption applied). These subsidiaries then made these funds indirectly available to another UK group entity that was trading in securities, derivatives and currencies and that arranged financings for clients of the X Group.
A simplified group structure after all the aforementioned transactions/restructuring took place looks as follows:
The interested parties (X1-X9) paid the interest due over the loans obtained from X London Branch out of dividends they received from the foreign X-group entities in which they participated. Based on the judgment in the Bosal case (Case C-168/01) these interest cost were deductible, whereas the participation exemption applied to the dividend income received. The capital gains available in the interested parties were absorbed by the high interest costs, as a result of which the corporate income tax debts that came into existence because of these capital gains were eliminated. After the capital gains were absorbed X1-X9 repaid the outstanding loans. X1-X9 funded these repayments by capital repayments they received from their foreign subsidiaries or from revenues they obtained from the sale of their subsidiaries. After the transactions described above were finalized, almost all interested parties stopped to exist by way of mergers.
The tax inspector has denied the deduction of the interest that the interested parties paid to X London Branch and has issued corporate income tax assessments for the financial years that were still open. Furthermore the tax authorities issued additional assessments, including imposing administrative penalties, for the financial years for which already final corporate income tax assessments were issued. It is contested whether (i) the inspector was allowed to issue additional corporate income tax assessments (ITP: for the years for which already final corporate income tax assessments were issued), (ii) whether or not the interest paid to X London Branch is deductible and (iii) whether the administrative penalties were imposed justifiable.
The lower court
The taxpayers/interested parties (X1-X9) contested the decision of the tax authorities. The Rechtbank Noord-Holland (the lower court of Noord-Holland) followed the position of the Dutch tax authorities and denied the deduction of the interest costs. Furthermore the lower court was of the opinion that the administrative penalties were imposed justifiably.
The higher court
Subsequently the taxpayers appealed the decision of the lower court.
In the appeal the Gerechtshof Amsterdam (the higher court of Amsterdam) ruled that the Dutch tax authorities were not entitled to issue additional assessments. Reason here for is that according to the higher court no new fact existed that justified the issuance of such additional assessments. In this respect the higher court is of the opinion that the fact that the interested parties had discussions with the tax inspector regarding capital tax together with the corporate income tax returns filed should have induced the tax inspector to undertake an additional investigation (ITP: at the moment the tax returns were filed and not several years later). Furthermore the higher court did not see any malicious intent from the side of the X1-X9 with respect to the occasion that led to the tax inspector issuing the additional assessments. Reason here for is that according to the higher court the position of X1-X9 that the interest is deductible is a so-called defensible position. Furthermore the higher court of the opinion that the did not intentionally provide incorrect information to the tax inspector or intentionally did not fully disclose all information to the tax inspector. As a consequence of the aforementioned, the higher court has annulled the additional assessments raised and the administrative penalties imposed
With respect to the other/normal assessments the higher court is of the opinion that the regulations of the Articles 20 and 20a of the Dutch corporate income tax Act as such do not deny the possibility to offset interest costs against capital gains that were realized within the same financial year. However according to the higher court the predominant goal of the complex of transactions as described above was to offset the interest costs against the taxable incomes that were purchased from unrelated third parties in order to avoid taxes over those capital gains. In this respect the higher court did not make a difference between the situations in which X1-X9 transferred their assets or enterprises to then related parties and those in which the assests/enterprises were transferred to a then unrelated third party. Although some economic risk was incurred with respect to the investments that X1-X9 had in and via the X-Group entities, according to the higher court this risk was so little and manageable that this does not detract from the opinion that the decisive motive behind the structure was to avoid paying taxes over the capital gains realized by the X1-X9.
According to the higher court an interest deduction would be so much contrary to the purpose and scope of the Dutch corporate income tax Act, including Art. 20a of that DCITA, that the Fraus legis's doctrine stands in the way of such deduction. The higher court furthermore considered that the X-Group deliberately made use of the ability to almost randomly use the possibility to orchestrate large money flows and to do this in the form of loans in order to create interest costs at will.
According to the higher court, the application of the Fraus legis’s doctrine results in a denial of the deduction of all interest costs, both those incurred before the moments on which the shares in X1, X2, X3, X4, X5, X6, X7, X8 or X9 were transferred to the X-Group and those incurred after those moments and irrespectively whether or not these interest costs can be attributed to other revenues than the taxable incomes of the interested parties that were bought by the X-Group. The court considers this a side-effect of the abuse that the interested parties willingly accepted.
Furthermore the higher court put aside the plea of the taxpayers that a correction should take place at the level of the entities that sold their shareholdings in X1, X2, X3, X4, X5, X6, X7, X8 or X9 to the X-Group. According to the taxpayers such correction should be made by denying the sellers the higher deprecation for tax purposes over the assets that were transferred out of the interested parties.
The Dutch Supreme Court
The issuance of additional assessments
The Dutch Supreme Court follows the higher court in its judgment that in the underlying case no new facts as meant in Article 16, Paragraph 1 of the Algemene wet inzake rijksbelastingen (AWR) exist.
Also with respect to the answer to the question whether the taxpayers had malicious intent, the Dutch Supreme Court follows the judgment of the higher court. In this respect the Dutch Supreme Court furthermore notes that the higher court has correctly judged that the position of the taxpayers regarding the deductibility of the interest costs can regarded as an objectively defensible position. According to the Dutch Supreme Court malicious intent only exists when a taxpayer has intentionally misinformed the tax inspector or intentionally has withheld relevant information from the tax inspector (BNB 1997/384). Such a withholding of relevant information can only be assumed if a legal obligation exists for the taxpayer to provide such information to the tax inspector. This is the case if in the invitation to file a tax return the concerned taxpayer is requested to mention that information in its tax return or in case based on Article 47 of the AWR the tax inspector has requested the taxpayer to provide him with this information. For situations as the one of the underlying case the law does not contain any obligations for a tax payer to provide the tax inspector of own accord with information that can be of importance for the assessment of the taxpayer’s tax matters. Contrary to what the State Secretary argues the non-disclosure of such non-obligatory information does not lead to the accusation of malicious intend as meant in Article 16, Paragraph 1 AWR.
Fraus legis/abuse of law
With respect to the question whether or not the complex of transactions in the underlying case constitutes Fraus legis (abuse of law) the Dutch Supreme Court follows the judgment of the higher court. In this respect the Dutch Supreme Court a.o. states that for the qualification of the (trans-)actions undertaken by the taxpayers (X1-X9), the higher court apparently and correctly used the test whether the avoidance of taxes was the decisive purpose of the contested (trans-)actions undertaken by the taxpayers. Subsequently the Dutch Supreme Court concludes that the answer to the question whether or not the avoidance of taxes was the decisive purpose of the (trans-)actions undertaken by the taxpayers is of a factual nature which therefore cannot be tested by the Dutch Supreme Court.
Subsequently the question arises what the fact that the complex of transactions qualifies as Fraus legis means for the deductibility of the interest costs. Are all costs that the taxpayers pay to X London Branch non-deductible (as the higher court ruled)? Or is the non-deductibility of these interest costs limited to the amount for which these were offset against the taxable incomes that the interested parties realized before they became part of the X-Group, as the taxpayers argue? According to the Dutch Supreme Court X1-X9 should be denied to deduct the interest costs due to X London Branch for the amount of the purchased taxable incomes that is available at each of these taxpayers. The Dutch Supreme Court furthermore rules that purchased taxable income means the taxable income of each respective interested party determined in accordance with the principles of goed koopmansgebruik (in accordance with the principles of accepted commercial customs) up to the moment on which the economic risk with respect to the shareholding in that entity was transferred to the X-Group. Which in the underlying case according to the Dutch Supreme Court would be the moment which was used for determining the sales price that the sellers have received for the sales of their respective shareholdings.
For as far as the interest that is due by the interested parties exceeds the purchased taxable incomes, the normal rules regarding the deductibility of interest apply to this excess. According to the Dutch Supreme Court one cannot argue that the gap created by the Bosal judgment is used to avoid paying taxes over the taxable income that was already available at the level of one of the entities (X1, X2, X3, X4, X5, X6, X7, X8 or X9) at the moment that the respective entity became part of the X-Group. To that extent, an allowable use is being made of the system of the Dutch corporate income tax Act as that is to be understood after the judgment in the Bosal case.
The aforementioned furthermore means that if a taxpayer incurs taxable losses in a later financial year because of interest costs incurred in relation to loans obtained from X London Branch, these losses cannot be settled with the taxable incomes of the financial year in which the respective entity became part of the X-Group for as far as these taxable incomes are to be considered to constitute purchased taxable income.
The Dutch Supreme Court also notes that in case the interest due to the X London Branch over the financial year during which a taxpayer became part of the X-Group exceeds the amount of the purchased income the following applies: The negative balance of on one side the amount with which the interest due exceeds the purchased taxable income of the respective entity and on the other side the amount of taxable income realized after the moment that the respective entity became part of the X-Group, can be offset against the taxable income of the respective entity in the same matter as which the losses of such entity normally could be settled, but only with the taxable incomes of later years.
Penalties
With respect to the question whether or not the taxpayers had a defendable position the Dutch Supreme Court follows the judgment of the higher-court. Consequently the Dutch Supreme Court also follows the decision of the higher court to annul the administrative penalties.
Decision
The Dutch Supreme Court has referred the underlying case to the Gerechtshof Den Haag (the higher court of the Hague) to further judge in these joined cases what amounts of interest will be deductible and for which amounts a deduction will be denied, with taking into account the underlying judgment of the Dutch Supreme Court. In this respect the Dutch Surpeme Court also orders the higher court of The Hague to also take into account the judgment of the Dutch Supreme Court in Case ECLI:NL:HR:2017:640, in which the Dutch Supreme Court also judged on April 21, 2017
The full text of the judgment of the Dutch Supreme Court in Case ECLI:NL:HR:2017:638 can be found here.
The full text of the judgment of the Dutch Supreme Court in Case ECLI:NL:HR:2017:640 can be found here.
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