On September 14, 2021, on the website of the Dutch courts a judgment of the District Court of The Hague (Rechtbank Den Haag) in Case AWB - 19 _ 7734 was published (ECLI:NL:RBDHA:2021:9742).
The taxpayer in the underlying case was incorporated on March 7, 2017 and is part of an international group that is active in the extraction of oil and gas. The taxpayer was incorporated to assume the central holding and financing function of the group. The taxpayer uses the Euro for both its annual accounts and tax purposes.
On April 7, 2017, the taxpayer acquired a stake in the Norwegian company Lundin Norway AS (LNAS) from a sister company. The purchase price amounted to approximately USD 7.1 billion (approximately EUR 6.7 billion). The taxpayer has entered into a USD-loan to finance the acquisition of LNAS.
LNAS's currency is the Norwegian Krone (NOK). LNAS prepares its annual accounts and its tax returns in NOK. LNAS is active in the oil extraction business and the sale of oil. The sale of produced oil and gas takes place in USD. LNAS' assets consist almost entirely out of capitalized expenses and licenses to exploit oil and gas fields. The value of these assets is depending on the oil price, which on its turn is denominated in USD.
The taxpayer valued its participation in LNAS at acquisition price or lower going-concern value. As a result of a change in the USD/EUR exchange rate, the taxpayer has impaired the balance sheet valuation of its participation in LNAS with approximately EUR 151.7 million in its 2017 financial statements.
The taxpayer has filed a request with the Dutch tax authorities pursuant to Article 13, paragraph 7, of the Dutch corporate income tax Act. The Dutch tax authorities have denied the request. The taxpayer has filed a contest against the decision of the tax authorities. The contest was also denied. And now the taxpayer has appealed against the latter decision of the tax authorities.
The taxpayer and the tax authorities are disputing whether (or not) the USD-loan functions as a hedge for a currency exchange risk that is incurred with respect to the participation in LNAS, as referred to in Article 13, paragraph 7, of the Dutch corporate income tax Act. Parties are not disputing the amount involved.
From the analysis of the court
Pursuant to Article 13, paragraph 1, of the Dutch corporate income tax Act, profits arising from a participation, as well as the costs incurred with respect to the acquisition and/or the disposal of that participation, are not taken into account when determining the taxable profit (the participation exemption).
Article 13, paragraph 7, of the Dutch corporate income tax Act contains an exception to the main rule as laid down in Article 13, paragraph 1 of the Dutch corporate income tax Act. Article 13, paragraph 7, of the Dutch corporate income tax Act reads as follows:
“If the Inspector has established in advance, by a decision that is open to objection, possibly subject to further conditions, that a legal act serves to hedge the currency exchange risk that is incurred with respect to a participation, a profit from said legal act is considered to be one of the profits from the participation.”
In the parliamentary history the following stated about this provision:
“(…) The seventh paragraph also concerns an extension of the concept of benefits and relates to the regulation regarding the hedging of currency exchange risks incurred with respect to participations. This regulation was previously included in the first paragraph. The phrase included in the old text, in which it was stipulated that a loan obtained for the acquisition of a participation is not a legal act intended to hedge the currency exchange risk, has not been included in the new text. Better than under the old wording, the new text does justice to the purport of this regulation. As a result, it is now also possible that, on request, the participation exemption can also be applied to currency exchange results realized on a loan obtained for the acquisition of said participation, insofar as these currency exchange results serve to hedge the currency exchange risk that is incurred with the participation itself.
Incidentally, and perhaps superfluously, it should be noted that a legal act that serves to hedge the currency exchange risk that is incurred with respect to a participation usually consists of a currency element and an interest element, whereby the participation exemption only applies to the currency element. The interest element is included in the taxable profit. (…)”
In the opinion of the District Court, the taxpayer has made it plausible that the USD-loan serves to hedge a EUR-USD currency exchange risk that the taxpayer incurs with respect to its participation in LNAS Article 13, paragraph 7, of the Dutch corporate income tax Act. The basic principle is that it must be assessed at the level of the taxpayer whether the taxpayer incurs a EUR-USD currency exchange risk with respect to its participation in LNAS. The taxpayer uses the EUR as its currency, LNAS was purchased by the taxpayer in USD and a future disposal of LNAS - as the taxpayer has stated without being disputed - will take place in USD. Therefore, the taxpayer incurs a EUR-USD currency exchange risk with respect to its participation in LNAS. The USD-loan is related to the taxpayer’s participation in LNAS and thus hedges the EUR-USD currency exchange rate risk. The fact that LNAS is located in a NOK-environment and as argued by the tax authorities prepares its annual accounts in NOK, does not mean that the participation in LNAS constitutes a NOK-asset for taxpayer. The court cannot follow the argument of the tax authorities that a distinction must be made between the risk of the participation and the risk associated with the participation. The taxpayer rightly points out that LNAS itself runs a USD-NOK currency exchange risk, which is included in its result. This does not alter the fact that for Article 13, paragraph 7, of the Dutch corporate income tax Act, it must be assessed at the level of the taxpayer what the currency exchange risk incurred with respect to the participation is. Furthermore, the impairment of the participation in LNAS that the taxpayer took into account in its commercial books is a confirmation that taxpayer incurs a EUR-USD currency exchange risk with respect to its participation in LNAS.
Based on the aforementioned considerations the appeal as filed by the taxpayer is to be upheld.
Although the underlying judgment is only a judgment by a District Court, the judgment is an interesting one. Indeed, oil and gas are commodities that are traded in USD. Therefore, on one hand the argument of the taxpayer that a future sales price of the participation will also be a USD sales price seems to be an argument that is understandable. On the other hand, one can also question how one can now already determine in which currency a possible future sales price will be denominated? Because the currency in which a future sale price will be denominated will also be depending on the negotiations between parties at the time of a sale. Therefore, I feel it will be interesting to see whether or not the Dutch tax authorities will appeal against this judgment of the District Court? And if so, how in that case the Court of Appeal will judge in the underlying case.
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