Luxembourg recently published a bill to implement the new anti-hybrid rule and the general anti-abuse rule (GAAR) of the EU Parent Subsidiary Directive (PSD). The bill closely follows the wording of the PSD. A similar Dutch bill is expected on 15 September 2015. While the Dutch bill may differ from the Luxembourg one and is in any case subject to its own process of parliamentary approval, the Dutch legislature, too, may opt to follow the PSD to the letter. Such an approach would largely avoid any possible ambiguity arising from differences between the language of the PSD and the Dutch-implementing law, but it would not provide taxpayers with additional guidance on the application of the anti-hybrid rule and GAAR. We will update you on the Dutch implementation of the GAAR and anti-hybrid rule once details have been published. The anti-hybrid rule and GAAR have to be implemented by 31 December 2015 and would be effective as of 1 January 2016.
Since 1990, the EU Parent Subsidiary Directive exempts intra-group dividends and other distributions of profit from withholding taxes where they are paid by a company resident in one EU member state to a company resident in another member state. The PSD also aims to eliminate double taxation by disallowing the member state where the parent company is resident to tax the dividends and profit distributions. The PSD is applicable if the following conditions are met:
- The subsidiary company and parent company are corporate entities organised under the laws of any member state or under EU law
- The subsidiary company and the parent company are each a resident in a member state without being resident in a third state under any double taxation agreement between this member state and that third state
- The subsidiary company and parent company are subject to corporate income tax in the member state of residence without election and without being exempt therefrom
- The parent company holds an equity participation of at least 10% in the subsidiary company.
The Dutch implementing law provides for a withholding tax exemption in respect of dividends and other profit distributions made by a subsidiary company resident in the Netherlands without requiring the parent company to be subject to corporate income tax in its member state of residence. The Dutch implementing law also reduces the requisite threshold from 10% to 5%. The PSD was recently amended following concerns that its application could give rise to situations of double non-taxation or abuse by taxpayers. Below, we set out these amendments in detail.
Avoiding double non-taxation: introducing an anti-hybrid rule in the PSD
Under the PSD, double non-taxation would occur where a payment made by a subsidiary company to its parent company is treated as tax-deductible in the member state where the subsidiary company is resident, but as an exempt profit distribution in the member state where the parent company is resident. Before its amendment on 8 July 2014, the PSD required the parent company’s member state of residence to exempt this payment, irrespective of whether the same payment would not have suffered double taxation as a result of the difference in its tax treatment between member states.
In its amended form, the PSD takes into account whether the payment made by a subsidiary company to its parent company is of a hybrid nature, i.e. to what extent the payment is deductible by the subsidiary company but qualifies as a dividend for the parent company. The PSD does so by requiring the member state where the parent company is resident only to refrain from taxing the payment made to the extent that it is not deductible by the subsidiary company. Moreover, to the extent that the payment made is deductible by the subsidiary, the PSD requires the payment to be taxed at the parent company level. Put differently, this anti-hybrid rule makes mandatory taxation or exemption of a payment at the parent company level dependent on its domestic tax treatment at the subsidiary company level. It thus specifically targets double non-taxation situations that arise from mismatches in the tax treatment of distributions between member states.
The anti-hybrid rule has to be implemented in all member states by 31 December 2015. While the Dutch government is expected to submit a bill, including a proposed implementation of the anti-hybrid rule, to the Dutch parliament on 15 September 2015 (Prinsjesdag), the Luxembourg Minister of Finance presented a bill to the Luxembourg parliament on 5 August 2015. The Luxembourg bill seeks to implement the anti-hybrid rule for inbound dividends and other profit distributions, that is, dividends and other profit distributions made by subsidiaries resident elsewhere in the EU to a Luxembourg resident parent company. Accordingly, if adopted, the bill will restrict the Luxembourg participation exemption to inbound dividends to the extent that these dividends are not deductible by the distributing subsidiary. This restriction would apply as of 1 January 2016.
Avoiding abuse: introducing a general anti-abuse rule in the PSD
In addition to an anti-hybrid rule, the PSD has been amended further to introduce a GAAR. Although the PSD has never precluded member states from applying anti-abuse rules found either in their domestic tax laws or in their double taxation agreements with other countries, concerns about if these anti-abuse rules sufficiently prevent the misuse of the PSD have arisen. This could be due to the differences across member states in the conditions under which those anti-abuse rules apply and in the outcomes resulting from their application, or even the absence of such rules in some member states.
The GAAR is intended as a measure to establish a common minimum standard for situations of misuse of the PSD. To this end, the GAAR seeks to disallow both the withholding tax exemption for dividends at the level of the subsidiary company, and the exemption for dividends in the hands of the parent company in cases where:
- An arrangement or a series of arrangements has been put into place for the main purpose or one of the main purposes of obtaining a tax advantage
- The tax advantage sought defeats the object or purpose of the PSD
- The arrangement or series of arrangements is not genuine – that is, purely artificial – having regard to all relevant facts and circumstances.
When compared to the anti-hybrid rule, it is less evident from the wording of the GAAR which arrangements or series of arrangements fall within its scope and which distributions are possibly at risk of being denied a withholding tax exemption at subsidiary company level or an exemption at parent company level. Still, it is clear that its wording is intentionally broad. This is compounded by the fact that arrangements are not regarded as genuine according to the GAAR to the extent that they are not put into place for valid commercial reasons reflecting economic reality. Taken together, the main purpose test and genuine arrangement test could cause the GAAR to be applied on a case-by-case basis with differing results across EU member states. The EU member states have to implement the GAAR by 31 December 2015.
The bill which the Luxembourg Minister of Finance introduced on 5 August 2015 also seeks to implement the GAAR. Specifically, the bill amends the Luxembourg participation exemption for inbound dividends as well as the withholding tax exemption for outbound dividends by adopting the wording of the GAAR in the PSD. The bill does so notwithstanding the statement made by the European Commission which accompanied the agreed proposal to include the GAAR in the PSD. In this statement, the European Commission confirmed that the GAAR is not intended to affect national participation exemption systems in so far as these are compatible with the Treaty on the Functioning of the EU. In doing so, the bill does not provide further guidance on when both exemptions would be denied to a Luxembourg taxpayer distributing dividends to or receiving dividends from a company resident elsewhere in the EU. If adopted, these amendments would come into effect in Luxembourg as of 1 January 2016.