Court of Appeal Rules on the Application of Article 13L CITA

On 2 October 2019 the The Hague court of appeal ruled in the very first case on the application of the Dutch interest deduction limitation rule of article 13L CITA. That article targets the deduction of interest expenses when a Dutch taxpayer has a so-called participation debt (deelnemingsschuld), which generally is the case if the acquisition price of its participating shareholdings (deelnemingen) exceeds its equity for tax purposes. The judgment of the court of appeal contains several relevant conclusions for Dutch corporate tax payers who are (potentially) targeted by article 13L.

Per-element approach

The court of appeal now confirms that, based on the Groupe Steria per-element approach¹, the acquisition price of a participating shareholding may be ignored when calculating the participation debt if (i) the relevant subsidiary is resident in an EU/EEA state and (ii) could have been included in a Dutch fiscal unity had that subsidiary been a Dutch tax resident. This is in line with the remedial legislation implemented by the Dutch government which has retroactive effect until 1 January 2018.

At the same time the court of appeal also rules that, next to the above adjustment on the acquisition price, an equity adjustment should be made in the participation debt if a so-called goodwill-gap exists (i.e. if the tax book value of the subsidiary is higher than the equity of that subsidiary). By taking into account the goodwill-gap we are of the view that the court of appeal stretches the standard of comparison (vergelijkingsmaatstaf) of the per-element approach to the hypothetical situation that the non-Dutch subsidiary is included in a fiscal unity with the Dutch entity. This appears to deviate from a recent judgement from the Dutch Supreme Court² in which it was ruled that the (elements of the) hypothetical situation that a non-Dutch subsidiary is included in a fiscal unity with the Dutch entity is not relevant.

Expansion investments

The acquisition price of a participating shareholding may be ignored when calculating the participation debt if the acquisition/capitalization of that participating shareholding relates to an expansion of the operational activities of the group. The court of appeal rules that whether an investment qualifies as such may be examined at the level of the group (and not on a stand-alone basis, which was the position of the Dutch tax authorities). This is an important confirmation, specifically when a group company leases assets (e.g. real estate) to other group companies. The court of appeal also rules that the switch from temporary use (lease) to full ownership of assets may be considered as an expansion.

Motive test

The motive test examines whether the acquisition/capitalization would also have taken place if the deduction of interest expenses would not be available. If this is not the case then the acquisition price of a participating shareholding relating to the expansion investments should nevertheless be taken into account in the participation debt. The court of appeal rules that setting up a Dutch special purpose vehicle to collect funds from the market to finance/capitalize subsidiaries to improve their solvability are in the case at hand adequate grounds (and thus not primarily performed to create deductible interest expenses in the Netherlands).

Argenta

In the Argenta case³ the ECJ ruled that the Belgian interest deduction limitation rule is incompatible with article 4(2) of the EU Parent-Subsidiary Directive4 considering the targeted interest charges insufficiently related to the relevant subsidiaries.

Although the Dutch article 13L is based on a mathematical formula (and not on a historic causal relationship), the court of appeal rules that in the Argenta case the ECJ did not express their view on what relationship is required between the interest charges and the subsidiary. According to the court of appeal, it is therefore not certain that a historical causal connection is required to come to the conclusion that article 13L would be incompatible with article 4(2) of the EU Parent-Subsidiary Directive. To that extent the court of appeal dismisses the appeal.