Introduction

Today, on Dutch budget day, the tax measures for 2012 will be formally announced. These measures (the "2012 Tax Proposals") were published by the Dutch government on Thursday 15 September 2011 and are intended to become effective as per 1 January 2012. The 2012 Tax Proposals inter alia contain a number of measures aimed at implementing the ambitions of the Dutch government towards a simpler, more solid and fraud resistant tax system. Some of these measures were already included in the policy paper ("Tax Agenda") of 14 April 2011 (see Tax Alert 15 April 2011). In addition, the 2012 Tax Proposals contain an anti-abuse measure for Dutch dividend withholding tax ("DWHT") purposes regarding the use of a Dutch Cooperative (Coop) as intermediate holding company. Moreover, the 2012 Tax Proposals contain a limitation to the corporate income tax ("CIT") liability of non-Dutch resident entities similar to Dutch associations, foundations and religious societies. The 2012 Tax Proposals also envisage certain measures for the benefit of taxpayers, such as an extension of the DWHT refund to non-EU and non-EEA exempt portfolio investors and the introduction of a Research & Development ("R&D") deduction. The details of the latter measure will be published through a separate memorandum at a later stage of the legislative process.

The 2012 Tax Proposals do not contain the previously announced legislative proposal for closing the "Bosal-gap" by limiting the deductibility of interest expenses related to the financing of exempt equity participations. It is not clear whether this measure will be introduced through a separate legislative proposal or instead that the Under-Minister of Finance followed the advice of the Taskforce Headquarters (see Tax Alert 21 June 2011). The 2012 Tax Proposals also do not contain the reduction of the statutory CIT rate (from 25% to 24%) that was announced in the Tax Agenda.

This Tax Alert will discuss the following proposed measures of the 2012 Tax Proposals that may affect corporate taxpayers:

  1. Interest deduction limitation for acquisition holdings
  2. Object exemption foreign PE profits and losses
  3. Amendment to substantial interest levy regime for foreign corporate taxpayers
  4. Anti-abuse measure for distributions by Coop
  5. Miscellaneous measures

1. Interest deduction limitation for acquisition holdings

A common structure used for the acquisition of a Dutch operating company is one whereby a Dutch acquisition vehicle borrows funds to make the acquisition, acquires the shares in the target and forms a CIT fiscal unity – or enters into a legal (de)merger - with the target. The intended result is that the interest expenses of the acquisition vehicle can effectively be deducted from the operating profit of the Dutch target. Certain anti-abuse rules (e.g. thin capitalization rules) can fairly easily be avoided by borrowing from a third party or – if needed – by increasing the acquisition vehicle's equity by contributing shareholdings in other subsidiaries (with respect to which the participation exemption can be applied). The Tax Agenda already announced a legislative proposal aimed at the excessive deduction of interest on acquisition debt, but no exact details were given at that time. The 2012 Tax Proposals set forth an interest deduction limitation measure for acquisition holdings with the following characteristics:

  • The limitation only applies to interest – including expenses and fx results – in respect of loans (and similar agreements) entered into in connection with the acquisition of one or more entities that have subsequently been consolidated into the CIT fiscal unity of the debtor of the acquisition loan or entered into a legal (de)merger with that debtor;
  • In short, interest expenses paid on those loans can only be deducted without taking the profits of the target or targets (or, in case of a legal (de)merger, of its or their business) into account;
  • A de minimis rule applies: the first € 1 million of interest on acquisition loans will not be affected;
  • There is also a thin capitalization safe harbor rule: the relevant interest will only be non-deductible to the extent there is excess debt (by reference to a 2:1 debt-to-equity ratio). For purposes of the debt-to-equity ratio, the equity will be reduced with the book value of the equity participations with respect to which the participation exemption applies. In addition, tax reserves are not considered as equity;
  • The effect of the so-called "goodwill-gap" [1] would be mitigated by amortizing the target's "goodwill" in a straight line over a ten–year period starting at the consolidation (or legal (de)merger);
  • If the rule results in a non-deductible interest (or expenses or fx results) in one year, such non-deductible interest can be carried forward to the subsequent year, but, similarly, cannot be deducted from the target's profits;  

The measure applies to structures created as from 1 January 2012. Existing acquisition structures will in principle be respected, but it cannot be excluded that the measure may apply in case of a restructuring after 1 January 2012 of existing structures.

The measure is aimed at structures like the one described above, which is designed to offset the interest expenses on the acquisition loan against the taxable profits of the target. It broadly seems to work as intended, but one could see it as slightly disappointing that the Dutch government has yet again created a complicated interest limitation measure without mitigating the complicated multi-layered sets of interest limitation rules already in existence that partially aim at the same types of structures. Looking more closely, the design of some of the more detailed rules could have been more logical and consistent. The rule that exempt participations should be deducted in calculating the debt-to-equity ratio may create some tension under EU law, as it seems Dutch domestic 95% or larger equity participations may generally be consolidated into the CIT fiscal unity of the buyer, potentially leading to a higher equity and (assuming it has not been acquired with debt) to a higher profit base from which to deduct interest of other acquisitions, while such consolidation is not possible in respect of foreign participations. More in general, the rule seems to favor domestic buyers, who may dispose of Dutch tax capacity, over foreign buyers, who generally would not.

2. Object exemption for foreign PE profits and losses

As announced in the Tax Agenda, the 2012 Tax Proposals transform the Dutch CIT to a more territorial system of taxation. It contains a proposal to exclude profits and losses from PEs from the Dutch tax base. Currently, Dutch corporate taxpayers may – subject to recapture – deduct foreign PE losses from their worldwide taxable profits, while PE profits are generally exempt on a current basis. At the least this creates a timing benefit for the taxpayer as compared to foreign exempt equity participations (where the profits are exempt, but the losses are generally not deductible). However, through structuring the recapture of foreign PE losses can be made illusory, whilst retaining the activity of such PE jurisdiction through a direct or indirect foreign subsidiary. The new proposal would bring the taxation of PEs more in line with the taxation of exempt equity participations.

The detailed legislative proposal on the introduction of the object exemption for foreign PE profits and losses consists of three elements:

  1. an object exemption for (active) foreign PEs;
  2. a tax credit for lowly-taxed foreign passive PEs; and
  3. a measure for the deduction of losses where a taxpayer no longer generates income from another country (discontinuation losses).

An object exemption for (active) foreign PEs

The object exemption would remove the (positive and negative) business profits from foreign permanent establishments ("PEs") from a Dutch corporate taxpayer's (otherwise worldwide) tax base. The object exemption applies on a per country basis. The object exemption also applies to certain other foreign source income (e.g. foreign real estate income). The proposal would align the taxation of foreign PEs closer to that of foreign exempt share participations.

A tax credit for lowly-taxed foreign passive PEs

Similar to the system for taxing foreign shareholdings, the object exemption will contain a provision aimed at profits from mobile capital in low taxing jurisdictions. Profits from certain passive foreign PEs (e.g. passive investment or group finance PEs) in low tax jurisdictions will generally not be exempt. Instead, a notional credit system (similar to that applicable to certain shareholdings in passive low tax companies) would apply. There would be a corresponding deduction in case of a loss-making lowly-taxed passive PE. This may be different if the Netherlands is required to grant an exemption for the passive PE under an applicable tax treaty.

A foreign PE will be considered a lowly-taxed passive PE if two cumulative conditions are met:

  1. the activities of the foreign PE, together with the (pro rata) attributable activities of the entities in which the taxpayer, through the PE, holds an interest of at least 5%, primarily consist of passive investing, direct or indirect group financing or leasing; and
  2. the profit of the foreign PE is not subject to a profit-based tax resulting in a reasonable levy according to Dutch tax standards (generally against a rate of at least 10%).

Discontinuation losses

The proposal would remove ordinary foreign PE losses from the Dutch tax base, but there is an exception. If the PE losses are incurred upon the discontinuation of the PE and there is no possibility to account for the losses otherwise (in the PE country), those losses may be deducted from the Dutch taxable profit. The PE losses may in principle also be taken into account if the activities of the PE are sold to a third party (unless such losses can be transferred to such third party).

These losses could lead to a permanent reduction of Dutch tax unless the taxpayer starts or resumes activities in the relevant country within three years after the discontinuation, in which case the discontinuation losses could again be recaptured.

3. Amendment to substantial interest levy regime for foreign corporate taxpayers

Under current law, non-Dutch resident corporate taxpayers that hold a substantial interest (generally an equity interest of at least 5%) in a Dutch resident company may be subject to Dutch CIT (at the statutory rates of up to 25%) on income and capital gains in connection with that company. This substantial interest levy will only apply if such interest cannot be attributed to the assets of a business enterprise of the shareholder (i.e. the interest is held as a passive investment). The substantial interest levy may be limited under the applicable tax treaty.

The European Commission considers the substantial interest levy rules to be in conflict with EU law, because a Dutch resident company holding a substantial interest, will generally be exempt from Dutch CIT under the Dutch participation exemption regime.[2] In the Tax Agenda the Under-Minister already announced an amendment to the substantial interest levy for non-Dutch resident corporate taxpayers. Although an abolishment of the substantial interest levy was desired, the 2012 Tax Proposals disappointedly only makes an additional (limited) amendment to the substantial interest levy to emphasize its anti-abuse character.

According to the 2012 Tax Proposals it is not envisaged to make changes to the current practice regarding the substantial interest levy. The substantial interest levy will only apply provided that the main reason or one of the main reasons for the non-Dutch resident corporate taxpayer to hold a substantial interest is the avoidance of Dutch personal income tax or DWHT of another person (e.g. a direct or indirect shareholder of the non-Dutch resident corporate taxpayer). According to the 2012 Tax Proposals this term should be interpreted – in line with EU case law [3] – as 'wholly artificial arrangement'. It is noted that the presence of a sole (additional) non-tax motive does not mean that there is not a wholly artificial arrangement intended to escape national taxes normally payable. Furthermore, if the substantial interest is only held to avoid the levy of Dutch DWHT - and not also to avoid personal income tax - the substantial interest levy will effectively be limited to 15% (instead of 25%). Obviously, further limitations may apply under applicable tax treaties.

4. Anti-abuse measure for dividend distributions by certain Coops

Under current domestic tax law, if structured properly, a Coop is not subject to DWHT. In recent years this made the Coop a popular vehicle. Its increased use, however, raised some eyebrows in Parliament and was recently criticized in Dutch newspapers.

The 2012 Tax Proposals contain an anti-abuse measure aimed to put a hold to structures in which a Dutch Coop is artificially interposed between a foreign resident parent and a Dutch or foreign resident subsidiary to avoid Dutch or foreign (withholding) taxes on dividend, without the Coop having a real significance. As a general rule, profit distributions by a Coop to its members should not be subject to Dutch DWHT. The proposed measure only relates to situations in which the avoidance of Dutch or foreign taxes is the main purpose or one of the main purposes for using a Coop as, direct or indirect, intermediate holding company. In such situations the Coop may have to withhold Dutch DWHT on profit distributions to its (foreign) members. This should be determined on a case-to-case basis.

The anti-abuse measure only applies with respect to members of the Coop that do not hold their membership interest as a business asset (i.e. membership rights are held as passive investment). Such profit distributions are in principle subject to 15% Dutch DWHT, but the Dutch DWHT rate may be reduced under the applicable tax treaty. Profit distributions to members that hold their membership rights as business assets are in principle not subject to Dutch DWHT (unless the Dutch dividend stripping rules apply).

The 2012 Tax Proposals lack guidance when a membership right can be considered to be an asset of a business enterprise of an entity. According to legislative history regarding the substantial interest levy – which contains the same term – this will generally be the case if (i) that entity is, in excess of normal asset management, providing equity that is at risk and (ii) that entity has sufficient involvement in the management of the company (e.g. to be substantiated by an involvement in the managing, policy-making and financial activities).

5. Miscellaneous 

A. CIT liability foreign associations, foundations or religious societies

Under current domestic tax law, non-Dutch resident associations, foundations and religious societies are subject to Dutch CIT on their Dutch source income. Dutch resident associations, foundations and religious societies on the other hand are only subject  to Dutch CIT to the extent they carry on a business enterprise (which they generally do not). The European Commission also requested the Netherlands to change these rules as these are considered in conflict with EU law.[4]

The 2012 Tax Proposals provide that non-Dutch resident entities incorporated under foreign law that are similar to associations, foundations or religious societies incorporated under Dutch law, will only be subject to Dutch CIT to the extent they carry on a business enterprise. This amendment is a broader codification of existing policy.[5]

B. Introduction R&D deduction

The Dutch Government envisages introducing a new R&D facility, R&D deduction, to ensure that the Netherlands remains an attractive jurisdiction to perform R&D activities. The purpose of the R&D deduction is to reduce the direct costs relating to R&D, other than labor costs (which can already benefit from a R&D wage tax reduction). The R&D deduction, together with the R&D wage tax deduction and the Innovation Income Box (see Tax alert 22 September 2010), creates a strong and complete package of tax measure to stimulate innovative activities of companies in the Netherlands. No further details are yet published regarding the R&D deduction. It is expected that the R&D deduction will be added to the 2012 Tax Proposals through a separate memorandum in a later stage of the legislative process.

C. Extension DWHT refund to non-EU and non-EEA exempt entities

Under current law Dutch resident entities that are exempt from Dutch CIT, such as pension funds, are entitled, upon request, to a refund of the DWHT withheld from them. The DWHT refund may also be available for EU or designated EEA resident exempt entities that are comparable with Dutch resident exempt entities. Based on the 2012 Tax Proposals  the scope of the DHWT refund procedure will be extended to comparable tax exempt entities resident outside of the EU and EEA, provided the following three conditions are met:

  1. such entities are resident in designated countries outside the EU and EEA with which the Netherlands concluded a bi- or multilateral agreement that includes an exchange of information provision; and
  2. the interest to which the DWHT refund relates is a portfolio investment(i.e. an investment without (potential) control over the management of the entity withholding the DWHT); and
  3. the entities do not perform a similar function as Dutch Fiscal Investment Institutions and Exempt Investment Institutions.

Non-EU exempt pension funds, exempt Sovereign Wealth Funds or other exempt (government) entities may benefit from this extension. As a result of the extension it may become more attractive to invest in the Netherlands from qualifying third countries.

Final remarks

The 2012 Tax Proposals are a sign of the times. In times when the government struggle to balance its budget it attacks types of perceived abuse that have been thorn in the side of the Ministry of Finance for some time (the deduction of acquisition interest, the excessive use of Coops for tax reasons). In doing so they are not overly scrupulous about avoiding unnecessary complexity and administrative burdens. The 2012 Tax Proposals also provide some benefits to taxpayers, but these seem to be limited to what is really unavoidable under EU law (alleviating the substantial interest levy, the treatment of foreign foundations, etc.) and to those measures that are really believed to stimulate the economy.

Without any doubt, the next few months will bring us many amendments and clarifications to the 2012 Tax Proposals as it is guided through Parliament and we will keep you informed of any developments that may be important.