About profits distributed by a company to its parent company

The exemption on profits distributed by a company to its parent company cannot be limited on the basis of a general presumption of fraud or abuse established by national legislation

In its recent judgment of December 20th, 2017, the Court of Justice of the European Union (CJEU) has ruled on the limits to the application of national anti-abuse clauses in relation to the dividends tax exemption established by the “Parent -Subsidiary” Directive 90/435/ EEC.

In this judgment, The CJEU analyzes the compatibility with the EU Law, which establishes in Article 5 of the Parent –Subsidiary Directive that ‘Profits which a subsidiary distributes to its parent company shall be exempt from withholding tax’, of a specific anti-avoidance measure established by the German legislation in Article 50 of the Einkommensteuergesetz (Law on Income Tax, the ‘EStG’), which provides that ‘A foreign company – non resident Company – has no entitlement to apply the relief of profits to the extent that persons who would not be entitled to the refund or exemption had they earned the income directly hold capital quotas in it, and:

  1. there are no economic or other substantial reasons for the involvement of the foreign company, or
  2. the foreign company does not earn more than 10% of its entire gross income for the financial year in question from its own economic activity, or
  3. the foreign company does not take part in general economic commerce with a business establishment suitably equipped for its business purpose.

History of the case

Deister Holding, the successor in title of Traxx, had its registered office in the Netherlands. Traxx had a holding amounting to at least 26.5% of the capital in Deister electronik GmbH, a company incorporated under German law. From March 2007, Traxx had a rented office in the Netherlands and two employees there in 2007 and 2008. Traxx’s sole shareholder, Mr. Stobbe, was resident in Germany.

In November 2007, Deister electronik paid dividends to Traxx, on which Deister electronik withheld the tax on income from capital tax and the solidarity surcharge, and remitted the amounts to the tax authorities. In May 2008, Traxx applied for an exemption from the tax and surcharge in respect of that distribution of dividends.

Following decisions in which the tax authority rejected that application and the complaint made against the rejection, Deister Holding, as the successor in title of Traxx, brought an action against those decisions before the Finanzgericht Köln (Finance Court, Cologne, Germany) on the ground that the relevant legislation in the main proceedings is incompatible with the the Parent-Subsidiary Directive.

Final position of The Court of Justice of the European Union

The CJEU stated that the Directive seeks to ensure the neutrality, from the tax point of view, of the distribution of profits by a company established in one Member State to its parent company established in another Member State.
On that basis, the Member States cannot unilaterally introduce restrictive measures and subject the right to exemption from withholding tax to several different conditions.

  • A general presumption of fraud and abuse cannot justify the purpose of a national law.
  • The German legislation subjects the grant of the exemption from withholding tax to the requirement that none of the three conditions provided for by that legislation is satisfied, without the tax authorities being required to provide prima facie evidence of the absence of economic reasons or of fraud or abuse.
  • The German legislation does not allow a non-resident parent company to provide evidence demonstrating the existence of economic reasons, it also establishes an irrefutable presumption of fraud or abuse.
  • The finding of such an arrangement requires that, on a case-by-case basis, an overall assessment of the relevant situation be conducted.

Final considerations. Possible impact on Spanish legislation

In Spain, art.14.1.h) of the Law on Non-Resident Income Tax (TRLIRNR), is not exactly identical to the one of the judgment that concerns us, since in the case of the German Law, it is sufficient to comply with one of the three conditions that it establishes in order to exclude the application of the exemption, without the need for the tax authorities to provide any evidence of abuse.

In the Spanish case, it cannot be considered that the clause itself is contrary to EU Law, since it does not establish a general presumption of absolute abuse, allowing interpretation and application in accordance with EU Law.

The fact that art.14.1.h) TRLIRNR is established on the same anti-abuse criteria, it establishes the reversion of the burden of proof without the need of the Administration to provide evidence of fraud, and limits the access to the exemption from the test of valid economic reasons, allows us to doubt about the compatibility of the anti-abuse clause with the EU Law in the specific case in which the Spanish tax administration applies it to deny the exemption without analyzing the real situation of the EU holding company in order to verify if it is an artificial hoax or not. In case of this concrete assumption, such regulatory application could be contrary to EU Law.

At SCHILLER Abogados & Rechtsanwälte we advise our international clients on Spanish and international tax matters and we accompany them in their international investments, offering comprehensive tax advice. We also perform ongoing and in-depth monitoring of all EU legislative initiatives and of the impact of CJEU case law in tax matters that may have a bearing on our clients.

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