Tax bulletin

2007 Year-end update on Dutch, Belgium, Luxembourg and EU tax

Table of Contents:

• Part I The Netherlands
• Part II Belgium
• Part III Luxembourg
• Part IV EU

Part I-The Netherlands

This year-end update summarises some of the most remarkable developments in Dutch corporate income tax and dividend tax law in 2007 and highlights some of the legislative changes the new year will bring.

Topics of this summary are:

• Tax Measures Dutch Budget 2008;
• Changes in the Fiscal Investment Institution Regime and the introduction of a new Investment Fund Regime;
• Recent tax developments;
• Tax classification of Dutch limited partnerships and contractual investment funds.

I. Tax Measures Dutch Budget 2008

On September 18, 2007, the Dutch Government announced its tax proposals for 2008. The draft bills were passed by the Lower House of the States General on November 22, 2007 and currently lie before the Senate. Unless otherwise indicated, the proposed measures will enter into force as per (book years commencing on or after) January 1, 2008.

Corporate income tax
Corporate income tax brackets
The corporate income tax brackets will be extended. The low 20% rate will be applicable up to a taxable amount of € 40,000. The rate in the second bracket will be reduced from 23.5% to 23%. Furthermore, the second bracket will be extended to taxable amounts between € 40,000 (currently € 25,000) and € 200,000 (currently € 60,000).

Taxation of housing associations
Housing associations will become fully subject to corporate income tax. For this purpose, housing associations have to activate their assets at fair value on the tax opening balance sheet. Goodwill and other immaterial assets, however, cannot be activated at fair value. Specific valuation regulations apply to these intangible assets.

Limitation of write-down of business assets to lower going concern value
Writing down business assets to their lower going concern value will no longer be allowed in the event that the write-down is caused by circumstances which were already known at the moment the investment is made (e.g. that the investment will generate a low return).

Interest deduction limitations; proposal to tighten ‘reasonable taxation’-exception
On November 1, 2007, the Dutch government submitted its amendments to the 2008 tax proposals. Amongst them is the proposal to tighten the ‘reasonable taxation’-exception in the provisions (Article 10a Dutch Corporate Income Tax Act (Dutch CITA)) on the non-deductibility of interest on related party debt incurred in connection with certain specified transactions that are defined as:

• The distribution or a repayment of capital to a related entity or a related individual;
• The contribution to the capital of a related entity;
• The acquisition or the expansion of an interest in an entity that is related to the taxpayer after the acquisition.

Currently, a taxpayer may claim a deduction for interest (as well as other costs and foreign exchange losses) on related party debt if it can be established that the interest is subject to a reasonable level of taxation in the hands of the creditor. This will generally be the case if the interest is subject to income tax at an effective tax rate of 10% calculated on a taxable basis determined in accordance with Dutch tax rules (tax-burden test).

Under the proposal, this exception would no longer apply if the tax authorities can reasonably establish that the debt or the transaction in connection with which the debt was incurred was not predominantly entered into for valid business reasons. This means that meeting the 10% threshold does not necessarily entail the deductibility of interest any more as it gives the tax authorities the opportunity to challenge a deduction for interest on related party debt in all circumstances in which taxpayers rely on the ‘reasonable taxation’-exception. Even in situations in which the interest received by the creditor is subject to tax in a high tax jurisdiction, the deductibility of the interest may be challenged by the tax authorities.

As the proposal does not include a grandfather rule for existing debt, the deductibility of interest on all related party debt that is based on the application of the ‘reasonable taxation’-exception is potentially affected.

Patents Box regime: proposal to broaden scope of application
In order to encourage investments in research and development, the ‘Working on Profit Act’ introduced a patents box regime in the Dutch CITA. The regime became effective on January 1, 2007 (see par. III). Upon request, the patents box regime provides for an effective tax rate of 10% on the net earnings derived from self developed intangible assets for which one or more patents have been acquired. The regime can be applied to both intra-group or third party income. The term earnings is not limited to formal royalty income. Earnings in respect of marketing intangibles (e.g. trademarks, logos), however, are not eligible for the patents box. The amount of net earnings to which the patents box regime may be applied is capped at four times the total amount of the capitalised R&D cost.

It is proposed that the scope of application of the patents box regime should be widened. In addition to self developed intangible assets for which a patent has been acquired, the patents box regime will also apply to so-called S&O-intangibles (“Speur- en Ontwikkelingswerkactiva”) that become part of a taxpayer’s assets for corporate income tax purposes on, or after, January 1, 2008. The qualification as an S&O-intangible is subject to the condition that the respective intangible asset originated from a so-called S&O-project for which an S&O-declaration (“S&O-verklaring”) has been obtained on the basis of the Remittance Reduction for Wage Tax and Social Security Contributions Act (“Wet vermindering afdracht loonbelasting en premie voor de volksverzekeringen”). For budgetary reasons, the amount of net earnings derived from S&O-intangibles to which the patents box regime will apply is capped at € 400,000 per year.

Dividend withholding tax

Share repurchases; relaxation of limitations in exemption
The limitations in the dividend withholding tax exemption regarding share repurchases will be relaxed. Provided that certain conditions are met, the Dutch Dividend Withholding Tax Act (DWTA) provides for an exemption of dividend tax in the event quoted companies repurchase their own shares. Currently, the exemption is not applicable in the event that the maximum amount for which a company can repurchase its own shares free from dividend withholding tax is exceeded (limitation). The maximum amount is currently 10 times the average amount of dividend distributions (in cash) during the previous 5 years. Share repurchases that occurred in the previous 4 years have to be taken into account when determining the limitation at the time of the current share repurchase, irrespective of whether the share repurchase had been subject to dividend withholding tax.

Under the proposal, share repurchases exceeding the maximum amount will no longer lead to non-application of the exemption for the total amount. The exemption will apply up to the maximum amount and only the excess will be subject to dividend tax. Furthermore, it is proposed to increase the maximum amount from 10 times to 20 times the average amount of dividend distributions during the previous 5 years. Moreover, share repurchases that occurred in the previous 4 years which had been subject to dividend tax will not have to be taken into account any more when determining the maximum amount to which the exemption applies.

Fiscal investment institutions (FIIs); substitution refund procedure for remittance reduction
An FII is subject to a 0% corporate income tax rate. Application of this rate is subject to the condition that the FII distributes its profits within a period of 8 months subsequent to the fiscal bookkeeping’s year-end. The dividend distribution is subject to a dividend withholding tax at a rate of 15% on the basis of the DWTA. The rate may be reduced pursuant to the application of a DTC. The remarks in this paragraph have to be seen in connection with the amendments to the investment fund regimes mentioned in paragraph II.

Currently, foreign withholding taxes and Dutch dividend withholding tax levied at the cost of a Dutch FII may be refunded (on the basis of a refund procedure) to the FII. Under the legislative proposals, the refund procedure will be replaced by a so-called remittance reduction for dividend withholding tax. The remittance reduction allows an FII to reduce the dividend withholding tax that it has to remit with respect to the dividends distributed to its shareholders. The remittance reduction is set at the amount of the withholding tax levied at the FIIs cost (up to a maximum of 15%; a correction mechanism applies when the Netherlands have limited taxing rights on outbound dividends due to a double taxation convention (DTC)). The remittance reduction is available irrespective of whether the withholding tax levied on the FIIs income was imposed in the Netherlands or abroad, provided that the FII is the beneficial owner of the respective income items.

The proposed substitution of the refund procedure for a remittance reduction has consequences for a non-Dutch resident entity having a permanent establishment situated in the Netherlands that qualifies as a FII on the basis of the Dutch CITA (FII-pe). As the refund procedure for FIIs is expected to be abolished, such non-Dutch resident entities will no longer be entitled to a refund of dividend withholding tax which is levied at the cost of the FII-pe (such a refund is currently available with respect to dividends on Dutch shares which form part of the assets of such a permanent establishment). As the Netherlands does not impose a ‘branch withholding tax’ at the time the FII-pe distributes a dividend to its shareholders, this implication is argued in parliament to be fair and sound.

Dutch resident shareholders of the FII that are subject to Dutch income tax are entitled to a full credit for the Dutch dividend withholding tax levied upon the dividend distributed by the FII. Non-Dutch resident shareholders may resort to a DTC concluded by the Netherlands and their state of residence (R-State) in order to credit Dutch withholding tax against income tax levied in R-State.

Moreover, under the proposed amendments to the DWTA, income tax-exempt shareholders/entities resident in the Netherlands and comparable shareholders/entities resident in a member state of the European Union (e.g. pension funds) may receive a refund (on the basis of a refund procedure) of the dividend withholding tax levied upon the FIIs dividend distribution. The refund, however, will be limited to the amount of the dividend withholding tax levied on the dividends received by the tax-exempt entity which corresponds with the Dutch dividend withholding tax levied on the income of the FII. Tax scholars argue that this limitation may infringe European Community law.

II Changes in the Fiscal Investment Institution (FII) regime and the introduction of a new Investment Fund regime (FII/Exempt Fund)

On August 1, 2007, two tax bills aimed at enhancing the Dutch portfolio investment fund regimes entered into force. The first bill amended the existing FII regime and introduces a new tax exempt investment fund regime (FII/Exempt Fund Bill). The second bill allows FIIs to be indirectly engaged in the development of real estate for own account (“FII Real Estate Development Bill”).

Amendments to the FII regime in the Dutch CITA
As mentioned, an FII is subject to a 0% rate for corporate income tax purposes on the basis of the FII regime laid down in the Dutch CITA. Furthermore, an FII is entitled to the benefits of the DTC’s concluded by the Netherlands.

The FII regime is available to entities having the legal form of a Dutch limited liability company, or a fund for mutual account. The regime is also available to non-Dutch entities having a comparable legal form, provided that these entities have been incorporated under the law of a EU Member State or a jurisdiction with which the Netherlands concluded a tax treaty with an appropriate anti-discrimination provision. Furthermore, the FII Regime is available to non-Dutch tax resident entities in respect of their profits and gains for which they are liable to Dutch corporation tax.

Application of the regime is subject to detailed conditions regarding:

• The control over the entity by large shareholders;
• The entity’s leverage financing;
• The entity’s share capital structure;
• The entity’s profit distribution policy and;
• The composition of the entity’s shareholders.

The FII/Exempt Fund Bill adopted more lenient conditions as to the composition of the entity’s shareholders in case its shares are listed on a stock exchange. The bill lifted the restriction to listings on the Amsterdam stock exchange to listings on all stock exchanges that qualify under the Dutch Financial Supervision Act (listing requirement). As an alternative to the listing requirement, the bill enabled the application of the FII regime under the condition that the entity or its manager has obtained a license, or an exemption from the obligation to obtain such a license under the Financial Supervision Act (license requirement). Moreover, the bill also repealed the prohibition that no foreign investor is permitted to hold a direct interest in the FII of 25% or more.

An FII loses its status at the moment it conducts active business activities. As the tax legislator wanted FIIs to be able to engage in active real estate development, it enacted the FII Real Estate Development Bill. This bill allows FIIs to be indirectly engaged in real estate development through its subsidiaries. Provided that certain criteria are met, the FIIs ownership of shares in the real estate developing subsidiary will no longer disqualify application of the FII regime.

Introduction of tax exempt investment fund regime
The FII/Exempt Fund Bill also introduced a new fund regime pursuant to which qualifying funds will not be liable to Dutch corporation tax nor Dutch dividend withholding tax (Exempt Fund). Other than the FII, the Exempt Fund has no access to benefits on the basis of the Dutch DTC network. Consequently, amongst others, an Exempt Fund is not entitled to a credit for Dutch dividend tax levied at the Fund’s cost or a compensation payment for foreign withholding tax incurred.

Exempt Fund status is available to entities having the legal form of a Dutch public limited liability company or a fund for mutual account. Comparable foreign entities may also gain Exempt Fund status, provided that the respective entity has been incorporated or established under the law of a EU Member State or a jurisdiction with which the Netherlands concluded a tax treaty with an appropriate anti-discrimination provision. The statutory purpose and activities of the Exempt Fund must be those of raising capital with investors for the collective investment in financial instruments with a view to diversify risk. The participation by a minimum of two investors, in principle, suffices to meet the requirement of investing collectively. Under certain circumstances, even a single investor may be sufficient (provided that this is temporarily). The Exempt Fund must be ‘open-end’ in that the Exempt Fund must provide for the opportunity that its investors can demand redemption of their participation by the Exempt Fund. The Exempt Fund is only allowed to invest in financial instruments (e.g. equity and debt securities, derivatives, options, futures, swaps, commodities, contracts for differences, carbon and other environmental credits, et cetera ). Financial instruments such as interests in Dutch real estate are explicitly excluded.

An investment in the Tax Exempt Fund by a non-Dutch resident shareholder/investor does not in itself trigger income tax liability in the Netherlands. However, a non-Dutch resident taxpayer with a permanent establishment in the Netherlands that invests in a Tax Exempt Fund will be required to annually value its investment at fair market value in the event that the investment should be allocated to the permanent establishment assets.

III. Recent tax developments

Group interest box; uncertainties on entry into force
To encourage group financing activities in the Netherlands, the ‘Working on Profit Act’ introduced an optional group interest box regime in the Dutch CITA. Pursuant to this regime, the balance of group loan interest income and expense will be effectively taxed at a 5% rate. The amount eligible for the 5% rate is capped at the legal interest (“heffingsrente”; currently 5,3%) on the average equity of the taxpayer in the relevant year.

The introduction of the group interest box regime has been provided for by royal decree. The regime was expected to enter into force as of January 1, 2007. However, enactment of the regime is tied to the confirmation of the European Commission that the regime does not constitute forbidden state aid. On February 7, 2007, the European Commission announced that a formal investigation procedure had been opened. At this time, it is uncertain whether the group interest box regime constitutes state aid. It is also uncertain when the conclusions of the European Commission enquiry will be published.

Patents Box entered into force with retroactive effect as of January 1, 2007
On January 26, 2007, the Dutch Minister of Finance announced that, in the view of the Dutch government, the patents box regime does not constitute forbidden state aid. The Ministery of Finance based its view on a communication of the European Commission on the use of tax incentives to stimulate the knowledge-based economy. Apparently, a formal confirmation by the European Commission did not seem to be necessary. Consequently, the patents box regime entered into force with retroactive effect as from January 1, 2007 on the basis of a royal decree.

Material interpretation of ‘employer’ under tax treaties
On December 1, 2006 the Dutch Supreme Court ruled in six proceedings, two of which conducted by Loyens & Loeff, on cross-border secondment of employees and the application of tax treaties. In all cases the employment contract with the seconding employer was continued and the employees’ place of residence remained their country of origin. The Supreme Court held that – solely for the purpose of applying the treaty – the company to which the employee is made available must be considered this employee’s ‘economic employer’, if the following conditions are met:

• There is a relationship of authority between the employee who is sent to work abroad and the receiving company in the country of employment; and
• The work is carried out at the expense and risk of the company in the country of employment; the latter entailing that;
• The benefits of the work activities, as well as the disadvantages and risks, are for the account of the receiving company; and
• The costs in connection with the work are borne by the company in the country of employment. If the wages are paid by the formal employer in the country of origin, then these should be specified and charged to the ‘economic employer’ in the country of employment, in order to meet this condition.

The relevance of the rulings is that, regardless of whether the employee spends fewer or more than 183 days in a year in the country of employment, he will owe taxes in this country as of day one, if the receiving company must be considered his ‘economic employer’. We would like to point out that the Supreme Court has only ruled on the Dutch interpretation of the tax treaties. In other countries it may be decided that the position of formal employer is the deciding factor when determining which country may levy taxes. This will always have to be determined in advance in order to avoid problems with double taxation. We would like to stress that the status of ‘economic employer’ is relevant only for the application of the tax treaties and does not influence the civil law or fiscal employer-employee relationship. The tax authorities have announced that they will publish their policy in respect of the Supreme Court decision in the near future.

Intra-group secondments and withholding of tax
A non-resident employer with employees residing and/or working in the Netherlands is obliged to withhold wage tax, if he has a permanent establishment or permanent representative in the Netherlands. For Dutch wage tax purposes only, the notion of permanent establishment includes the situation of a non-resident employer making employees available to work in the Netherlands for a third party. On June 29, 2007 the Supreme Court ruled that this extension of the scope of Dutch withholding obligations does not only apply to foreign employment agencies, but also to non-resident employers who are seconding personnel to a Dutch group company. We would like to stress the combined result of this ruling and the Supreme Court rulings of December 1, 2006 for intra-group secondments: in the case of a secondment of an employee to the Netherlands within a group of companies, one must be aware that his non-resident employer may be obligated to withhold wage tax as from day one. For this reason, it is important to establish whether the Dutch group company to which the employee is seconded must be considered his ‘economic employer’, well in advance. Non-compliance or late compliance may result in adverse tax consequences and penalties. Moreover, the receiving company could be held liable.

Supervisory board members and the 30% ruling
In October 2007 the Supreme Court ruled that 30% ruling is also open to supervisory board members. The tax authorities opposing view was rejected. Like every other person, the supervisory board member must meet a number of conditions for the 30% ruling to be applicable.

Tax treatment of convertible loan
On October 12, 2007 the Dutch Supreme Court published a ruling on the tax consequences of a convertible loan. This ruling results in a potential tax mismatch between a Dutch (corporate) borrower and a Dutch (corporate) investor.

The main elements of the decision of the Supreme Court are the following:

• Whereas an individual investor would – at least under the income tax rules in force prior to the year 2001 – only have been subject to income tax in respect of the cash coupon, the (corporate) borrower should not be allowed to deduct more than such cash coupon i.e. the value of the conversion right is not deductible for the borrower, irrespective of whether the investor actually is an individual;
• A Dutch corporate investor, however, must include in its taxable profits, not later than upon conversion, an amount equal to the value that the conversion right had at the time of issue;
• If such a corporate investor would (upon conversion) acquire shares that qualify for the participation exemption, any increase or decrease in value of the conversion right (starting from the value at the time of issue) is exempt, regardless of whether new shares are issued upon conversion, or whether treasury shares are reissued.

The Supreme Court acknowledges the latter point is a reversal of a decision it handed down in 1981, when it held that such conversion gain did not fall under the participation exemption.

IV. Tax classification of Dutch limited partnerships and contractual investment funds

On January 21, 2007, the Dutch Ministry of Finance published two Decrees on the ‘consent requirement’ for Dutch limited partnerships (“ CV ”) and contractual investment funds for joint account. The Decrees alleviate the burden imposed on limited partnerships or contractual investment funds if it is envisaged that they are disregarded for Dutch direct tax purposes, especially with regard to the ‘consent requirements’ applicable to CVs as well as contractual investment funds for joint account.

Contrary to previous views, a partner no longer has to consent in writing. Where a partner has not specifically refused an intended admission of a limited partner or a transfer of a limited partner’s interest within four weeks following the date of the written notification of the intended admission or transfer, the consent requirement is deemed to have been satisfied. The consent requirement for the contractual investment fund has been alleviated in a similar way.

The Dutch interpretation of the consent requirement will be more in line with international practices. The Decrees have also indirectly impacted on the classification, for Dutch direct tax purposes, of entities established under foreign law which are comparable to the Dutch CV or contractual investment fund.

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Part II-Belgium

This update summarises some of the most remarkable developments in Belgian tax law in 2007, including some interesting new tax incentives.

Topics of this summary are:

• Dividend distributions to treaty countries;
• Tax deduction for R&D income;
• New treaty Belgium-USD;
• Fiscal unity for VAT.

I. Dividend distribution made by a Belgian company to a parent company established in a Treaty country: Belgian withholding tax reduced to 0%

As of January 1, 2007, the exemption from Belgian withholding tax on dividend distributions, which already existed for beneficiary companies resident in a Member State of the European Union, is extended to dividends paid by a resident company to a parent company established in a country with which Belgium has entered into a Tax Treaty.

Taking into account the extended tax treaty network of Belgium, this measure has an important impact on international tax planning involving Belgian companies.

The principles of the Parent-Subsidiary Directive concerning the exemption from withholding tax now also apply to the non-resident parent company which:

• Has a minimum participation in the Belgian company at the time of allocation of the dividends, participation which it has held for an uninterrupted period of at least one year at such time or which it shall hold for an uninterrupted period of at least one year. Such minimum participation amounts to 15% for those dividends allocated or paid as of January 1, 2007 and to 10% for those dividends allocated or paid as of January 1, 2009;
• Is established in a country with which Belgium has entered into a Tax Treaty and which is in a form similar to those listed in the annex to the Parent-Subsidiary Directive (consolidated text 90/435/CEE);
• According to the tax law of the country where it is established and the Tax Treaties which this country has entered into with third countries, is considered as having its tax residency in such country; and
• Is subject in such country to a corporate income tax or to a taxation similar to corporate income tax without benefiting from a special tax regime.

This exemption from Belgian withholding tax is only valid if the Tax Treaty or any other agreement whatsoever provides for an exchange of information necessary to apply the provisions of the national legislation of the contracting States. According to the motivation statement, some countries of the ex-USSR are therefore excluded; Turkmenistan, Tajikistan, Moldavia, Kirghizstan as well as Switzerland. The latter country is however subject to the Agreement of October 26, 2004 between the European Union and the Swiss Confederation which provides for the application of the Parent-Subsidiary Directive (consolidated text 90/435/EEC) subject to:

• A minimum participation of 25% in the capital; and
• An uninterrupted period of holding these shares by the beneficiary company of at least two years.

Finally, the exemption from withholding tax is also subject to the condition that the Belgian company is provided with a certificate which certifies that the beneficiary of the dividends meets all the aforementioned conditions.

In the case that one year holding period has not yet expired upon the dividend distribution, the Belgian company will only be allowed to pay the dividend amount less the normally applicable Belgian withholding tax. The Belgian company is, however, not required to actually transfer the amount of the withholding tax to the Belgian tax authorities; the amount functions as collateral for the withholding tax at the level of the Belgian company. To the extent of the amount provisionally withheld, the Belgian company’s accounts will thus show a debt vis-à-vis its shareholders. If the one year holding requirement will eventually be met, the Belgian company is allowed to effectively transfer the previously and provisionally withheld amount to its shareholders, in this way settling its debt with the latter. Only if the one year holding requirement would not be met, should an amount equal to the withholding tax due (late payment interest included) be paid to the Belgian tax authorities.

II. Tax deduction for R&D income

As of assessment year 2008 a new tax deduction for R&D income has been introduced. This new deduction will allow Belgian companies and Belgian establishments of foreign companies to deduct 80% of the income from patents from their taxable basis, resulting in a maximum effective tax rate of 6.8% on this income.

Patents
The tax deduction of R&D income only applies to patent income, to the exclusion of income deriving from other intellectual property rights ( e.g. know-how, trademarks, copyright). All patents are taken into consideration, i.e. Belgian, European and foreign patents. However, an effective patent or a complementary certificate of protection (specific to the pharmaceutical sector) is required to benefit from the deduction. In other words, R&D income already received prior to the granting of such patent is not taken into consideration for this tax deduction. The patents concerned are as follows:

• Patents which have been developed, totally or partially, by companies, in a research centre in Belgium or abroad;
• Patents which have been acquired provided that the companies have totally or partially improved the products or the patented processes in a research centre located in Belgium or abroad. In such case, the acquisition method of the patent right is not relevant ( e.g. contribution, licence, purchase). It is also not necessary that an improvement has lead to the grant of a new or additional patent.

The Law requires a development or improvement in a research centre which constitutes a branch of activity, which can be located in Belgium or abroad. However, in the latter case, it would be difficult to develop a patent abroad and to afterwards allocate the income from such patent to the Belgian parent company, to only benefit from the tax deduction. In this respect, the Minister of Finance has indicated that “the Belgian company may not be limiting itself to serve as a « gangplank » to benefit from the tax deduction for patent income”.

Patent income
Two categories of patent income are taken into account for the calculation of the tax deduction:

• licence income, i.e. the income received in consideration for licences on patents, developed or acquired by the company;
• fees included in the sales price of delivered goods or services or those deriving from patents developed or acquired by a company.

The aforementioned fees must be at arm’s length. If not, adjustments will be made when calculating the tax deduction for patent income.

Licence income, includes any income deriving from a licence or a sub-licence granted by a company, whether this income consists in periodical fees, whether fixed or variable or upfront (e.g. milestone, upfront fee). The income deriving from the transfer of a patent is not taken into consideration for the said deduction. In case of licence income deriving from intellectual property rights other than patents or from the reimbursement of or a participation in R&D expenses, such income will be deducted from the “qualifying” licence income and only the part of the licence income related to the patent will be taken into consideration to calculate the tax deduction.

As far as the fees included in the sales price of goods or services are concerned, the reasoning is that, if the third party acquiring the goods or services wishes to produce such goods or provide the services, it will have to acquire a licence for the patents to which these goods and services relate. In such case, the fees paid to the selling company will necessarily include this deemed licence income. Determining this deemed licence income out of the total fees could turn out not to be easy. Indeed, if the company has also provided this type of licence to third parties, instead of selling goods and services to them, this licence income will be used in determining the deemed licence income charged to other parties. However, in the absence of such reference, a transfer pricing study could be required. A ruling can be obtained confirming the correctness of this deemed patent income.

If patents are acquired from third parties, in order to calculate the tax deduction for patent income, the aforementioned income will be reduced

• by the consideration due by the company for the patents and patent rights acquired from third parties, to the extent that such consideration is deductible from the taxable result in Belgium for the same taxable period and
• by the depreciation on the investment or acquisition value of the patents to the extent such depreciation is deductible from the taxable results in Belgium for the same taxable period. This reduction has of course no consequence on the deductibility as professional expenses of the said consideration. In our view, said reduction should be applied on a case by case basis, and not globally.

Tax deduction for patent income
The tax deduction for patent income amounts to 80% of the income concerned and is deductible from the taxable base. In the order of deductions applicable to corporate income tax, this deduction takes place after the dividend deduction (participation exemption) and prior to the notional interest deduction, carried-forward losses and investment deductions. The part of the tax deduction for patent income which is in excess cannot be carried forward.

It goes without saying that the aforementioned income will give rise to a tax deduction for patent income only if such income is taxable in Belgium. This means that it must be included in the taxable results of the Belgian company or of the Belgian establishment of a foreign company. This new tax deduction can be applied cumulatively with the notional interest deduction and the investment deduction.

Limitation of the foreign tax credit
The counterpart of the above deduction is the limitation of the foreign tax credit. If royalties are subject to foreign withholding tax, Belgium grants a lump-sum tax credit, amounting to 15/85th of net amount which is deductible for Belgian corporate income tax purposes but not refundable. This tax credit could be very interesting when the foreign tax is lower than the tax credit. The Law however introduces a double limitation on such tax credit for patent income benefiting from the tax deduction:

• The tax credit will no longer amount to a lump-sum but will correspond to the actual foreign tax, with a maximum of 15%; and
• The tax credit will only be deductible up to the amount of the corporate tax on such patent income.

Entry into force
The above tax deduction is available as of assessment year 2008 for all new patents, i.e. patents which have not produced taxable income prior to January 1, 2007. This should mean that patents exclusively used in intra-group relations, also prior to January 1, 2007, could be taken into consideration for this new tax deduction.

III. New tax treaty Belgium – USA

On November 27, 2006 Belgium and the United States signed a new tax treaty. The treaty has not yet entered into force.

While the current tax treaty provides for an exemption from withholding tax on royalty payments, the new treaty extends the scope of this withholding tax exemption to certain interest and dividends payments.

With regard to dividends, the withholding tax exemption applies to:

• Dividends paid by a Belgian subsidiary to a US parent company, if the US parent has owned at least 10% of the share capital of the Belgian subsidiary for at least 12 months ending on the date the dividend is declared; and
• Dividends paid by a US subsidiary to a Belgian parent company, if the Belgian parent company has owned at least 80% of the voting shares of the US subsidiary for at least a 12 month period ending on the date on which entitlement to the dividend is determined.

Interest payments are generally exempt from withholding tax, except for certain specific cases:

• Interest arising in the United States that is contingent interest of a type that does not qualify as portfolio interest under United States law may be taxed by the United States but, if the beneficial owner of the interest is a resident of Belgium, the interest may be taxed at a rate not exceeding 15 percent of the gross amount of the interest;
• Interest arising in Belgium that is determined with reference to receipts, sales, income, profits or other cash flow of the debtor or a related person, to any change in the value of any property of the debtor or a related person or to any dividend, partnership distribution or similar payment made by the debtor to a related person may be taxed in Belgium, and according to Belgium laws, but if the beneficial owner is a resident of the United States, the interest may be taxed at a rate not exceeding 15 percent of the gross amount of the interest; and
• Interest that is an excess inclusion with respect to a residual interest in a real estate mortgage investment conduit may be taxed by each State in accordance with its domestic law.

The new tax treaty also contains a new Limitation on Benefits (LOB) clause aimed at preventing abuse of the treaty through “treaty shopping”. In contrast with the LOB clause under the existing tax treaty, the new one is not limited to royalty, interest and dividends and has a general scope of application.

The new treaty also introduces a new provision on exchange of information and administrative assistance between Belgium and the US. This provision provides that, if requested, one contracting state must provide to the other contracting state information even if, pursuant to its domestic tax laws, the contracting state could not provide this information because of bank secrecy rules or a statute of limitation. In this respect, it is important to point out that the 0% withholding on dividends is only valid for a 5 year period and is subject to the condition that Belgium satisfactorily complies with its exchange of information obligations.

IV. Fiscal unity for VAT

Since April 1, 2007, VAT grouping has been introduced in Belgian tax law. This means that several legally independent taxable persons, who have a close financial, economic and organisational link, can be considered as a single taxable person.

Contrary to the situation where there is no VAT group (where VAT is charged on transactions between taxable persons), no VAT will be charged on transactions between the members of a VAT group as they are considered to be a single taxable person. This means that limitations to the right to deduct input VAT should not be taken into account between the members. In addition, pre-financing of input VAT does not arise within a VAT group.

In other words, the VAT group opens interesting perspectives for optimising VAT costs for taxable persons.

Administratively, only one VAT return has to be filed for the VAT group. This means that recoverable and payable VAT amounts can be compensated for between the members of the VAT group.

Contrary to some other EU Member States, where the system of VAT grouping is mandatory, Belgium has elected an optional system. In practice, this optional system is applicable at two levels. First, several taxable persons have the choice to set up a VAT group when they meet all the applicable conditions (but without being bound to do so). Second, each taxable person can personally decide whether or not he wishes to be part of the VAT group.

There is however one exception to the optional system. This is the case when a company which is a member of the VAT group, has a direct participation of more than 50% in a subsidiary. Such subsidiary must then be part of the VAT group.

In order to be allowed to set up a VAT group, two series of conditions have to be met.

The first group of conditions concerns the status of the members of the VAT group.

Only taxable persons, to the extent they are established in Belgium, can be part of a VAT group. All taxable persons, without distinction, are included, irrespective of the extent of their right to deduct input VAT. This means, for example, that both taxable persons performing only VAT exempt transactions and persons subject to a particular VAT regime can be part of a VAT group. Since passive holding companies and the authorities do not have the capacity of taxable persons, they cannot participate in a VAT group.

As a VAT group is territorially limited, foreign taxable persons which are not established in Belgium, cannot be part of it.

Besides the conditions regarding the capacity of the members, a second series of conditions must also be met. These concern the links between the members. More specifically, the members of the VAT group should be closely linked from a financial, economic and organisational perspective. Only if all three criteria are met can the taxable persons decide to set up a VAT group.

The members of the VAT group will have to designate among themselves a representative, who will have to fulfil the formalities on behalf of and for the account of the members of the VAT group. On the basis of a proxy from all the members, the representative will be allowed to represent the VAT group with the relevant competent VAT authorities, to set up or close down a VAT group, or to comply with the necessary formalities in the event a member wants to join or to leave the VAT group.

The Royal Decree establishing this regime does not address the practical effect of the VAT group vis-à-vis third parties nor other issues such as invoicing, the calculation of the right of the VAT group and the application of VAT adjustments. According to the information we have gathered, the VAT authorities will address these issues in future administrative circulars.

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Part III-Luxembourg

This year-end update summarizes some of the main developments in Luxembourg tax law in 2007 and highlights some of the legislative changes that the New Year will bring.

Topics of this summary are:

• Introduction of SIF regime;
• Introduction of SPF regime;
• Abolishment of capital duty;
• 80% tax exemption from intellectual property;
• Extension of tax treaty network.

I. Introduction of SIF regime

Introduction
The law on Specialised Investments Funds became offective on February 13, 2007. This so-called SIF Law succeeds and replaces the law on undertakings for collective investment, the securities of which are not intended to be placed with the public (the 1991 Law ).

Eligible investors
Compared with its predecessor regime under the 1991 Law, the SIF Law substantially broadens the investor base to include a qualifying investor concept. The legislator has set certain criteria for the identification of such qualifying investors who accept or require a lower level of protection as a result of their status, experience or special acknowledgement of the risks they incur by investing into a lightly regulated fund vehicle.

Any institutional, professional or “well-informed” investor may thus not only invest in but also initiate or launch a SIF. Moreover, the “well-informed” investor status requires that the investor:

• Invests at least EUR 125,000 or;
• If the investment amount is lower, presents an appraisal from a credit institution within the meaning of Directive 2006/48/EC, an investment enterprise within the meaning of Directive 2004/39/EC, or a management company within the meaning of Directive 2001/107/EC, certifying the investor’s expertise, experience and knowledge in adequately appraising an investment in the relevant SIF.

A SIF may furthermore be initiated and launched by any qualifying investor, a significant innovation although in line with the experiences gained from the lightly regulated SICAR regime. A SIF initiator thus does not need to have “deep pockets”, associated with the promotership of undertakings for collective investment governed by the 2002 Law and which often represent a significant entry-level hurdle for smaller highly specialised investment management professionals or organisations.

Supervision
Setting up a SIF no longer requires the prior authorisation of The Luxembourg Financial sector regulatory authority ( Commission de Surveillance du Secteur Financier (CSSF) ). The constitutional documents for the relevant SIF need to be filed with the CSSF within the month following the establishment of the SIF. The CSSF will then verify the compliance by the SIF and its directors with applicable laws and regulations prior to admitting the fund to the official SIF list, although the SIF may start its activities as soon as it is established.

Investment and leverage restrictions
The absence of preset or regulatory investment restrictions represents another important step towards a flexible fund regime. Although the principle of risk spreading still applies, there are no preset quantitative, qualitative or other investment restrictions. The SIF initiator(s) may freely determine their investment policies (e.g., within a single- or multicompartment (umbrella) SIF), investment restrictions or limitations provided the investment policies are based on the principle of risk spreading. SIFs are furthermore not bound by any borrowing restrictions.

Organisational rules
SIFs may be structured in several ways:

• As a common fund governed by a contractual arrangement (i.e., a fonds commun de placement (FCP) managed by a management company );
• As an investment company with variable capital (i.e., a SICAV) opting for the corporate form of a private limited liability company ( société à responsabilité limitée (S.à r.l.), public limited liability company (société anonyme (SA)), partnership limited by shares ( société en commandite par actions (SCA) ) or cooperative company in the form of a public limited liability company ( société coopérative sous forme de société anonyme (SCSA) ) or;
• As any other legal regime available under Luxembourg law, such as a limited partnership ( société en commandite simple ) (for example).

Taxation
The tax regime of the SIF continues the proven and tested tax regimes governed by the 1991 and 2002 Laws. Whether the SIF is organised with or without legal personality, capital contributions will be subject to a one off fixed capital duty charge of EUR 1,250. SIFs are otherwise only subject to an annual subscription tax (taxe d’abonnement) of 0.01% assessed on the total net assets of the SIF. Furthermore, in accordance with the 1991 Law, the subscription tax does not apply to:

• SIFs which invest in other undertakings for collective investment governed by the 2002 Law and which have already been subject to an annual subscription tax;
• SIFs which invest in certain money market instruments only, as well as;
• SIFs implementing pension pooling schemes.

II. Introduction of SPF regime

Recently Luxembourg enacted a law regulating a private wealth management company, the so called “ société de gestion de patrimoine familial ” (“ SPF ”). The SPF can be considered the successor of the well-known “Holding 1929”, the tax exempt company Luxembourg introduced in 1929. The Holding 1929 regime was often used by individuals for the holding and management of their private wealth. The SPF regime aims at replacing the Holding 1929 regime. The SPF regime was enacted on May 11, 2007.

The activities of an SPF are limited to the acquisition, holding, administration and sale of financial assets, cash and certain other assets (e.g. precious metals). An SPF is not allowed to perform commercial activities, such as trading in financial instruments, or financial services. An SPF can not directly hold real estate. Nevertheless, holding real estate indirectly, through its subsidiaries, is allowed.

The investors eligible to invest in an SPF can be subdivided in three groups:

• An individual acting in the context of its personal private wealth management;
• A private wealth entity acting solely for one or several individuals;
• Intermediaries acting on behalf of either one stated above.

An SPF is exempt from corporate income tax, municipal business tax and net wealth tax. However, these exemptions will not apply for the fiscal year during which the SPF receives more than 5% of its total dividends from participations in non Luxembourg and non listed companies that are not subject to a tax equivalent to the Luxembourg corporate income tax (i.e. an effective corporate income tax rate of at least 11% for a comparable taxable basis) ^[1] .

Although exempt from corporate income tax, municipal business tax and net wealth tax, an SPF is subject to a subscription tax of 0.25% per year. The basis for this taxation is:
a The paid up share capital of the SPF;
b Share premium, if any; and
c Debt of the SPF to the extent that it exceeds 8 times (a) and (b) combined. Profit reserves are not part of the taxable basis. The minimum annual subscription tax payable by an SPF is € 100, and the maximum is € 125,000. Dividends paid by an SPF are not subject to withholding tax.

III Abolishment capital duty

In the 2008 budget law which was submitted to Parliament on October 10, 2007, the Luxembourg Government announced a gradual abolition of the capital duty, which is currently due at a rate of 1% on contributions of capital to Luxembourg companies. Pursuant to the Government proposal, which is in line with an EU proposal for a Council Directive concerning capital duty, the capital duty rate will be reduced from 1% to 0.5% starting January 1, 2008 and will be completely abolished by the end of 2009.

IV 80% tax exemption from intellectual property

On November 6, 2007, the Luxembourg government presented a bill to the Luxembourg parliament introducing, amongst other measures, an 80% exemption for net income and net capital gains from copy rights on software, patents, trademarks, designs and models. The effective tax rate for such income would thereby be reduced from the general rate of 29.63% (Luxembourg City) to 5.93%. Net income is defined as the gross income minus costs in direct relation to such income, including depreciation and amortisation.

Net capital gains on the alienation of such intellectual property are also 80% exempt, albeit that net losses stemming from the alienated intellectual property in the year of alienation or previous years are ‘recaptured’: the exemption is not applicable to the extent of such losses. Furthermore, the 80% exemption is not applicable to the extent previous capital gains were rolled over to the alienated intellectual property.

For self-developed patents the taxpayers use in their business operations, a deduction may be taken equal to 80% of the net income that could have been realised if the patent had been licensed to a third party, as of the date the application for registration of the patent is pending. The deduction will be undone, however, if the application is withdrawn or refused. The expenses and amortisations taken before the date of application are to be capitalised as per that date and thus added to taxable profit of the relevant fiscal year.

The bill of law stipulates that the relief for intellectual property applies only to intellectual property acquired or for which a registration is applied for after December 31, 2007. It is expected that the Luxembourg Parliament will adopt the bill before the end of 2007.

V. Extension tax treaty network

In 2007 Luxembourg has extended its tax treaty network by entering into new treaties with: Latvia, San Marino, Lithuania, Estonia, Moldavia and Hong Kong. The latter treaty as well as the treaty with San Marino provide for 0% dividend withholding tax on dividends paid by Luxembourg companies to certain corporate shareholders.

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Part IV-EU

ECJ limits the application of the UK thin cap legislation to purely artificial tax arrangements but only with respect to other Member States ( Thin Cap Group Litigation )

On March 13, 2007 the ECJ rendered its decision in the Thin Cap Group Litigation case (C-524/04), which concerned the compatibility of the UK thin cap legislation with the EC Treaty provisions on the freedom of establishment (Article 43), the freedom to provide services (Article 49) and free movement of capital (Article 56). Each of the test cases involved loans to a UK resident subsidiary that were, directly or indirectly, at least 75% owned by a parent company established in another Member State or in a third State (i.e. outside the European Union), granted either by the parent or by another lending company belonging to the same group, established in another Member State (directly or through a permanent establishment in a third State) or in a third State. The UK legislation under consideration covered four periods:

• Until 1995, Sec. 209 of the Income and Corporation Taxes Act 1988 provided that any interest paid to any non-UK resident lender that was a member of the same group was treated as a distribution, this treatment was modified by the provisions of certain income tax treaties (‘DTC’) concluded by the UK;
• In 1995, the law was amended to provide that interest paid between group members was treated as a distribution to the extent that it exceeded the arm's length amount, except if both payer and payee were subject to corporate income tax (‘CIT’) in the UK;
• In 1998, the transfer pricing rules, which apply to companies under common control, were extended to interest payments; these rules did not apply, inter alia, if both parties were liable to the UK CIT;
• In 2004, the transfer pricing regime was extended to transactions where both parties were subject to UK CIT.

The ECJ partially followed Advocate General Geelhoed’s Opinion of June 29, 2006. With regard to the applicable freedoms, the ECJ examined the scope of the legislation at issue, which is targeted only at relations within a group of companies, and the factual circumstances of the test cases to conclude that, as they primarily affect the freedom of establishment, the case should be decided in the light of Article 43 EC alone.
The ECJ held that the UK thin cap legislation constitutes a restriction on the freedom of establishment since it gives rise to a difference in treatment between resident borrowing companies according to the place in which the lending company has its registered office, putting a UK company which pays interest to a non-UK company in a less advantageous tax position. The ECJ held that such restriction may be justified where it specifically targets wholly artificial arrangements, which do not reflect economic reality, with a view to escaping the tax normally due. Accordingly, in order to meet the proportionality test, the UK thin cap legislation must:

• Give the taxpayer an opportunity, without being subject to undue administrative constraints, to provide evidence of any commercial reasons there may have been for entering into a transaction; and
• If the re-characterisation of interest paid as a distribution is limited to the proportion of the interest which exceeds that which would have been agreed had the relationship between the parties been at arm’s length.

The ECJ concluded that, between 1988 and 1995, the UK legislation did not satisfy those conditions where a DTC was not applicable. By contrast, where a DTC was applicable, and between 1995 and 2004, the second condition was indeed satisfied. In that context, it is for the national court to determine whether the UK legislation satisfies the first condition mentioned above. Furthermore, the ECJ resolved that freedom of establishment does not prevent the UK thin cap legislation from applying to the situations where the ultimate parent company, the lending company (does not itself control the borrowing UK company) or its permanent establishment are located in a third State.
Lastly, the Court noted that where a Member State has levied charges in breach of the rules of Community law, individuals are entitled to reimbursement of the tax unduly levied and the amounts paid which relate directly to that tax. However, other expenditure which is not directly linked to the tax, but which arises from decisions taken by companies, for example, the loss suffered by a company because it has substituted financing by way of equity capital for loan capital, do not fall within that category. As far as that expenditure is concerned, it is for the national court to determine whether it represents financial losses suffered by reason of a breach of Community law for which the United Kingdom is liable. In that context, in order to determine whether the breach is sufficiently serious to give rise to liability on the part of a Member State, the national court must take into account the fact that, in a field such as direct taxation, the consequences arising from the freedom of movement guaranteed by the EC Treaty have only gradually been made clear and that, until the judgment in the Lankhorst-Hohorst case dated December 12, 2002, the problem of thin capitalisation had not yet been addressed by the ECJ.

ECJ concludes Finnish rules on deduction of intra-group financial transfers compatible with EC law (Oy AA)

On July 18, 2007, the ECJ rendered its decision in the Oy AA case (C-231/05) concerning the compatibility of Finnish legislation on intra-group financial transfers with Community law, in particular with the freedom of establishment and free movement of capital guaranteed under Articles 43 and 56 EC, and with Council Directive 90/435/EEC of July 23, 1990 (the ‘Parent-Subsidiary Directive’). The ECJ followed in general the Opinion issued by Advocate General Kokott on September 12, 2006 (see EU Tax Alert edition no. 42, October 2006) and held that the contested legislation was compatible with the freedom of establishment.

Oy AA is a 100% Finnish subsidiary of the parent company AA Ltd. with its principal establishment in the United Kingdom (‘UK’). Unlike Oy AA, AA Ltd ran at a loss in the year in question. Oy AA wished to make a cross-border intra-group financial transfer in favour of AA Ltd. in order to secure the financial position of the latter. According to Article 3 of the Finnish Law on Intra-group Financial Transfers of November 21, 1986 (Laki konserniavustuksesta verotuksessa: the ‘KonsAvL’), making an intra-group financial transfer, which is a tax-deductible expense for the transferor, is subject to the condition that a national parent company holds at least 90% of the capital or shares of a national subsidiary. In the case at issue, this condition was met, except for the nationality requirement imposed on the transferee company. Upon Oy AA’s request, the Keskusverolautakunta (Central Tax Commission) issued a preliminary decision, expressing the view that such a transfer did not qualify as an intra-group financial transfer under Article 3 of the KonsAvL. Oy AA challenged this preliminary decision before the Korkein hallinto-oikeus (Supreme Administrative Court), which in turn, referred the matter to the ECJ for a preliminary ruling.

According to established case law, the ECJ observed that the case should fall exclusively under the scope of the freedom of establishment since:

• The factual circumstances concern a shareholding which gives AA Ltd definite influence over Oy AA’s decisions and activities; and
• The purpose of the contested legislation is to promote the interests of a group of companies. Furthermore, the Court held that the case did not fall under the scope of the Parent-Subsidiary Directive, since it concerned the first taxation of the income arising from a subsidiary’s business and the tax-deductibility of an intra-group financial transfer made in favour of its foreign parent company, whereas the Directive governs the tax treatment applicable to subsequent distribution of such income.

The ECJ then concluded that, in relation to the possibility of deducting as expenses a transfer made in favour of the parent company, the legislation at issue in the main proceedings introduced a difference in treatment between subsidiaries established in Finland, according to whether or not their parent company has its corporate seat in that same Member State. Since the subsidiaries of foreign parent companies received less favourable tax treatment than that enjoyed by the subsidiaries of Finnish parent companies, the ECJ concluded that such a difference in treatment constituted a restriction on the freedom of establishment.
In the light of the Marks & Spencer judgement (C-446/03), the ECJ accepted the justification on the grounds of safeguarding the balanced allocation of the power to tax between the Member States in combination with the need to prevent tax avoidance. The Court thus upheld that the Finnish legislation pursued legitimate objectives compatible with the EC Treaty and was justified by overriding reasons in the public interest. In this respect, the Court held that to accept that an intra-group cross-border transfer may be deducted from the taxable income of the transferor would result in allowing groups of companies to choose freely the Member State in which the profits of the subsidiary are to be taxed, and this would potentially undermine the system of the allocation of the power to tax between Member States. Furthermore, the Court observed that the possibility of transferring the taxable income of a subsidiary to a parent company with its establishment in another Member State carried the risk, by means of purely artificial arrangements, of income transfers being organised within a group of companies towards companies established in Member States applying the lowest rates of taxation or in Member States in which such income is not taxed. Finally, the Court concluded that, even if the Finnish legislation at issue in the main proceedings was not specifically designed to exclude purely artificial arrangements, devoid of economic reality, created with the aim of escaping the tax normally due on the profits generated by activities carried out on national territory, such legislation, taken as a whole, could nevertheless be regarded as proportionate to the objectives pursued.

ECJ holds former Netherlands dividend withholding tax exemption for intercompany dividend payments incompatible with EC law (Amurta)

On November 8, 2007, the European Court of Justice (‘ECJ’) rendered its decision in the Amurta case (C-379/05) concerning the compatibility of the Netherlands dividend withholding tax on outbound dividends with the free movement of capital (Article 56 EC). In general, the ECJ followed the Opinion of June 7, 2007 delivered by Advocate General Mengozzi, and concluded that, by exempting from withholding tax dividends received by companies with their seat in the Netherlands or having a permanent establishment therein while imposing such tax on dividends received by companies not established in the Netherlands, the disputed legislation is incompatible with Community law.

Amurta Sociedade Gestora de Participações Sociais (‘Amurta’) was a Portuguese resident company which held 14% of shares in the capital of Retailbox BV (‘Retailbox’), a company resident in the Netherlands. In 2002, Retailbox distributed dividends to its shareholders and withheld Netherlands dividend tax on the payment made to Amurta. Council Directive 90/435/EEC of July 23, 1990 (the ‘Parent-Subsidiary Directive’) did not apply to this case because Amurta held less than 25% of the shares in the capital of Retailbox BV. Nevertheless, had Amurta been a company resident in the Netherlands, it would have been entitled to the dividend withholding tax exemption.

Under the national legislation in force at the time, intercompany dividend payments were exempt from the 25% withholding tax when such dividends were distributed by Netherlands resident companies to parent companies resident in the Netherlands, under the condition that the so called participation exemption was applicable (in short, 5% Nederlands shareholdings). In addition and along the lines of the Parent-Subsidiary Directive, intercompany dividends were also exempt from the Netherlands withholding tax when paid to parent companies resident within the EU, provided that they have a minimum shareholding of 25% in the Dutch company.
In reply to the first preliminary question referred by the Court of Appeals at Amsterdam, the ECJ endorsed that the unfavourable tax treatment applicable to dividend payments made to a non-resident parent company which holds between 5% and 25% of the shares in a Netherlands distributing company amounts to a restriction of the free movement of capital. Based upon well-established case law, the ECJ restated that residents and non-residents are in comparable situations whenever a Member State, either unilaterally or by way of a convention, imposes a charge to income tax not only on resident shareholders but also on non-resident shareholders in respect of dividends which they receive from a resident company. In line in the Advocate General’s Opinion, the ECJ rejected the justifications presented by the Dutch government and other EU Member States, based upon the discrepancy of the Dutch and Portuguese domestic laws, fiscal coherence of the Dutch tax system and balanced allocation of taxing powers.

The referring Court also submitted a second preliminary question, inquiring whether the fact that Portugal granted a “full credit” for the Dutch dividend tax was of relevance for the answer to the first question. However, as the Advocate General noted in his Opinion, the referring Court did not specify the basis of its claim that Amurta would be entitled to a full credit. During the proceedings, Amurta contested the accuracy of the premises underlying the second question and contended that the dividends are exempt in Portugal under a participation exemption regime. Nevertheless, the ECJ considered the question to be admissible.

On one hand, the ECJ observed that the Netherlands cannot rely on the existence of a tax advantage granted unilaterally by another Member State (in this case: Portugal) in order to escape its obligations under the EC Treaty. On the other hand, the ECJ also acknowledged that a Member State may succeed in ensuring compliance with its obligations under the EC Treaty through the conclusion of a convention for the avoidance of double taxation (‘DTC’) with another Member State. However, the ECJ noted that there was nothing in the order for reference to indicate that the Court of Appeals at Amsterdam intended to refer to the relevant provisions of the DTC. The ECJ, therefore, left it to national court to establish whether account should be taken, in the main proceedings, of the Netherlands-Portugal DTC, and, if so, to determine whether that DTC is sufficient to neutralise the restriction on the free movement of capital identified in the context of the reply to the first question.

Luxembourg Administrative Court refuses horizontal compensation between Luxembourg companies held by a Belgium parent

On April 19, 2007 the Luxembourg Administrative Court of Appeals took a decision on fiscal integration (number 21.979C) by which it overturned a judgment of the administrative tribunal (first instance court in administrative and direct tax matters) of August 23, 2006 (numbers 19.717 and 20.624)1. The case, which involves double tax treaty law as well as European law, involved six Luxembourg sister companies all fully held (or nearly fully held) by a Belgian parent company. One of the Luxembourg companies realised a substantial loss (impairment of a participation) in 2004 whereas the other companies were highly profitable. In order to allow for compensation of positive and negative results of these various subsidiaries, the Luxembourg companies applied for the system of fiscal integration, i.e. for the joint taxation of the group companies involving compensation of positive and negative results.

Under Luxembourg tax laws such compensation of results of group companies is allowed under the condition that the parent company is a Luxembourg company or a permanent establishment of a limited liability company of a European Union company. Furthermore, it is required that the parent holds at least 95% of the shares of the fiscally integrated subsidiaries from the beginning to the end of the financial year. The fiscal integration regime is granted on application for a period of 5 years at least. Obviously the condition that the parent company needs to be a Luxembourg company (or a permanent establishment of a foreign company) was not fulfilled in the case submitted to the court. Accordingly, the office of assessment refused the application made for fiscal integration: in the case at hand the application asked for the permission to grant the fiscal integration regime to the Luxembourg subsidiaries by allowing them to compensate their results (horizontal compensation) whereas the results of the foreign parent are neglected (no vertical compensation). The other treaty country, i.e. Belgium in our case, had the right to tax the parent company’s income. The reasoning of the claimants was that not granting fiscal integration was in violation of the non-discrimination article of the tax treaty concluded between Luxembourg and Belgium (art. 24, par. 6 prohibits to treat differently an enterprise of one state for the simple reason that its share capital is held by a company of the other state). Indeed the only reason why fiscal integration (of the results of the Luxembourg subsidiaries) was refused was that the parent was not a Luxembourg (but a Belgian) company.

The first instance court agreed with this reasoning and in its judgment of August 23, 2006 (no 20.624) the tribunal accepted fiscal integration of the six Luxembourg subsidiary companies.
The government appealed against this judgment before the court of appeals and rather surprisingly the court overturned the judgment and refused the fiscal (horizontal) integration. The court, in its decision of April 19, 2007 (case 21.979C) held that there was no discrimination against foreign parent companies for the reason that Luxembourg tax laws did not provide for a regime of horizontal integration (only). Hence, the refusal of horizontal compensation between Luxembourg companies held by a foreign parent was not a problem for the reason that horizontal compensation was not allowed between Luxembourg companies either.

It is regrettable that the Court did not see the EC law aspects of the case and although specifically invited to ask the question of the treatment to the European Court of Justice, refused to do so.

You are most welcome to contact us if you would like to have further details.

^[1] A company established in an EU member state and covered by article 2 of EC Parent-Subsidiary Directive fulfils this condition.

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