Proposed changes to entity tax classification rules
The Netherlands has unique rules when it comes to the classification of limited partnerships (LPs) and other foreign entities for Dutch tax purposes. LPs are only considered transparent for Dutch tax purposes in case the admission and substitution of limited partners is subject to the prior unanimous consent of all (i.e., both limited and general) partners. This requires specific provisions in the limited partnership agreement (which also need to be adhered to). In the absence of such provisions, which is normally the default, the LP (domestic and foreign) is considered opaque for Dutch tax purposes.
Legislation is proposed to revise the Dutch tax classification rules for Dutch LPs and foreign entities. The new legislation is expected to enter into force on January 1, 2025, and in essence entails the following:
- LPs formed under Dutch law (Dutch CVs) will always be classified as transparent for Dutch tax purposes (including existing ones).
Entities formed under foreign law will be classified in accordance with their most similar Dutch equivalent under Dutch corporate law. This means that foreign LPs – in line with the classification of Dutch LPs – will be considered tax transparent as from January 1, 2025.
As an exception, LPs equivalent to Dutch CV’s are already considered tax transparent as from January 1, 2024 but only for purposes of applying the hybrid entity provision of the conditional withholding tax on dividends (see below).
- In case no clear Dutch equivalent can be identified, the following two supplementary rules will apply for the classification of a foreign entity:
- The classification for foreign tax purposes would generally be followed; or
- If the foreign entity is based in the Netherlands, it will always be classified as opaque for Dutch tax purposes and will thus become a Dutch taxpayer.
There is currently no clear guidance on what the equivalent of a U.S. LLC is under Dutch corporate law. An LLC is generally considered not equivalent (enough) to a Dutch LP. Under the new rules, if an LLC is considered equivalent to a Dutch limited liability company (BV), it would be treated as opaque for Dutch tax purposes. If the LLC is not considered equivalent to a BV under Dutch corporate law, the U.S. tax classification would be followed (unless the LLC is based in the Netherlands). This also means that a U.S. check-the-box election would have a direct impact on the classification for Dutch tax purposes.
Impact for U.S. MNEs and fund sponsors:
The amendment of the tax classification rules for LPs (and foreign entities) is generally good news as it reduces classification (hybrid) mismatches in an international context. This is for instance helpful for non-Dutch investment funds that would like to accommodate a tax transparent structure for their Dutch investors.
Furthermore, the use of Dutch LPs in investment or joint venture structures could become more attractive due to their classification as transparent for Dutch tax purposes.
Nevertheless, all existing structures should be checked for the impact of the change of these rules well before year-end 2024 (certain roll-over and restructuring facilities have also been proposed).
Conditional withholding tax on dividends
Per January 1, 2024, legislation will enter into effect pursuant to which conditional withholding tax on dividends (CWHT) will be levied on distributions that cumulatively meet the following two conditions:
- A dividend distribution by a Dutch resident entity is made to an entity (Recipient) that – standalone or together within a cooperating group – has a ‘controlling interest’ (Controlling Interest). A Controlling Interest is in any case present if the Recipient holds more than 50% of the voting rights in the distributing entity.
- One of the following scenarios applies:
- The Recipient is located in a low-tax jurisdiction (< 9% statutory profit tax rate) or a jurisdiction included on the EU list of non-cooperative jurisdictions for tax purposes (jointly, Tainted Jurisdictions).
- The Recipient is a (reverse) hybrid entity (subject to certain exceptions).
LPs equivalent to Dutch CV’s are considered transparent for the hybrid entity provision in the CWHT legislation as from January 1, 2024. This should reduce the number hybrid mismatch situations as these LPs would generally be treated as fiscally transparent in foreign jurisdictions as well.
- The structure is considered abusive (e.g., in case the Recipient is held, directly or indirectly, by an entity in a Tainted Jurisdiction and the sole purpose of the interposition of the Recipient is to secure a more favourable CWHT position).
Ad (i): For the year 2023, the following jurisdictions are considered Tainted Jurisdictions: American Samoa, Anguilla, Bahamas, Bahrain, Barbados, Bermuda, British Virgin Islands, Cayman Islands, Fiji, Guam, Guernsey, Isle of Man, Jersey, Palau, Panama, Samoa, Trinidad and Tobago, Turkmenistan, Turks and Caicos Islands, United Arab Emirates, US Virgin Islands, Vanuatu. Note that this list is updated annually and thus subject to change.
If due, CWHT will be levied at the highest Dutch corporate income tax rate (in 2024: 25.8%). The already existing (non-conditional) 15% Dutch dividend withholding tax (DWT) will continue to apply. In case both CWHT and DWT are due, the DWT will be credited against the CWHT. Similar CWHT already also applies in relation to interest and royalty payments since 2021.
Impact for U.S. MNEs and fund sponsors:
U.S. MNEs and fund sponsors with Dutch investments should review whether the CWHT may apply to them and determine whether any restructuring is required before January 1, 2024. Some attention points are the following:
- If there is an entity in a Tainted Jurisdiction between the Dutch entity and the U.S. parent company, CWHT may be due on distributions by such Dutch entity. This could even be the case if the entity in the Tainted Jurisdiction only holds an indirect interest in the Dutch distributing entity (e.g., a U.S. listed parent company with a Bermuda subsidiary that indirectly holds a Dutch entity).
- Distributions to hybrid entities are as a main rule subject to CWHT as from 2024. The good news is that the number of classification mismatches and thus hybrid entities for purposes of the application of the CWHT hybrid entity provision – in relation to LPs equivalent to Dutch CVs – should decrease per January 1, 2024.
- When it comes to Dutch cooperatives, only distributions by ‘holding cooperatives’ (cooperatives mainly engaged in holding and financing activities) can be subject to DWT. The new CWHT legislation has a broader scope as it can subject distributions by all (i.e., both holding and non-holding) cooperatives to CWHT if the two conditions mentioned above are met.
For additional information on the most relevant other Dutch budget proposals for corporate taxpayers, please read our Tax Flash on the 2024 Dutch budget.