On 26 February 2019, the Court of Justice of the European Union (CJEU) issued decisions in six cases (joined cases C-116/16 and C-117/16 and joined cases C-115/16, C-118/16, C-119/16 and C-299/16) concerning the Danish withholding tax treatment of dividends and interest and the concept of beneficial ownership in the context of the EU parent-subsidiary directive (PSD) and interest and royalties directive (IRD).
The CJEU held that EU member states should deny the tax relief provided in the directives in situations where taxpayers use the directives for abusive or fraudulent purposes, even when there is no domestic law targeting such abuse and that it is up to the Danish courts to determine whether the arrangements in the cases involve abuse or fraud.
Tax authorities denied taxpayers’s requirement
All of the cases involve situations where a Danish company distributed dividends or paid interest to a company resident in another EU member state. The EU company subsequently redistributed or repaid the amounts received to shareholders that were either private equity funds or companies resident outside the EU (jurisdictions like Bermuda, the Cayman Islands or Jersey). Subsequently, final payments were made to the ultimate owners that generally were resident in jurisdictions that had concluded a tax treaty with Denmark. The taxpayers in all six cases requested exemptions from withholding tax under the PSD or the IRD, which were denied by the Danish tax authorities on the grounds that the interposed EU companies were not the beneficial owners of the income.
In fact, the PSD does not contain a beneficial ownership requirement, but the IRD requires the beneficial owner of the interest or royalties to be a company or permanent establishment in another EU member state. Even though Denmark’s domestic law did not explicitly require beneficial ownership for dividends, it did apply such a requirement to prevent abuse (even before the general anti-avoidance rule (GAAR) was introduced in the amendment to the PSD in 2015). In practice, the Danish tax authorities applied the same beneficial ownership test to both interest and dividends.
The CJEU was asked to interpret the phrase “beneficial owner of the interest” in the IRD. The court stated that the beneficial owner for these purposes is the entity that actually benefits economically from the interest and has the power to determine the use to which the interest is put.
Another issue addressed in the cases was whether a member state—to combat abuse of the PSD or IRD—must have adopted a specific provision transposing that directive into its domestic law. The CJEU stated that it is up to the national courts to determine whether an arrangement constitutes an abuse of rights. The facts of a case must be analysed to determine whether the parties have carried out purely formal or artificial transactions lacking any economic and commercial justification to benefit from an improper advantage. An absence of actual economic activity must be inferred from an analysis of all of the relevant factors relating to the management of the company, its balance sheet, the structure of its costs and expenditure actually incurred, its staff and the company’s premises and equipment.
Danish case as a precedent for other EU member states
In general, the CJEU decisions provide specific guidance regarding the constituent elements of an abuse of rights in relation to the benefits under the PSD and IRD. In this connection, it should be noted that the CJEU requires the member states to deny rights where abuse is present. As the CJEU applies a general EU anti-abuse principle, the decisions in the Danish cases may be regarded as an interpretation of the GAAR rule implemented in all EU member states based on the EU anti-tax avoidance directive.
The CJEU has referred the cases back to the Danish court for an interpretation on whether the six individual cases involve fraud or abuse. If an abusive nature can be established, the withholding tax exemption for dividends/interest paid is to be denied.
The article is part of dReport – April 2019, Tax news; Grants and investment Incentives.