CJEU judgment on application of Belgian notional interest deduction to Dutch permanent establishment
Publication date 09 July 2013
On July 4, 2013, the Court of Justice of the European Union (CJEU) rendered judgment in the Argenta Spaarbank NV case (C-350/11). The CJEU ruled that the Belgian governments refusal to apply the tax deduction for risk capital (notional interest deduction) to Dutch permanent establishments violates the freedom of establishment.
Argenta Spaarbank NV (Argenta) is a Belgian resident company with a permanent establishment in the Netherlands. Pursuant to the Dutch-Belgium tax treaty, the profit of this permanent establishment is taxed in the Netherlands. Argenta wishes to be eligible for the notional interest deduction in Belgium. This tax deduction is intended to stimulate equity financing. It is a method whereby the interest that is deemed to be payment for the companys equity is notionally deducted from the taxable profit for corporate income tax purposes.
Argenta requested permission from the Belgian tax authorities to take into account the net value of the assets of the permanent establishment in the Netherlands for the purposes of calculating the notional interest deduction, as a permanent establishment in Belgium is permitted to do so. The Belgian tax authorities refused this request based on Belgian law, under which the deduction is limited to the equity of the Belgian head office. The Court of First Instance in Antwerp requested a preliminary ruling from the CJEU. Advocate General Mengozzi (AG) had previously concluded that the territorial condition included in Belgian legislation violates the freedom of establishment. The Belgian government argued that as it cannot tax the profit of the Dutch permanent establishment, it is not obligated to take into account any tax relief in respect of that permanent establishment. However, the AG sees no reason to not take the equity of a permanent establishment resident abroad into account.
The CJEU has now ruled that the Belgian notional interest deduction is a restrictive measure, as the net value of the assets of a permanent establishment in a Member State with which Belgium has concluded a tax treaty is not taken into account when calculating the deduction, while the assets of a permanent establishment in Belgium are taken into account. The Belgium government put forward two justification grounds for this restriction.
Firstly, it invoked the necessity to preserve the cohesion of the tax system. This argument was rejected by the CJEU, as it considered that the required direct link between the benefit from the notional interest deduction and the disadvantage of taxing the permanent establishments profit was absent. After all, there is no requirement in Belgian law that states that a domestic permanent establishment has actually been taxed.
Secondly, the Belgian government argued that not granting the notional interest deduction for the equity of the permanent establishment is justified in view of the preservation of the allocation between Member States of the power to tax. As the interest paid on actual debts relating to the assets of the permanent establishment is allocated to the permanent establishment, this would also apply to the notional interest deduction. The CJEU also rejected this argument, as the notional interest deduction is calculated on the basis of the own capital of the company in question and not in proportion to the profit generated by its assets.
The CJEU therefore concluded that the exclusion of the net value of the assets of permanent establishments violates the freedom of establishment.
Consequences for the Netherlands
The CJEUs judgment raises the question whether Section 13l(7) Corporate Income Tax Act (CITA) is compatible with EU law. Under these rules, which took effect on January 1, 2013, the deduction limitation for participation interest is not applicable to components of the capital (and income) of the exempted foreign permanent establishment. Parliament intended Section 13l to only apply to the head office. This means that the equity allocable to a foreign permanent establishment cannot be taken into account when determining the participation debt, i.e. the amount by which the acquisition price of the participation exceeds the equity. The CJEU judgment provides good grounds for arguing that these new rules cannot be justified by invoking the preservation of the allocation of the power to tax between Member States.