Dutch Government releases proposed amendments to interest limitation provisions for consultation

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1 23 June 2016 Global Tax Alert Dutch Government releases proposed amendments to interest limitation provisions for consultation EY Global Tax Alert Library Access both online and pdf versions of all EY Global Tax Alerts. Copy into your web browser: Executive summary Following an initiative in the Dutch Parliament, the Dutch Government released its proposed amendments to existing interest limitation rules specifically targeting base erosion through interest deductions arising from related party and acquisition financing. A consultation is opened to the public and comments can be provided by 18 July The proposed rules are expected to be included in the 2017 Dutch Budget that will be presented on 20 September The amendments predominantly broaden the scope of the anti-base erosion rules of article 10a Dutch Corporate Income Tax Act 1969 (CITA) and the leveraged buy-out rules of article 15ad CITA to address certain loopholes. This Alert summarizes the proposed amendments and their implications. Detailed discussion Anti-base erosion rules current state The deduction of interest, including related costs and currency exchange results, by a Dutch company on a related-party loan is disallowed to the extent that the loan is used to finance capital transactions with related parties, e.g., acquisition of shares, dividend distributions and capital contributions (tainted transactions).

2 2 Global Tax Alert A party is considered a related party if: (i) the Dutch taxpayer has at least a one third interest in the other company, (ii) the other party has at least one third interest in the Dutch party, or (iii) a third company has at least one third interest in both the Dutch taxpayer and the party concerned. The interest deduction related to tainted transactions might however still be allowed if it can be argued that there are predominantly business reasons for the transaction and the debt financing. Anti-base erosion rules proposed amendment Under the proposed rules the definition of a related party is expanded to also include a company that is part of a cooperating group of companies holding a total combined interest of at least one third in a Dutch company (cooperating group). Hence, even if the formal requirement of at least a one third interest is not met by a company on a stand-alone basis, that company could still be considered a related party if that company is part of a cooperating group. Whether the investment in a Dutch company held through multiple companies is considered part of a coordinated/combined investment of a cooperating group has to be determined based on the facts and circumstances. A specific example of a cooperating group that is included in the explanation to the consultation is multiple private equity funds that are managed by the same general partner. Under the proposed amendment a cooperating group shall be deemed present if: The voting power of (and the design of) the investment and interest in the acquired company is in substance vested in a coordinating (legal) person Each shareholder made its investment under similar conditions with a comparable mix of equity and (risk bearing) loans Leveraged buy-out rules current state As per 1 January 2012, legislation was introduced regarding the disallowance of financial expenses relating to (deemed) excessively leveraged acquisitions. This legislation intends to deny only the interest expense incurred by excessively leveraged acquisition companies (i.e., if the acquiring company that obtains the debt and is included in the fiscal unity with a Dutch target has no stand alone profits). If the acquiring company has no standalone profits, the deductibility of interest expenses on (related and third party) debt is limited to 60% (reduced by 5 percentage points annually to 25%) of the purchase price in the first tax year the target company is in included in the fiscal unity. Leveraged buy-out rules proposed amendment The intent of the proposed amendments is to address certain loopholes that are perceived as circumventing the effective application of the leveraged buy-out rules. Three specific legislative changes are proposed in the consultation: 1. Amendment of the mathematical rule that determines the stand-alone profit (the amount of profit that is available for offset against interest expenses) to tackle a specific debt-push down transaction. 2. Introduction of stricter rules that prevent planning to restart the seven year period (and therefore effectively always applying the 60% threshold) by using a new internal acquisition company each year. 3. The grandfathering rules cannot be applied if a fiscal unity formed before 15 November 2011 did become part of another fiscal unity that is formed on or after 15 November The Dutch Government reconfirmed that the following grandfathering rules remain applicable after the proposed law change: A fiscal unity formed before 15 November 2011 does not fall under the leveraged buy-out rules. The leveraged buy-out rules do not apply to the refinancing of debt obtained by companies in a fiscal unity that is grandfathered. A fiscal unity formed before 15 November 2011 remains grandfathered even in case of a share transfer but under the condition that the fiscal unity remains in place. Similar amendments are proposed to avoid that the leveraged buy-out rules can be circumvented through a legal merger or demerger. Interaction with EU Anti-Tax Avoidance Directive (ATAD) On 21 June 2016, the Economic and Financial Affairs Council of the European Union (ECOFIN ) reached final political agreement on the ATAD. The ATAD in principle limits the deduction of exceeding borrowing costs to 30% of taxable earnings before interest, taxes, depreciation and

3 Global Tax Alert 3 amortization (EBITDA), with an escape to apply the group ratio (earnings stripping rule). Also, the Netherlands must implement the earnings stripping rule into its domestic law by 1 January In view of the earnings stripping rule, the Dutch Government already announced that the existing set of interest deduction limitation rules will be evaluated. It seems likely that the specific anti-base erosion rule of article 10a CITA remains in place. The leveraged buy-out rules of article 15ad CITA may however no longer be needed if the earning stripping rule is implemented and might be abolished. Who could be affected? Dutch companies that were subject to or participated in a leveraged buy-out transaction (most common by means of a fiscal unity). Dutch companies that debt financed a tainted transaction in scope of the anti-base erosion rules that are however under the current rules not impacted merely because the financing is not obtained from a related party or because the tainted transaction did not involve a related party. Businesses should monitor the consultation and legislative process for further developments and to assess potential appropriate actions or alternatives. Effective date and legislative process The consultation is open to the public until 18 July After the consultation, the proposed law is expected to be published on 20 September 2016 (i.e., as part of the 2017 Dutch Budget) and will have to be approved by the Dutch Parliament. It is envisaged that the changes will become effective on 1 January 2017 and will be applicable to (fiscal) years starting on or after 1 January Interaction with the ATAD will be monitored.

4 4 Global Tax Alert For additional information with respect to this Alert, please contact the following: Ernst & Young Belastingadviseurs LLP, International Tax Services, Amsterdam Danny Oosterhoff Dirk Stalenhoef Ernst & Young Belastingadviseurs LLP, International Tax Services, Rotterdam Michiel Swets Ernst & Young Belastingadviseurs LLP, International Tax Services, Eindhoven Cyrille Prevaes Ernst & Young LLP, Belgium-Netherlands Tax Desk, New York Dirk-Jan Sloof Ernst & Young LLP, Belgium-Netherlands Tax Desk, Chicago Erwin Sieders Ernst & Young LLP, Belgium-Netherlands Tax Desk, San Jose Sebastiaan Boers Ernst & Young LLP, Belgium-Netherlands Tax Desk, Beijing Yee Man Tang Ernst & Young LLP, Belgium-Netherlands Tax Desk, Hong Kong Bas Leenders Ernst & Young LLP, Belgium-Netherlands Tax Desk, Singapore Barbara Voskamp Ernst & Young LLP, Belgium-Netherlands Tax Desk, Sydney Yvette Gorter-Leeuwerik Ernst & Young LLP, Belgium-Netherlands Tax Desk, London Jelger Buitelaar

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