Opinion Statement of the CFE on Double Tax Conventions and the Internal Market: factual examples of double taxation cases

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1 Opinion Statement of the CFE on Double Tax Conventions and the Internal Market: factual examples of double taxation cases Submitted to the European Institutions in July 2010

2 This is an Opinion Statement prepared by the CFE Fiscal Committee in response to the Public Consultation Paper issued by the European Commission on 27 April 2010 on Double Tax Conventions and the Internal Market: factual examples of double taxation cases. The CFE is the leading European association of 32 national tax advisory organisations representing over 180,000 tax advisers. Double Tax Conventions and the Internal Market: factual examples of double taxation cases. There is considerable evidence that the existence of double taxation can be a serious disadvantage for markets and this is explicitly recognised by OECD in the Introduction to the Model Tax Convention on Income and on Capital: International juridical double taxation can be generally defined as the imposition of comparable taxes in two (or more) States on the same taxpayer in respect of the same subject matter and for identical periods. Its harmful effects on the exchange of goods and services and movements of capital, technology and persons are so well known that it is scarcely necessary to stress the importance of removing the obstacles that double taxation presents to the development of economic relations between countries. July 2008 edition of the Model Convention Also former European Taxation and Customs Commissioner László Kovács has pointed out that There is one taxpayer right which deserves particular attention at EU level, namely the right to only be taxed once on income rather than as it sometimes happens- twice or even more times. [ ] It is a classic example of an obstacle to the Internal Market arising from a lack of coherence between national tax systems which can be improved by co-ordination between Member States. Foreword to the CFE 50 th anniversary commemorative book, 2009 Residence issues One instance where double taxation can arise is when there are diverging rules on residence. Article 4 does set out a tie-breaker but, ultimately, it will come down to the mutual agreement procedure which does not always eliminate the problem. In the recent, 2009, UK case, Laerstate BV [2009] UKFTT 209, the company in question was a Dutch company which was deemed by the UK First Tier Tribunal to be resident for tax purposes in the UK. As a result the gain on the disposal of the shareholding in Lonrho plc were taxable in the UK. But the Netherlands may also have sought to tax the capital gain from the sale of the shares because, under Dutch rules, the company was also tax resident in the Netherlands? So double taxation could have been the consequence.

3 We have also been aware of a number of problems in Italy where Italian companies with subsidiaries in other EU member states, such as Luxembourg, have to demonstrate to the Italian authorities that the subsidiary has real substance and is not artificial. Otherwise the company is deemed to be resident in Italy. There is then no relief in Italy for any tax that has been paid in Luxembourg. We cite below another problem that has been notified to us by our Italian member organisation. According to the deemed residence rule (under Article 73(5-bis) (5-ter) of the Italian Tax Code - TUIR), the place of management of a foreign-based company is presumed to be located in Italy and, accordingly, the company is considered tax resident in Italy, when: the latter holds a controlling participation in an Italian corporation; and it is either: controlled, directly or through a sub-holding, by an individual and/or a company with tax residence in Italy; or managed by a board of directors, or any other equivalent management body, consisting mainly of members with tax residence in Italy. When the above conditions are satisfied a reversal of the burden of proof occurs and the challenged company needs to provide evidence to demonstrate that the place of management is not located in Italy in order to avoid any potential tax and criminal liability in Italy. Hence, the deemed residence rule is one which exclusively concerns the burden of proof within the tax assessment procedure and does not interfere with, or modify, the substantive factors linking companies to Italian tax residence. In fact, pursuant to Article 73(3) TUIR, a company is considered to be resident in Italy when its legal seat, place of management or main business purpose is located in Italy for the greater part of the fiscal year. If the deemed residence rule does not apply, then the burden of proof reverts to the Italian Tax Authorities which must demonstrate that either: (a) the place of management is located in Italy; or (b) the main business purpose is carried on in Italy, in order to claim the foreign-based company s tax residence is in Italy, as was always the situation prior to the introduction of the deemed residence rule. Different categorisation of income Another problem may occur when different EU member states characterise the same income in a different way. An example is income which, under the OECD Model Convention, constitutes business income in one State (taxable only in the State of residence according to Article 7), but royalties in another country. This may happen with the so-called technical assistance and consulting services. One of our members had to deal with a case involving Greece, which had characterised field work (undertaking interviews in the streets to ascertain the customer views on a product) as income taxable in Greece. That was a problem for the Spanish company because, under domestic Spanish law, a Spanish resident cannot credit a tax withheld abroad if that tax has been imposed contrary to the provisions of the relevant bilateral double tax convention. In practice the Spanish

4 Ministry initiated an unofficial mutual agreement procedure with Greece and double taxation was avoided. Cross border losses The absence of effective, immediate, relief for losses incurred by associated and subsidiary companies in other member states is another form of effective double taxation. Without effective relief for losses within a single group of companies the group will pay tax on profits when at the same time it may have losses in another member state. The Common Consolidated Corporate Tax Base (CCCTB) project that was put on hold in 2008 and which may be revived by the present EU Commission would have the effect of giving relief for cross border losses and eliminate this particular source of double taxation. Cross border payments of dividends In the light of the above OECD statement it is clear that the existing arrangements for the taxation of, for instance, cross border dividend payments is less than satisfactory. The very recent case of Damseaux C-128/08, where the ECJ judgment of July 2009 reflected the earlier judgment in Kerckhaert- Morres C-513/04, clearly demonstrated instances of juridical double taxation about which the Court determined it could do nothing because the double taxation arose as a consequence of the exercise in parallel by two Member States of their fiscal sovereignty. Double taxation issues can also arise where the relevant bilateral Double Taxation Convention doesn t eliminate the withholding tax and the conditions to satisfy the Parent Subsidiary directive are not met and the dividend is then exempt, or mainly exempt, from tax in the hands of the dividend recipient, i.e. under a participation exemption system. The withholding tax becomes then an additional cost for which there is no relief. Cross border payments of royalties A problem can arise, for instance in the UK, where royalties are subject to withholding tax in the country of payment, i.e. the Double Tax Convention does not provide for gross payment, and the royalty is only taxed on a net basis after the deduction of a proportion of the recipient company s costs. The withholding tax on the gross payment is, as a result, far greater than the tax liability on the, net of costs, royalty and the excess withholding tax goes unrelieved. Another problem can arise in respect of both interest and royalties if they are subject to withholding tax but the recipient company is in a loss position when the interest or royalties are received. There is then no corporation tax liability against which the withholding tax can be offset and if there is no provision for the withholding tax to be carried forward to offset against future liabilities then that withholding tax represents double taxation. This particular problem has been identified by our French member organisation but it may also be a problem in other EU member states.

5 Artistes income A problem may arise when the tax is withheld at source on the gross income but the credit is given on the net income. This problem was solved in cases dealing with Artistes income (Article 17 of the OECD), by the ECJ in the judgments Gerritse (C- 234/01), Scorpio (C-290/04) and Centro Equestre da Leziria Grande (C-345/04). The cases were not on the grounds of potential double taxation but because the source country applied different rules to residents and non-residents. The absence of equal treatment, of residents and non-residents, has only been held by the ECJ to be a problem when it involves source countries and not when resident country rules have been under consideration. Taxes not covered by Double Tax Conventions Double taxation is likely to be more frequent in relation to taxes, such as inheritance and gift taxes, where there are few treaties between the member states. For example, Spain only has three such treaties which are with France, Greece and Sweden and Belgium two, which are with France and Sweden. How existing Double Tax Conventions could be improved A number of existing treaties between the EU member states were entered into a number of years ago. They do not reflect the progress that has been made at EU level in relation to the elimination of double taxation e.g. by the promulgation of the relevant EU directives. In addition, a number of EU member states have treaties with third countries that are more advantageous than equivalent treaties with EU member states and they should be encouraged to create a level playing field by upgrading their treaties with fellow EU member countries.