CJEU rules that Dutch interest deduction limitation rule complies with EU law
CJEU rules that Dutch interest deduction limitation rule complies with EU law
On 4 October 2024, the Court of Justice of the European Union (CJEU) ruled that the Dutch interest expense deduction limitation in article 10a of the Corporate Income Tax Act (CITA) does not violate EU law. The judgment was broadly in line with Advocate General Emiliou’s opinion in the case, published earlier this year.
In the Lexel case (C 484/19), the CJEU ruled that an ostensibly similar interest deduction limitation rule in Sweden was not compatible with EU law and seemed to imply that a loan concluded under at arm’s length conditions cannot be considered artificial. Following the Lexel case, the Dutch Supreme Court made a preliminary ruling request on the compatibility of article 10a CITA with the EU treaty freedoms (case C-585/22).
In his Opinion earlier this year, the EU Advocate General concluded that article 10a CITA does fall within the scope of the EU freedom of establishment and that the Dutch rules restrict that freedom, but that the restriction can be justified based on the need to combat tax avoidance (see our Insight).
The CJEU determines that EU law allows national legislation to deny the deduction of the entire interest on a loan that lacks economic justification and would not have been taken out without the intragroup relationship between the parties involved and the tax advantage aimed for. This holds true even if the loan was made at arm's length and the interest rate was in line with what independent parties would have agreed upon.
Regarding the comparison with Lexel, the CJEU states that Article 10a CITA is not analogous to the Swedish interest deduction limitation rule since their purposes differ. The Swedish rule aimed to counter aggressive tax planning, not purely artificial arrangements, and its application was broader. The CJEU also clarifies that transactions at arm’s length should not automatically be viewed as non-artificial from the Lexel judgment.
Interested in how article 10a CITA might impact your business? Contact us via our form or directly through your BDO contact person.
Background
Article 10a CITA is designed to prevent erosion of the Dutch tax base and disallows the deduction of interest on loans from related parties based on a presumption that such loans are aimed at artificially lowering the tax base even if the transaction was on arm’s length conditions. A taxpayer can avoid forfeiting the deduction if it can demonstrate that there are predominantly sound business reasons for the debt and the “tainted transaction”.In the Lexel case (C 484/19), the CJEU ruled that an ostensibly similar interest deduction limitation rule in Sweden was not compatible with EU law and seemed to imply that a loan concluded under at arm’s length conditions cannot be considered artificial. Following the Lexel case, the Dutch Supreme Court made a preliminary ruling request on the compatibility of article 10a CITA with the EU treaty freedoms (case C-585/22).
In his Opinion earlier this year, the EU Advocate General concluded that article 10a CITA does fall within the scope of the EU freedom of establishment and that the Dutch rules restrict that freedom, but that the restriction can be justified based on the need to combat tax avoidance (see our Insight).
CJEU judgement
The CJEU concluded that, while article 10a CITA limits the freedom of establishment, this limitation can be justified because the legislation aims to combat tax avoidance and applies only to wholly artificial arrangements. Determining whether an arrangement is ‘wholly artificial’ should be based on objective and verifiable criteria. The CJEU identifies one such criterion as whether the loan adheres to arm’s length conditions. The CJEU stresses that assessing compliance with arm’s length conditions must reflect the economic reality of the transactions. This assessment requires examining the terms of the loan, including the interest rate, and importantly, whether concluding the loan as such and the related transactions align with what independent parties would have agreed upon under similar circumstances.The CJEU determines that EU law allows national legislation to deny the deduction of the entire interest on a loan that lacks economic justification and would not have been taken out without the intragroup relationship between the parties involved and the tax advantage aimed for. This holds true even if the loan was made at arm's length and the interest rate was in line with what independent parties would have agreed upon.
Regarding the comparison with Lexel, the CJEU states that Article 10a CITA is not analogous to the Swedish interest deduction limitation rule since their purposes differ. The Swedish rule aimed to counter aggressive tax planning, not purely artificial arrangements, and its application was broader. The CJEU also clarifies that transactions at arm’s length should not automatically be viewed as non-artificial from the Lexel judgment.
What next?
With confirmation that article 10a CITA complies with European law, there is no need for the Dutch legislator to change the law on this matter. The Dutch Supreme Court has the ultimate authority on the facts of this case. For the taxpayer involved, the rebuttal rule could potentially lead to deduction of the interest expenses. It is crucial to consider article 10a CITA when establishing financing structures.Interested in how article 10a CITA might impact your business? Contact us via our form or directly through your BDO contact person.