Treaty Application for Companies in a Group (FM nr. 178) 2022/3.4.3:3.4.3 Convention provisions with group situation affecting withholding tax

Treaty Application for Companies in a Group (FM nr. 178) 2022/3.4.3

3.4.3 Convention provisions with group situation affecting withholding tax

Documentgegevens:

L.C. van Hulten, datum 06-07-2022

Datum: 06-07-2022
Auteur: L.C. van Hulten
JCDI: JCDI:ADS659459:1
Vakgebied(en): Omzetbelasting / Plaats van levering en dienst

Some tax treaties provide for an exemption from withholding tax on interest payments to group companies. One example is the treaty between Belgium and Rwanda, which exempts interest payments if they are made to a creditor who holds at least 35% of the share capital in the payer.1 The treaty between Poland and Switzerland also provides for an exemption for intra-group interest payments. The exemption has a broad scope of application: it applies to associated companies.2Such provisions completely eliminate juridical double taxation of interest payments in group situations.3

By contrast, the treaty between Belgium and Luxembourg contains an exception to the exemption from withholding tax in the situation where the creditor holds at least 25% of the shares in the payer.4 This provision thus leads to the opposite result in comparison to the two provisions described above: specifically in group situations withholding tax may be deducted. The explanatory memorandum to this treaty does not explain the background of the provision.5 The provision could be aimed at preventing abuse within groups.

The treaty between Germany and the Netherlands provides for a Protocol provision that prescribes a group approach.6 Under this provision, if Germany wants to apply its national tax legislation to a Dutch entity it must, in certain circumstances, treat associated companies in the Netherlands on a consolidated basis. Thus, the background to this provision is German domestic legislation. This legislation imposes certain requirements on the shareholder for the reduction of German withholding tax on dividend payments. If a Dutch shareholder does not perform sufficient activities in the Netherlands, this shareholder is in principle not eligible for the reduction of German withholding tax. From a Dutch perspective, this outcome was undesirable in a situation where the Dutch direct recipient of the dividend does not perform sufficient activities, but the entity is, e.g., part of a fiscal unity with several operating companies. Under the Protocol provision, Dutch associated companies are regarded as a single entity for the application of the German national anti-abuse rules. Hence, fiscal unity companies are included in the assessment, as well as associated companies that are not part of any fiscal unity.7 Due to the group approach in the provision, the anti-avoidance rules will apply in fewer cases.

The treaty between the United States and Japan also contains a specific provision regarding withholding taxes on interest.8 The provision provides for an exemption from withholding tax for interest earned by companies that meet certain requirements regarding the size of their assets and liabilities.9 The exemption is aimed at, inter alia, entities that issue bonds and provide loans.10 The question arose whether the criteria should be applied at the level of the legal entity or at the level of the national or worldwide group. For this provision the consolidated financial statements should be used.11

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Belgium - Rwanda Income and Capital Tax Treaty 2007, art. 11, par. 3, sub d: ‘Notwithstanding the provisions of paragraph 2, interest shall be exempted from tax in the Contracting state in which it arises if it is: … d) interest paid by a company which is a resident of a Contracting state to a company which is a resident of the other Contracting state and which holds directly or indirectly at least 35 % of the capital of the first-mentioned company, insofar as the total amount of the loan(s) granted by the second company does not exceed an amount equal to the equity of the first-mentioned company.’

Poland - Switzerland Income and Capital Tax Treaty 1991, as amended through 2010, art. 11, par. 2a: ‘Notwithstanding the provisions of paragraph 2, interest paid by a company which is a resident of a Contracting state to a resident of the other Contracting state shall be taxable only in that other state if the beneficial owner is a company (other than a partnership) associated with the company paying the interest.’

As indicated earlier, a reduction of the withholding tax and subsequent crediting at the level of the parent company does not entirely eliminate juridical double taxation, as the withholding tax is levied as a percentage of the gross amount whereas calculation of the double taxation relief is based on the net amount.

Belgium - Luxembourg Income and Capital Tax Treaty 1970, as amended through 2009, art. 11, par. 3: ‘Contrary to the provisions of paragraph 2, interest may not be taxed in the Contracting state in which it arises, if it is paid to an enterprise of the other Contracting state. The preceding sentence shall not apply to: … b. interest paid by a company which is a resident of a Contracting states to a company which is a resident of the other Contracting state which owns directly or indirectly at least 25% of the voting stock or shares of the first-mentioned company.’

Explanatory memorandum on the application of the Convention between Belgium and Luxembourg of 17 September 1970for the avoidance of double taxation and the regulation of certain other questions relating to taxes on income and capital and of the Final Protocol. Circ. 973 of 10 December 1973. Bulletin no. 515, p. 190-232.

Germany - Netherlands Income and Capital Tax Treaty 2012, as amended through 2016, Protocol XV, Ad art. 23, par. 4.

Dutch Parliamentary Documents II 2012/13, 33611, 3, p. 34.

In a study regarding tax treaty policy in the United States, the researchers observed that treaties in a general sense should guide the tax treatment of multinational companies. As an example they referred to the provision in the treaty between the United States and Japan (M.C. Benett, C.A. Dunahoo, ‘The NFCT Tax Treaty Project: Towards a U.S. Tax Treaty Policy for the Future: Issues and Recommendations’, Prepared by the National Foreign Trade Council, Inc. Washington, DC, 2004, p. 91).

Japan - United States Income Tax Treaty 2003, as amended through 2013, art. 11, par. 3, sub-par. c, iv, (iv): ‘3. Notwithstanding the provisions of paragraph 2, interest arising in a Contracting State shall be taxable only in the other Contracting State if: ...(c) the interest is beneficially owned by a resident of that other Contracting State that is either: …; or(iv) any other enterprise, provided that in the three taxable years preceding the taxable year in which the interest is paid, the enterprise derives more than 50 percent of its liabilities from the issuance of bonds in the financial markets or from taking deposits at interest, and more than 50 percent of the assets of the enterprise consist of debt-claims against persons that do not have with the resident a relationship described in subparagraph (a) or (b) of paragraph 1 of Article 9.’ Abolishing the withholding tax is in line with the treatment as proposed by the OECD for financial institutions (Commentary on art. 11 OECD MTC, par. 7.7).

10.

The provision explicitly excludes entities that largely provide intra-group loans.

11.

Record of Discussions with respect to the convention between the government of Japan and the Government of the United States of America for the avoidance of double taxation and the prevention of fiscal evasion with respect to taxes on income, signed at Washington on 6 November 2003.