The new rules, which we will discuss in more detail below, should be transposed into Dutch law by 30 June 2023 and come into effect as of 1 January 2024. It should be noted that EU Member States may already, well before 2024, apply the substance requirements described below when applying the principal purpose test or EU general anti-abuse rules.
Under the proposal (draft EU-Directive), entities engaged in an economic activity and resident in an EU-Member State that meet all of the following conditions will have a reporting obligation to the Tax Authorities:
- more than 75% of the revenues accruing to the entity in the preceding two tax years is relevant income;
- the entity is engaged in cross-border activity; and
- the entity outsourced the administration of day-to-day operations and the decision-making on significant functions in the preceding two tax years.
The proposal defines relevant income as:
- interest or any other income generated from financial assets;
- royalties or any other income generated from intellectual or intangible property or tradable permits;
- dividends and income from the disposal of shares;
- income from financial leasing;
- income from immovable property;
- income from movable property, other than cash, shares or securities, held for private purposes and with a book value of more than one million euro;
- income from insurance, banking and other financial activities;
- income from services which the undertaking has outsourced to other associated enterprises.
An entity is deemed to have at least 75% relevant income, if more than 75% of the total book value of the entity assets consists of shares (c), immovable property (d) or movable property as defined under (f).
When the tax liability of the beneficial owner(s) of the entity or its group as a whole is not reduced by the existence/interposition of the entity, an exemption from the reporting obligations that arise from this proposal may be granted if the tax payer provides sufficient evidence to demonstrate this.
Minimum substance requirements
A Dutch resident entity that has a reporting obligation and is not exempt, declares in its annual tax return whether it meets the following substance requirements:
- the entity has own premises in the Netherlands or premises for its exclusive use;
- the entity has at least one own and active bank account in the EU; and
- the majority of the (full-time equivalent) employees of the entity are tax resident of the Netherlands, or at no greater distance from the Netherlands insofar as such distance is compatible with the proper performance of their duties; and / or
- the directors of the entity (1) are tax resident of the Netherlands or at no greater distance from the Netherlands insofar as such distance is compatible with the proper performance of its duties, (2) are qualified and authorized to take decisions in relation to the activities that generate relevant income for the entity, (3) actively and independently use that authorization and (4) are not employees of an enterprise that is not an associated enterprise and do not perform the function of director or equivalent of other enterprises that are not associated enterprises.
The entity that violates the reporting obligation will receive a penalty of at least 5% of the entity’s turnover.
If the entity does not meet all the substance requirements, it shall be presumed not to have minimum substance, unless the entity can rebut this presumption by providing additional documents concerning the commercial rationale behind the entity, information about the employee profiles and concrete evidence that decision-making concerning activities generating relevant income is taking place in the Netherlands. An entity that does not rebut the presumption of not having minimum substance is treated as a shell entity.
Tax treatment of shell entities
When an entity qualifies as a shell entity, this will have the following tax consequences:
- EU Member States will not grant the benefits of any applicable tax treaty, the EU parent subsidiary directive or the EU interest and royalty directive to the shell entity.
- If the shareholder(s) of the shell entity is resident in another EU Member State, that Member State will tax the relevant income of the shell entity as if it had directly accrued to the shareholder(s). The shareholder’s member State will deduct any tax paid on the relevant income by the shell entity.
- If the payer of the relevant income and the shareholder of the shell entity are both resident in a EU Member State, benefits of the EU directives and tax treaties will be granted as if the payer directly pays the shareholder.
- If the payer is resident of a third country (a non-EU Member State) and the shareholder is resident of a EU Member State, the relevant income of the shell entity is taxed at the shareholder taking into account the relevant tax treaty between the third country and the EU Member State of the shareholder.
The tax consequences are illustrated by the following example. A Dutch entity (B) has a reporting obligation, does not meet all substance requirements and is not able to rebut the presumption of lacking minimum substance. The entity is therefore regarded as a shell entity. The shareholder of the Dutch shell entity (A) is resident in a third country (non-EU Member State). The shell entity holds a subsidiary in a EU Member State (C) and receives a dividend (relevant income) from its subsidiary.
Under the EU parent subsidiary directive, the dividend distribution from C to B is in principle exempt from dividend withholding tax. Based on the Commission’s proposal however, the EU parent subsidiary directive as well as the tax treaty between the EU Member State and the Netherlands cannot be applied. If there is a tax treaty between the EU Member State and the third country, the EU Member State will tax the dividend according to that treaty. In absence of a tax treaty, the dividend is taxed in accordance with the national law of the EU Member State.
In principle, the Commission’s proposal does not have effect if both the shareholder (A) of the shell entity (B) and the subsidiary (C) are resident of a third country, as EU regulations cannot force the third country to ignore the tax treaty it has concluded with the Member State of the shell entity. The new rules as introduced by the European Commission however no longer allow the residence state of a shell entity to provide a certificate of tax residence to the shell entity or only grant a certificate which prescribes that the shell entity is not entitled to tax treaty and EU directive benefits. Many countries require a residence certificate to obtain tax treaty benefits. The Commission’s proposal therefore, albeit indirectly, affects shell entities with a third country shareholder where relevant income is received from entities resident in a third country. Moreover, the European Commission will present in 2022 a new initiative to respond to the challenges linked to non-EU shell entities.
Exchange of information
Under the proposal, all information of shell entities will be exchanged automatically between EU Member States. Member States can make a request to another Member State for a tax audit of a broader group of entities that have a reporting obligation, but are not necessarily deficient in substance.