On 20 December 2017, the European court of Justice decided in a preliminary ruling on the compatibility of Article 50d, par. 3 of the German ‘Einkommensteuergesetz’ (tax code) with Article 1, par 2 of the Parent-Subsidiary Directive 90/435/CEE from 23 July 1990 and the freedom of establishment (Art. 49 of TFEU).
The case was brought to the court’s attention by the Finanzgericht Köln (Finance Court, Cologne, Germany) and concerned two different companies. The first one, “Deister Holding”, previously “Traxx”, with its head office in the Netherlands, held participations in different companies established in various EU Member States.
The “Traxx” company held a 26,5% participation in the German company “Deitser Electronik GmbH”. On 19 November 2007, “Deitser Electronik GmbH” distributed dividends to “Traxx” and retained a part of the amount to pay the German tax on income from capital tax.
On 16 May 2008, to avoid a double taxation, Traxx applied to the German tax administration for an exemption from the tax on that distribution of dividends.
The tax authorities refused to grant an exemption on the basis of Article 50d, par. 3 of the German tax code which foresees that:
“‘A foreign company has no entitlement to complete or partial relief under subparagraphs 1 or 2 to the extent that persons have holdings in it who would not be entitled to the refund or exemption if they earned the income directly, and
(1) there are no economic or other substantial reasons for the involvement of the foreign company or;
(2) the foreign company does not earn more than 10% of its entire gross income for the financial year in question from its own economic activity or;
(3) the foreign company does not take part in general economic commerce with a business establishment suitably equipped for its business purpose.
The circumstances of the foreign company shall be the sole decisive factor; organisational, economic or other substantial features of undertakings that are affiliated with the foreign company (Paragraph 1(2) of the Außensteuergesetz (Foreign Transaction Tax Law)) shall not be considered. A foreign company does not have its own economic activity if it earns its gross income from the management of assets or assigns its main business activities to third parties. (…)”.
The Court begins by reminding that the Parent-Subsidiary Directive (Art. 1, par. 2) does not preclude the application of domestic or agreement-based provisions required for the prevention of fraud and abuse.
However, this limitation must be necessary (see terms of the disposition itself and the principle of proportionality in EU law), restrictively interpreted and must give rise to a case by case examination of each operation. The specific objective of the national legislation must also be to prevent conduct involving the creation of wholly artificial arrangements which do not reflect economic reality. A general presumption of fraud and abuse can then not be legally justified, in accordance with the CJEU’s case-law.
According to the Court, Article 50d, par. 3 of the German tax code creates such general presumption of fraud and abuse.
Therefore, the Court ruled that this provision of the German legislation is incompatible with Article 1, par. 2 of the Parent-Subsidiary Directive 90/435/CEE of the 23 July 1990.
The Court also analysed the German provision compared to the principle of freedom of establishment (Art. 49 of TFEU).
It concluded to a unjustified impediment to the freedom of establishment, and especially to the freedom to choose the appropriate legal form in which to pursue activities in another Member State.
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